2002 - Hillman - The Resource Dependence Role of Corporate Directors Strategic Adaptation of Board

Journal of Management Studies 37:2 March 2000
0022-2380
THE RESOURCE DEPENDENCE ROLE OF CORPORATE

DIRECTORS: STRATEGIC ADAPTATION OF BOARD
COMPOSITION IN RESPONSE TO ENVIRONMENTAL CHANGE
A J. H
University of Western Ontario
A A. C, 
R L. P
Texas A&M University

Most research on corporate directors has focused on two roles: agency and
resource dependence. While these two roles are theoretically and practi-
cally distinct, previous research has used the same classification scheme for
measuring board composition regardless of role examined. Our paper examines
the resource dependence role of directors and posits that the widely used
insider/outsider categorizations do not adequately capture this role of directors.
A taxonomy of directors is presented specifically for studying the resource depend-
ence role. We then apply the taxonomy to a sample of US airline firms
undergoing deregulation, and examine how board composition changes parallel
the changing resource dependence needs of the firms. We conclude that the
board’s function as a link to the external environment is an important one, and
that firms respond to significant changes in their external environment by altering
board composition.

Boards of directors have received considerable attention recently, both in practi-
tioner and academic venues. A large body of literature examines the agency role
of directors, referring to the governance function in which directors serve share-
holders by ratifying the decisions of managers and monitoring the implementa-
tion of those decisions (Baysinger and Butler, 1985; Baysinger and Hoskisson,
1990; Daily and Dalton, 1994a, 1994b; Fama and Jensen, 1983; Goodstein and
Boeker, 1991; Lorsch and MacIvor, 1989; Mizruchi, 1983; Tushman and
Address for reprints: Amy J. Hillman, Ivey Business School, University of Western Ontario, London,
ON N6A 3K7, Canada.
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236 . . , . .   . . 
Romanelli, 1985). The agency role has also been termed the control role of boards
by Johnson et al. (1996), the management control model (Boyd, 1990; Drucker,
1981; Mace, 1971), and the corporate control role (Pearce and Zahra, 1992; Zahra
and Pearce, 1989), all of which focus on the important monitoring and governance
function of boards.
Another distinct role that directors play is that of providing essential resources
or securing those resources through linkages to the external environment (Boyd,
1990; Daily and Dalton, 1994a, 1994b; Gales and Kesner, 1994; Johnson et al.,
1996; Pearce and Zahra, 1992; Pfeffer, 1972; Pfeffer and Salancik, 1978; Zahra
and Pearce, 1989). Resource dependence theory proposes that corporate boards
are a mechanism for managing external dependencies (Pfeffer and Salancik, 1978),
reducing environmental uncertainty (Pfeffer, 1972) and reducing the transaction
costs associated with environmental interdependency (Williamson, 1984). Accord-
ing to Pfeffer and Salancik (1978), boards are ‘vehicles for co-opting important
external organizations’ (p. 167).
Much of the research on boards has examined board composition (Barnhart et
al., 1994; Bathala and Rao, 1995; Boyd, 1990; Daily and Dalton, 1994a, 1994b;
Daily and Schwenk, 1996; Gales and Kesner, 1994; Johnson et al., 1996; Pearce
and Zahra, 1992; Weisbach, 1988). However, most of this work has used a tradi-
tional agency method of classifying directors (e.g. insiders and outsiders; or insid-
ers, independent outsiders, and outsiders who have some form of dependence on
the firm) regardless of whether the role of interest is agency or resource depend-
ence. In this paper, we assert that because the two roles of directors, agency and
resource dependence are theoretically and practically distinct, the salient attrib-
utes and characteristics used to examine board composition should similarly be
distinct. Specifically, we posit that the common insider and outsider definitions
(and the several variants of outsiders used in previous literature) are appropriate
in studying the agency role, but are less valuable in understanding the resource
dependence role. One objective of this paper is to present a taxonomy for classi-
fying directors that reflects the resource dependence role as distinct from the
agency role.
