Despite their paper's provocative title, the three think corporate governance matters. But "after puzzling over reams of company numbers, they are not confident that anyone can measure whether one firm's governance is better than another's, at least not by using typical metrics," according to the statement.
"Our overall conclusion is that the typical structural indicators of corporate governance used in academic research and institutional rating services have a very limited ability to explain managerial decisions and firm valuation," the three said in their paper. By structural indicators, they are referring to whether a company has a lot of insiders on its board or whether a board's chairman is also the company's chief executive officer.
"In theory, these facts point to ‘bad' governance because they suggest that managers control a firm and can enrich themselves, with impunity, at the expense of outside shareholders," according to the statement.
"We set the study up to err on the side of, ‘The relationship between governance measures and good performance is there,'" Ms. Tuna said in the statement. "And we can't even find it when we do that. We biased the analysis in favor of finding something. The structural indicators just don't seem to have that much ability to explain whether companies have to do accounting restatements, whether they're selling at a higher multiple, whether they're manipulating earnings and things like that."
The authors believe that in theory, better-governed firms should perform better. But they believe "it's difficult to use strictly numerical tools to assess what really drives managers' conduct."
"We believe that if we had some psychological way to go in and assess people — ‘Is this a good person or a bad person? Do they have high ethics or low ethics?' — that that would be extremely useful," Mr. Larcker said in the statement. "Maybe we could develop a psychological map. But virtually all the work done on this by consultants and the preponderance of work by academics uses measures that are a level removed from that."
"In the absence of effective measurement tools, investors who are trying to assess firms' governance have to do it the old-fashioned way," the authors believe. "That is, they have to do their homework, examining companies one at a time."
Mr. Larcker, Ms. Tuna and Mr. Richardson evaluated the sorts of indicators perceived by many investors as important in determining a company's external valuation by the market or debt rating agencies.
Among the indicators, the "appointment of a non-executive director as a lead director is expected to create an additional monitoring benefit on incumbent management," they noted.
But "no matter how they parsed the data," the authors "didn't uncover any strong, consistent relationship," the Wharton statement noted. "In many cases, they even saw the opposite of what one might expect, finding for example, that companies with big boards report smaller abnormal accounting accruals."
"This is inconsistent with prior literature that suggests big boards are ‘bad,' " the authors pointed out in their paper.