Did Board Configuration Matter? The Case of US Subprime Lenders

Abstract

Manuscript Type: Empirical Research Question/Issue: The origins of the global financial crisis have been attributed to the combination of a housing price bubble and innovative financial instruments, as well as the lack of restraint by corporate executives and boards to engage in excessive risk-taking. The rise in subprime lending between 1997 and 2005 played a crucial role in inflating the housing price bubble. We take a unique dataset of US financial institutions heavily engaged in subprime lending and ask the following research question: Did board configuration play a role in determining whether a financial institution specialized in subprime lending? Research Findings/Insights: We use a matched-pair sample of firms in the financial industry from 1997-2005 with half of the sample specializing in subprime lending and conduct panel data logistic regression analysis. We find that the board configurations of those financial institutions that engaged in subprime lending were significantly different from those that did not. Specifically, subprime lenders had boards that were busier, had less tenure, and were less diverse with respect to gender. Theoretical/Academic Implications: This study uses the group decision making perspective in the context of subprime lending to examine board of director configuration and its influence on decision making processes around the issue of risky subprime lending. Findings show that how boards were configured did influence the decision to specialize in subprime lending. We find robust support for predictions based on the group decision making perspective. Practitioner/Policy Implications: The deterioration of mortgage lending requirements that gave rise to the defaults of so many subprime loans, in retrospect, appears to be something that should have been entirely preventable. By demonstrating that subprime specialists had significant differences in board configuration that impacted group decision making, this study offers guidance to policymakers considering additional regulation and for corporate officers examining corporate governance issues.

Women in Upper Echelons of Management, Tenure and Legal Risk

“…This negative correlation appears to hold well, irrespective of size, sector and ownership, for established companies as well as for newly incorporated companies. Similarly, recent studies following the 2008 financial crisis also suggest that upper managements with more women engaged less in sub‐prime loans (Muller‐Kahle and Lewellyn, ) and relied less on TARP funds (Bansak, Graham and Zebedee, ).…”

“…Instead, most studies have used variables such as age, functional background, educational background and tenure (Bantel and Jackson, ; Finkelstein and Hambrick, ) in the study of firm risk behaviours such as innovation and international diversification. Furthermore, previous literature examining the risk propensity of women in strategic settings yielded inconsistent results, possibly due to the lack of incorporation of interacting group demographic variables (Johnson and Powell, ; Maxfield et al ., ; Muller‐Kahle and Lewellyn, ). Indeed, Huse () argued that studies should focus on the effects of women on intermediate organizational outcomes and take into account group dynamics.…”

Corporate Governance of Banks: A Survey

“…Muller‐Kahle and Lewellyn () examine whether the configurations of board of directors are related to heavy involvement in subprime lending. Using a matched‐pair sample of firms in the financial industry from 1997 to 2005 and conducting panel data logistic regression analysis, they find that subprime lenders had boards that were busier.…”

Relation between Top Executive Compensation Structure and Corporate Governance: Evidence from Japanese Public Disclosed Data

“…For G8 countries, Yeh, Chung, and Liu () reported that compensation committee independence is helpful for reducing excess managerial risk taking for financial institutions. Muller‐Kahle and Lewellyn () found that the institution of multiple outside directors in financial institutions was associated with more sub‐prime lending for US financial institutions that had established committee systems.…”