After presenting the resource dependence taxonomy we explore the role of
resource dependence by examining the changing nature of board composition in
an industry undergoing a major environmental change. If, as Pfeffer (1972) asserts,
a board’s composition reflects the firm’s external dependencies, we would expect
to see strategic changes in board composition as a firm’s environment changes sig-
nificantly. The environmental change we study here is the deregulation of a
highly regulated industry: US air travel. Under regulation, airlines’ major uncer-
tainties arose from federal regulators, who influenced everything from flight
schedules to maintenance requirements to ticket pricing. However, this also meant
that federal regulations created many certainties for the industry in that many
aspects of the external environment were controlled or strongly influenced by
regulators. Therefore, the airlines’ major dependency in the environment was the
regulatory body. After US deregulation in 1978, the major uncertainties began to
shift toward non-regulatory sources, such as competitors and consumers, thus
increasing the number and scope of environmental dependencies and prompting
the firms to alter their board structures to better align them with the new
dependencies.
© Blackwell Publishers Ltd 2000

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 :    
As noted earlier, much of the literature on board composition has focused on the
agency role of the board of directors. In this role, directors act as fiduciaries of
shareholders, serving to alleviate or reduce the problems associated with the
separation of ownership and control in public corporations by acting to ensure
that the actions of managers serve the interests of shareholders (Fama and Jensen,
1983; Jensen and Meckling, 1976). For example, when the strategies of incumbent
managers are ineffective, directors are expected to take action, replacing managers
if necessary to improve performance. This line of reasoning asserts that directors
who are insiders, either managers or employees of the firm, are more inclined to
side with management interests in the tension caused by the separation of own-
ership and control. On the other hand, outsiders, or directors who are not current
or past owners or employees of the firm, may better protect the interests of share-
holders because they can be more dispassionate in their evaluation of ongoing
strategies.
More recently, however, scholars have questioned the ability of the insider/out-
sider distinction to capture the independence of outside directors (Daily and
Dalton, 1994b). For example, MacAvoy et al. (1983), Baysinger and Butler
(1985) and Weisbach (1988) classify directors as outside, inside or grey, with
grey directors being those directors who are not employees or managers, but who
may not be independent of current management because of business dealings
with the company or family relationships with management. Grey directors are
similar to the affiliated directors category used by Barnhart et al. (1994), Pearce
and Zahra (1992) and Johnson et al. (1996) in reference to directors who have
some affiliation with the corporation, officers of firms that do business with the
corporations, relatives of an officer, former executives, employees or consultants.
Yet another refinement of the outsider category is used by Daily and Dalton
(1994a, 1994b, 1995) who identify independent directors, referring to those
directors who were appointed to a board prior to the incumbent chief executive
officer’s appointment. These refinements, regardless of the varying labels and
measurement methods, are attempts to gauge director willingness to uphold share-
holder interests even when doing so would threaten incumbent management or
ongoing strategies. This distinction becomes salient because dependent or inter-
dependent directors, even though they are not employees of the firm, may have
been co-opted by management and therefore be less effective in upholding share-
holder interests.
Despite the various categories used to disaggregate outside directors into truly
independent and dependent categories, these classification schemes are based on
the underlying logic of the agency role: that manager and shareholder interests
may diverge and the board is a mechanism for aligning those interests through the
monitoring and ratifying of management decisions. Essentially, the agency role boils
down to monitoring – agency problems are best alleviated by having objective
directors who are not dependent on the firm for employment, sales or other
benefits. However, when one examines the other role of directors, the resource
dependence role, agency-based classification schemes seem less appropriate.
The resource dependence role of directors is theoretically distinct from the
agency role although directors may perform both roles simultaneously ( Johnson

238 . . , . .   . . 
et al., 1996). In the resource dependence role, directors serve to connect the firm
with external factors which generate uncertainty and external dependencies. In
order to survive, organizations must cope effectively with uncertainty (Alchian,
1950; Pfeffer and Salancik, 1978; Thompson, 1967). Uncertainty clouds the orga-
nization’s control of resources and choice of strategies, and impedes simple day-
to-day functioning. Effective coping with uncertainty leads to power (Pfeffer and
Salancik, 1978) and, ultimately, increased survival likelihood (Singh et al., 1986).
