Board Composition and Shareholder Wealth: The Case of Management Buyouts

There is an inherent conflict of interest between managers and shareholders when all or part of a public corporation is taken private and managers become major shareholders in the newly privatized firm. The role of outside directors who are independent of management is investigated to determine whether they ensure that shareholder interests are well-served. Our empirical investigation indicates that when the entire firm is taken private, abnormal returns for sellers are substantially higher for firms with boards that are dominated by independent outside directors than for firms that are not. In these transactions, the level of inside director ownership of shares is also significant in promoting shareholder wealth. For unit management buyouts, where the unit managers are seldom board members, board composition and inside director ownership appear to have no systematic effect on abnormal returns.