Corporate Misconduct Can Cost Outside Directors Seats on Other Boards

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Nov 04, 2010, 10:00 ET

NEW YORK, Nov. 4, 2010 /PRNewswire/ -- In addition to potential legal and reputational liability, the outside directors of companies that become involved in corporate misconduct lawsuits risk losing opportunities to serve on other boards, according to a report released today by The Conference Board (http://www.conference-board.org).

The report, Corporate Misconduct and the Market for Directorships, is the most recent installment of The Conference Board Director Notes series. It analyzes the changes in directorships held by outside board members of 113 public companies involved in a shareholder class-action lawsuit alleging the misrepresentation of information to investors. The study, analyzing the period 1996-2005, tracks directorship changes for three years after the initiation of litigation to account for staggered director elections, and uses information from proxy statements to identify director turnover.

"With corporate board responsibilities increasing, most directors are preoccupied with the potential legal liability arising from performance of their duties," said Matteo Tonello, Director of Corporate Governance Research at The Conference Board. "This study sheds new light on the equally important reputational risks of having your name associated with a company investigated or sued for fraud or financial misrepresentation, and reinforces the need for sound risk management."

Within three years of litigation, 83.2 percent of outside directors remain on the board of the public company involved in the lawsuit, the study found. Related research shows that outside directors in firms involved in litigation do not appear to turn over any more frequently than the average among all outside directors. However, outside directors whose companies are involved in litigation appear to experience reduced opportunities to serve on other companies' boards. The average number of board seats held by these individuals at other companies drops from 0.95 in the year prior to the litigation to 0.47 three years after the suit is filed. More specifically, within three years:

96.3 percent of directors who hold one board position in addition to the seat on the sued firm's board lose the additional directorship.
79.2 percent of directors who hold two other board positions lose both other directorships.
48.6 percent of directors who hold three or more other board positions lose all directorships.

"For these reasons, the due diligence performed by directors on current and prospective board positions should extend not only to legal liability exposure but also to the possibility of losing valuable opportunities for board membership at other firms," says Jason Schloetzer, Assistant Professor of Accounting at Georgetown University's McDonough School of Business and author of The Conference Board report. "In the current litigation environment, it is particularly important for the board to demonstrate to shareholders (and the judicial system) that any failure to prevent or discover corporate misconduct took place in spite of the rigorous performance by the board of its oversight duties, including the establishment of a state-of-the-art compliance program."

Source: Corporate Misconduct and the Market for Directorships

Director Notes, No. DN-16, November 2010, The Conference Board

About Director Notes

Director Notes is a series of online publications in which The Conference Board engages experts from several disciplines of business leadership, including corporate governance, risk oversight, and sustainability, in an open dialogue about topical issues of concern to member companies. The opinions expressed in this report are those of the author(s) only and do not necessarily reflect the views of The Conference Board. The Conference Board makes no representation as to the accuracy and completeness of the content. This report is not intended to provide legal advice with respect to any particular situation, and no legal or business decision should be based solely on its content.

About The Conference Board

The Conference Board is a global, independent business membership and research association working in the public interest. Our mission is unique: To provide the world's leading organizations with the practical knowledge they need to improve their performance and better serve society. The Conference Board is a non-advocacy, not-for-profit entity holding 501 (c) (3) tax-exempt status in the United States.

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