Thus, by having directors who serve to link the organization with its external
environment, a board may act to reduce uncertainty.
But, in the resource dependence role, directors may do more than reduce uncer-
tainty. Directors also bring resources to the firm, such as information, skills, access
to key constituents (e.g. suppliers, buyers, public policy decision makers, social
groups), and legitimacy (Gales and Kesner, 1994). The extent to which directors
benefit the firm depends on whether their inclusion provides access to valued
resources and information, reduces environmental dependency, or aids in estab-
lishing legitimacy (Daily and Dalton, 1994a). Some support has been found in pre-
vious research for the effectiveness of boards in resource acquisition (Boeker and
Goodstein, 1991; Zald, 1969). In addition, support has been found for the asser-
tion that directors may enhance the reputation and credibility of their firms (Daily
and Schwenk, 1996; Hambrick and D’Aveni, 1992).
One potential result of linking the firm with external environmental factors and
reducing uncertainty is a reduction in transaction costs associated with the firm’s
external linkages. For example, having an outsider director who possesses regula-
tory expertise or knowledge may not only reduce uncertainty through a gain in
information and expertise, but may also reduce the transaction costs associated
with the regulatory agency. Information supplied by this director about the bidding
process for government contracts, the appropriate personnel to contact, or influ-
ence over proposed regulation may actually reduce the costs of transactions
between regulators and the firm, giving the firm a cost advantage over rivals. Thus,
in addition to the benefits of reduced uncertainty and easier acquisition of
resources, directors may also reduce the transaction costs associated with the inter-
dependencies between the firm and various institutions in the environment
(Williamson, 1984).
One of the basic propositions of resource dependence theory is that the need
for environmental linkage is a direct function of the levels and types of depend-
ence facing an organization. Thus, using the classification scheme of insiders and
outsiders, one might reason that as environmental dependencies and environ-
mental uncertainty increase, the need for external linkages increases and more out-
siders would be needed on the board. Therefore, the theory predicts a relationship
between the degree of uncertainty or dependency and the composition of the
board as measured by the number or proportion of outside directors or the size
of the board. This relationship was confirmed by Pfeffer and Salancik (1978), Pen-
nings (1980), Boyd (1990) and Gales and Kesner (1994). But, at this level of clas-
sification, all we can assert from these findings is that firms facing different levels
of uncertainty and environmental dependency will tend to have different sizes of
boards or mixes of outsiders and insiders, or, that across time as environments
change, board size or the ratio of outsiders to insiders will vary.
While these results confirm some of the logic behind the resource dependence
role of the board, they cannot explain how board composition will vary other than
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in size or in outsider to insider ratios. Because each director, especially each outside
director, brings different linkages and resources to a board, resource dependence
theory would also suggest that underlying patterns of board composition more
finely grained than an insider/outsider distinction will be observed. Pfeffer’s (1972)
original work in this area indicated that outside directors are heterogeneous
and he finds systematic differences across environments for directors representing
financial institutions. However, this further distinction among outside directors has
not been adopted by other researchers. In the following section we discuss an
expanded classification scheme for outside directors to better understand their
resource dependence role.
      

As discussed above, each director brings to the organization unique attributes
(Kesner, 1988; Kosnik, 1990). By observing these attributes, we can predict what
kinds of resources a given director is likely to bring to the board. Aside from matu-
rity, leadership and analytical judgement, which are expected of all directors, dif-
ferences among directors are perhaps most visible in terms of their individual
experience or occupational attributes (Baysinger and Butler, 1985). These differ-
ences reflect the heterogeneity of resources such as expertise, skill, information and
the potential linkages to other external constituencies. This line of reasoning cor-
responds to that used by Hambrick and Mason (1984) in their discussion of the
linkage between the characteristics of executives and the strategies and decisions
the executives derive and implement, and is also similar to that of Westphal and
Zajac (1997) who use the personal experiences of executives to predict what kinds
of initiatives they will support as outside directors.
