Diversity of expertise and the impact on Australian boards

This month’s highlights from our Governance Leadership Centre where we showcase research from around the world.

The value of diversity on boards has long been a hot topic in boardrooms, with the Australian Institute of Company Directors at the forefront of the debate. Controversially, recent research suggests that too much professional diversity on corporate boards may be associated with negative firm value and performance.

The paper, The diversity of expertise on corporate boards in Australia, investigated whether there is a positive relationship between diversity of professional expertise on boards and firm value.

The researchers, from the University of Queensland Business School and Illinois State University College of Business, analysed a cross-section of data collected from 8,791 directors across 1,548 ASX-listed firms during 2007, and an event study that evaluated stock market reactions to new director appointments during 2004 – 2007.

Directors were categorised into the following two groups:

• Specialist business expertise: including lawyers, consultants, accountants, bankers and other CEOs.
• Other expertise: including executives, scientists, engineers, politicians, academics and medical doctors.

While the researchers found no overall relationship between professional diversity and firm value, they made a number of findings about how the two groupings of professional expertise related to firm value and performance:

• Shareholders benefit when boards have specialist business expertise. The researchers found that the expertise of lawyers, consultants, accountants, bankers and other CEOs on boards is valued more by shareholders than any other type of expertise. They found that shareholders react positively to such directors being appointed to the board, particularly in the energy and materials industries. The researchers suggested that if boards do not have directors with specialist business expertise, they should diversify their boards to include such directors.
• Firm value and performance is lower if firms diversify beyond specialist business expertise. The researchers found that broader diversity beyond lawyers, consultants, accountants, bankers and outside CEOs is associated with lower firm value and performance.

It is important to note the study’s limitations. For example:

• It focuses on data from 2007. Accordingly, it does not fully address how expertise needs may change over time, including in varying economic conditions and over different stages of a company’s lifecycle.
• There does not appear to be a clear rationale for the chosen groupings of professions.
• It does not evaluate the effectiveness of any particular type of professional expertise on firm performance or value.

The upside

Other studies have pointed to the benefits of broader professional expertise on boards.

A team of university researchers in the US examined the performance of more than 2,000 companies from 1998 to 2011. The study found that more diverse boards (including boards with diverse expertise) were more likely to pay dividends to shareholders and less prone to risk taking than homogenous boards. The study is yet to be published.

Executive search firm Spencer Stuart has suggested that diverse professional expertise plays a key role in the pre-IPO process. It suggests that companies which have plans to list publicly should consider establishing boards which include directors with strategic, financial, digital and international business expertise.

PwC has recently released its 2015 Annual Corporate Directors Survey, which contains a section on board composition and diversity. The PwC Report examined the responses of 783 public company directors and found that the most desirable director attributes were financial expertise (91 per cent), industry expertise (70 per cent), operational expertise (66 per cent) and risk management expertise (62 per cent).

The Governance Leadership Centre is a resource centre that champions new thinking with the aim of driving organisational performance. Visit AICD’s website for more information.