The Impact of Board Tenure on Company Performance

QMA’s research team studied the relationship between board tenure and firm market value on 3,000 companies over an 18-year period, and they found a significant correlation. They measured the data two ways: first by looking at market-to-book, and then at future stock returns.

For the market-to-book ratio, they found that longer average board tenure had a positive effect; however, only up to a point. After 8-9 years, the trend started to reverse itself and the value deteriorated. Also, the deterioration quickened in high growth firms.

When they looked at the relationship between board tenure and future stock returns, they found a similar result. However, “when an investment strategy went long on stocks of companies with long board tenure (an average of 12+ years) and sold companies with short board tenure (an average of less than 2 years), they found an anomaly: statistically significant abnormal returns of +0.31% per month.

Lesson learned: Long-term board commitments of up to 9 years serve the company best.

There are no laws limiting board tenure in the U.S., according to the National Association of Corporate Directors. And according to SpencerStuart, just 3% of companies actually set term limits for board members, the NACD says. Also, no term limit was less than 10 years. And last year, the NACD reports that 20% of U.S. corporate boards in the S&P 500 had an average director tenure of at least 11 years. So what does that say for market value and future stock returns? According to QMA, board directors would have overstayed their welcome by 1-2 years.

More common, the NACD notes, is that boards have mandatory retirement ages. They further state that over the last 10 years, the percentage of boards with mandatory retirement ages of 75 or older has increased from 3% to 24%, while the percentage of boards with a mandatory retirement at age 70 decreased from 51% to 11%.

So what is a public company to do? QMA observes that longer tenure of board members allows them to learn more information about the operations of the company, makes it easier for them to understand financial reports and, as a result, provide more informed advice to the management team. However, they state, some studies of the relation between tenure and advisory function of the board hypothesize that board members might become complacent and stop learning about the firm’s operations the longer they stay on board. This is a basic cause of groupthink.

Lesson learned: In conclusion, QMA reports that companies should pay close attention to the value derived from board tenure, and should not ignore early warning signs of complacency.

With activist investors watching boards with eagle eyes, the real moral of the story here is that companies need to stay one step ahead of everyone and everything that affects the bottom line, board terms included.