In terms of a firm’s need for resources from the external environment, some
general groups of expertise and linkages may be identified. First, inside directors
serve on boards largely to provide firm-specific information (Fama and Jensen,
1983). Thus, while each inside director may have specific types of expertise as well
as specific relationships or linkages with environmental contingencies, the primary
resource each provides is internally focused. Outside directors, however, primarily
provide resources needed to deal with external factors. Pfeffer and Salancik (1978)
assert that there are four primary benefits that result from environmental linkages
such as boards: (1) provision of specific resources, such as expertise and advice from
individuals with experience in a variety of strategic areas; (2) channels for commu-
nicating information between external organizations and the firm; (3) aids in obtain-
ing commitments or support from important elements outside the firm; and (4)
legitimacy (Pfeffer and Salancik, pp. 145 and 161). We see these four primary ben-
efits relating to specific areas of resource needs that may be met by including out-
siders on a board. We developed a taxonomy of directors by linking Pfeffer and
Salancik’s list of benefits with some commonly observed characteristics of directors
among large public corporations. Table I provides an overview of a resource depen-
dence taxonomy. This taxonomy has been largely influenced by the work of
Baysinger and Zardkoohi (1986) yet differs in terms of theoretical underpinnings
and category definition.[1] In the first column, we provide the descriptive label we
used for the class of director. The second column outlines the kinds of resources
and linkages which the director is expected to bring to the board, and the third
240 . . , . .   . . 
Table I. The resource dependence roles of directors
Director category label Areas of resource needs provided Types of directors in category
Insiders Expertise on the firm itself as well as general Current and former officers
strategy and direction of the firm
Specific knowledge in areas such as finance
and law
Business experts Expertise on competition, decision making Current and former senior
and problem solving for large firms officers of other large
Serve as sounding boards for ideas for-profit firms
Provide alternative viewpoints on internal Directors of other large
and external problems for-profit firms
Channels of communication between firms
Legitimacy
Support specialists Provide specialized expertise on law, banking, Lawyers
insurance and public relations Bankers (commercial and
Provide channels of communication to large investment)
and powerful suppliers or government Insurance company
agencies representatives
Ease access to vital resources, such as Public relations experts
financial capital and legal support
Legitimacy
Community Provide non-business perspectives on issues, Political leaders
influentials problems and ideas University faculty
Expertise about and influence with powerful Members of clergy
groups in the community Leaders of social or
Representation of interests outside community organizations
competitive product or supply markets
Legitimacy
column identifies the characteristics of directors who would fall under the category.
We have included insiders as the first row, though the bulk of our discussion empha-
sizes outside directors. Each category of director is discussed separately below.
Insiders
These are directors who serve currently or have served in the past as active man-
agers, employees or owners of the firm. This definition is consistent with prior
research that has divided the board into insiders and outsiders cited in our earlier
review. While insiders may have varying attributes that could supply valuable
resources from the external environment, this role is not a primary rationale
behind their directorship. As such, we view insiders as supplying the board with
information about the firm itself and about its competitive environment, and we
group all insiders together. We note, however, that future research on directors as
resource providers could unpack the insider category. For example, many large
firms provide director positions for the chief financial officer and the general
council, positions requiring very specific and identifiable expertise.
Business Experts
These are similar to Baysinger and Zardkoohi’s (1986) decision controllers. They
are directors who are active or retired executives in other for-profit organizations,
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and directors who serve on other large corporate boards. These directors bring
expertise and knowledge to the firm as a result of their experience in internal deci-
sion making in other firms. Because these directors serve as executives in other
organizations, they bring a working knowledge of strategic decision making and
internal firm operations. As such, they may serve as sounding boards for execu-
tives, providing advice and council on internal operations (Mace, 1971). Further,
their experience outside the firm permits them to supply alternative viewpoints on
internal issues, providing executives with valuable information about how other
firms deal with similar problems and concerns.
Aside from their role in internal operations, another important role of business
experts derives from expertise which is directly relevant to the market or com-
petitive environment that the firm faces. Business experts may facilitate effective
evaluation of management proposals, in part, by providing valuable advice as
strategies are formulated (Fama and Jensen, 1983; Johnson et al., 1996). This cat-
egory of directors is best suited to meet the need of expertise in and linkages to
critical interdependence in the competitive environment. We add that directors of
this category, as well as all other categories, serve to build legitimacy for the firm.
Legitimacy is not the emphasis of our taxonomy, in that each type of director
provides some type of legitimacy for the organization, but a business expert’s in
providing legitimacy would be assessed by noting the prestige associated with the
director’s work experiences or other affiliations.
Support Specialists
These are similar to Baysinger and Zardkoohi’s (1986) decision supporters. They
are directors who provide expertise and linkages in specific, identifiable areas that
support the firm’s strategies but do not form the foundation on which the strategy
is built. These individuals provide support for senior management in areas requir-
ing specialized expertise such as capital markets, law, insurance and public rela-
tions. As such, their role is primarily to meet the need for specialized expertise and
linkages to support organizations outside the firm’s product markets, such as finan-
cial institutions, law firms, public relations firms and so forth.
Support specialists are differentiated from business experts in that they lack
general management experience. Rather, these individuals bring specific expertise
and/or access and information about environmental contingencies and provide
support for the competitive strategy of the firm. Support specialists may directly
help to secure commitment from external organizations, as described by Pfeffer
and Salancik (1978). For example, having a member of a financial institution
serving as a director may communicate that the firm is in need of capital and that
the needs and concerns of capital suppliers are important to the firm. This could
represent the first step toward securing essential capital resources. As with all of
our categories, support specialists may also provide legitimacy to the firm in
the symbolic value of having such support function expertise represented on
the board.
Community Influentials
These are similar to Baysinger and Zardkoohi’s (1986) symbolic directors. They
are directors with experience and linkages relevant to the firm’s environment
beyond competitor firms and suppliers. Community influentials include directors
who possess knowledge about or influence over important non-business organiza-
242 . . , . .   . . 
tions, and includes retired politicians, university or other institutional representa-
tives, and officers of social organizations. The resources supplied by community
influentials do not stem from direct experience in controlling other large organi-
zations operating in similar environments, but rather from knowledge, experience
and connections to community groups and organizations (Baron, 1995), such as
social interest groups or movements, or other community constituencies that may
impact or be impacted by the firm’s operations and strategic choices. These direc-
tors can provide valuable non-business perspectives on proposed actions and strate-
gies. Their expertise and influence with community forces can help the firm to
avoid costly mis-steps when its actions might inadvertently conflict with the inter-
ests of these groups. Essentially, community influentials serve as vehicles of co-
optation for the organization (Pfeffer and Salancik, 1978) in that they are included
on a board of directors ‘as a means of averting threats to its stability or existence’
(Selznick, 1965, p. 13). Like other classes of directors, community influentials serve
to legitimate the firm, and the level of prestige associated with a community influ-
ential director could be used to measure the extent to which he or she brings
legitimacy to the firm.
        

   
Changes in the environment are often associated with changes in corporate strat-
egy. Theorists have long argued that organizations respond to changes in their
environments by initiating strategic change (Child, 1972; Pfeffer and Salancik,
1978; Singh et al., 1986; Tushman and Romanelli, 1985). Empirical research has
provided evidence to support the theory that changes in a firm’s environment such
as shifts in regulatory (Meyer, 1982; Smith and Grimm, 1987) and technological
environments (Pugh, 1981) motivate important strategic changes in organizations.
Mizruchi (1983) noted that a company’s board is in a position to establish the para-
meters within which strategic decision making occurs. Goodstein and Boeker
(1991) argued that the composition and control emphasis of a board of directors
will motivate management toward the adoption of specific strategies. As the board
of directors may intervene in strategy and decision-making arenas, the board
will actively be involved in any significant changes in strategy (Tushman and
Romanelli, 1985). Thus, a change in the environment leads to a change in cor-
porate strategy, which in turn may be facilitated through a change in the compo-
sition of the board of directors.
As mentioned above, resource dependence theory asserts that as a firm’s exter-
nal environment changes, so does the need for linkages with that environment.
Therefore, the composition of the board may be strategically altered in order to
provide the benefits of reduced uncertainty for firms in a different environment
and to facilitate strategic change. Also, if directors act to link the firm with its
external environment and the environment shifts significantly, the effectiveness of
linkages may need to be re-evaluated.
In order to study patterns of board composition across different environments,
however, we must specify the environments of interest. As noted earlier, this paper
is an attempt to further our understanding of the resource dependence role
of directors by using a more fine-grained approach, one that should reveal pat-
   243
terns in board composition and strategic adaptation of such composition across
environmental conditions. That is, while the four categories developed above
capture the central resources and linkages that contribute to the resource de-
pendence role, the relative need for directors in each category will vary based on
the environment.
One environmental transition that makes it possible to study the resource depen-
dence role of directors and board composition across environments is the change
from regulation to deregulation (Lang and Lockhart, 1990; Mahon and Murray,
1981; Spiller, 1983). Here, regulation refers to economic regulation defined by
Mahon and Murray (1981) as regulation directly affecting the competitive dy-
namics of a specific industry by limiting competitor exit and entry, setting prices
or services, and imposing constraints on rivalry. When such an industry is faced
with deregulation, firms are confronted with a need for strategic change. Under
regulation, firms are limited in the strategies available to them (Smith and Grimm,
1987). Prices and market entry and exit are heavily influenced or even dictated by
regulators. In addition, regulatory agencies typically attempt to ensure adequate
but not excessive profits. As a result, the incentive to be internally efficient may be
reduced for regulated firms because the regulators often serve to decouple the link
between internal efficiency and profitability (Smith and Grimm, 1987).
Regulation also shifts some decision-making and planning functions away from
managers and toward public officials and shifts managerial emphasis away from
customers and toward the regulatory body. Under regulation, the regulatory
agency serves a buffering role, ensuring a stable environment and making
strategic planning less necessary (Mahon and Murray, 1981). For example, regu-
latory boards attempt to protect consumers by setting prices and other operational
standards. In addition, the financing of regulated firms is often less risky than that
for unregulated firms as the oversight mechanisms and price and profit controls
set by regulators are established and stable. As the environment changes from
regulation to deregulation, new sources of uncertainty arise as firms are no longer
protected from competition. When regulation is removed, firms must re-evaluate
strategic decisions and directions, so the change in environmental conditions will
eventually lead to changes in strategy. Firms in the newly deregulated environment
have no history of competitive interaction and are accustomed to more of a
friendly rivalry. They do not know how to read each other’s moves and destruc-
tive competition is likely to result (Gimeno, 1994). When the environment changes,
the old links between the environment and the organization may no longer be sat-
isfactory and therefore these links must be redefined, renegotiated or terminated
(Mahon and Murray, 1981). For example, Lang and Lockhart (1990) argue that
as an industry is deregulated, a change in board interlocks may be expected as a
result of environmental change. We would agree that a change is needed, but what
specific changes does resource dependence theory predict?
The argument advanced by Pfeffer (1972) and re-asserted here is that the com-
position of the board of directors should reflect a firm’s external environment.
Both Pfeffer (1972) and Baysinger and Zardkoohi (1986) tested this proposition by
examining (cross-sectionally) firms in different environmental contexts and both
studies reported differences in board composition across environmental contexts.
If the composition of boards is a reflection of the external environment, then, as
a firm’s environment changes, board composition should change as well. In addi-
tion, if directors serve to reduce environmental uncertainty, the importance of
244 . . , . .   . . 
individual attributes will be differentially affected by changes in the environment.
Therefore, as a firm experiences a significant change in its external environment,
the pattern of board composition should correspondingly change as well. Below,
we discuss the implications of deregulation for each of the four categories of direc-
tors listed in table I.
Insiders
Regulatory agencies control many important strategic issues faced by regulated
firms. For example, market entry, exit, prices and profit levels are often determined
by regulatory agencies and these decisions substantially impact the competitive
environment that regulated firms confront. Because regulatory agencies exert a
great influence over factors such as these, the shift to deregulation implies that the
firms must establish internal mechanisms to deal with issues formerly handled by
regulators. Therefore, the need for decision making by boards among regulated
firms is less than that among unregulated firms because many strategic options are
precluded or restricted for regulated firms.
Inside directors serve to provide firm-specific information to the board ( Jensen
and Meckling, 1983). Resource dependency theory would hold that the primary
duty of insiders serving on the board of directors is to supply this information to
the board (or, in the case of regulation, to the regulatory agency), not to serve as
linkages to environmental dependencies (Pfeffer, 1972). We are not disputing the
role of insiders as linkages to the external environment. However, given that insid-
ers’ primary role is that of insider information provision, we argue that on the
margin the provision of information, not external linkages, is the most important
phenomena to examine here. Given insiders’ primary role, one would expect that,
under regulation, inside decision makers will take on an increasingly important
role as information providers. This role, however, becomes diminished with dereg-
ulation as the need for external linkages takes on increased importance. Under
deregulation it will still be necessary for insiders to provide information to the
board, but the need for external linkages suggests insiders will be less important.
Most directors serve a fixed term of office, which complicates somewhat the
process of strategically aligning particular director roles. It is likely that many firms
will wait until director terms expire or directors retire, and then will replace out-
going directors with those who are better able to serve in the desired role. When
replacements occur, the intended improvement with the external environment
should occur. Therefore,
Hypothesis 1: Under regulation, there is a greater likelihood of replacements to

the board of directors being inside decision makers than under deregulation.
Business Experts
Regulatory oversight is posited to also alter the role of business experts on the
board of directors. Because so many functions of regulated firms are dictated by
the regulatory agency and the competitive environment is tightly controlled, the
number of business expert directors needed to help make strategic decisions is
reduced. Smith and Grimm (1987) argue that after deregulation many competi-
tive strategic actions become available to firms. Business experts, having broad
experience with decision making in other organizations, can provide expertise and
judgement concerning strategic actions and options. Given that firms faced with
   245
an environmental change such as deregulation usually initiate strategic change in
order to better conform to the newly altered competitive environment, business
experts take on an increased importance. Mahon and Murray (1981) similarly
contend that different skills are needed by deregulated firms relative to regulated
firms and that general managers, or firm representatives with managerial or
decision-making experience in deregulated environments, will be more important
to firms under deregulation.
Hypothesis 2: Under deregulation, there is a greater likelihood of replacements

to the board of directors being business experts than under regulation.
Support Specialists
As a result of regulatory oversight under regulation, the role of decision support
directors, such as lawyers and bankers, may differ from that under deregulation.
People with specialized skills in regulation and control, such as lawyers, will be
important under regulation to help the firm comply with regulatory mandates and
understand regulatory procedures (Mahon and Murray, 1981). When firms
dispute or challenge regulatory rulings, it is typically accomplished through the
legal system. Also, regulatory mandates are often written in the same form and
style as legislation, and support specialists with legal expertise can aid greatly in
interpreting the rulings and explaining them to other directors. Finally, legal
expertise can be very important prior to the issuance of new regulations, when
regulators propose changes and request comments. At this stage, legal expertise
can be used to actually shape new regulations prior to their becoming law.
However, in a deregulated environment support specialists who are lawyers may
be less important.
The need for support specialists with financial expertise, on the other hand, may
be less straightforward. Lang and Lockhart (1990) argue that financial pressures
increase sharply with deregulation and report more interlocks with financial insti-
tutions among unregulated firms as compared to regulated ones. However, in the
time period of our study, financial markets in the USA were becoming much more
competitive and efficient. The days of relationship banking are over in the USA
and while airline financing may be more risky under deregulation than regulation,
during our time period it is unlikely that this will affect the need for financial rep-
resentatives on boards. Instead of having long-term relationships with financial
institutions, capital market transactions are becoming much less a matter of who
you know. Thus, we would assert that while financing becomes more challenging
without the guaranteed profit margins of regulation, deregulated firms will not
experience an increased need for members of financial institutions on their boards.
We are not asserting that the need for this subgroup as directors is diminished as
the environment moves to deregulation, but merely that the need is not increased.
Therefore, we propose the following:
Hypothesis 3: Under regulation, there is a greater likelihood of replacements to

the board of directors being support specialists than under deregulation.
Community Influentials
These directors help to assure that the interests of stakeholders without an active
voice in corporate affairs are not abused or ignored. When the environment facing
246 . . , . .   . . 
a firm is deregulated, overall uncertainty increases. Lang and Lockhart (1990) find
empirical support for an increase in uncertainty faced by airlines as a result of
deregulation. Competitive forces sharpen, prices are no longer fixed, profits are
no longer guaranteed, and uniform services and standards are no longer regulated.
Therefore, more elements of the environment are uncertain, causing higher
transaction costs and an increased need for co-optation.
As a result, the firm will have an increased need for directors who may be able
to co-opt factors in the deregulated environment. Individuals with community
influence, access or prestige (e.g. politicians, university representatives, members
of social groups) will become increasingly important to the firm, not only for their
information and potential access, but also for the legitimacy they may lend to the
organization. Regulation is, at its most basic level, a tie with the government – a
link to legitimacy. The regulatory agency provides security for shareholders and
consumers through direct oversight. Once this is removed, the firm will need to
regain the loss in legitimacy caused by the absence of the regulatory agency.
One might argue that community influential directors with expertise or con-
nections with the regulatory agency would be extremely valuable as environmen-
tal links under regulation. This certainly may be the case, but with the increase in
overall uncertainty that accompanies deregulation, we would expect the impor-
tance of community influentials to increase overall after deregulation. That is
not to say that these members are unimportant during regulation, but rather
that, on the margin, deregulation will increase the scope of uncertainty that
community influentials may lend expertise and/or access to in the environment.
Therefore,
Hypothesis 4: Under deregulation, there is a greater likelihood of replacements

to the board of directors being community influentials than under regulation.

Sample
We selected the US interstate passenger airline industry as the setting for apply-
ing our taxonomy to a group of firms experiencing a large-scale environmental
change. We identified all airlines registered with the Federal Aviation
Administration (FAA) between 1968 and 1988. Intrastate airlines and air freight
services were excluded from the study because these did not fall under the same
tight regulatory control as interstate passenger airlines. In order to examine lon-
gitudinal effects reflecting the environmental change, we included only those air-
lines that operated a minimum of five years prior to deregulation and survived at
least five years after the regulatory change. A total of 14 airlines met the above
criteria for a total firm year sample size of 202. This sample size accounted for
the coding of 557 directors in total. Aggregating over the sample time period the
director categories represented the following percentages: insiders 24 per cent,
business experts 47 per cent, support specialists 17 per cent, and community influ-
entials 10 per cent.
We attempted to gather information on each firm’s board for each year of the
sample period (1968–1988). Information for the classification of directors into

   247
our four resource dependence categories was derived from annual reports, proxy
statements, 10K reports, Standard & Poors Register of Corporations, Who’s Who in
America, Who Was Who in America, and Dun & Bradstreet’s Reference Book of
Corporate Management. For each year of the study, each director was placed into one
of the four categories (insider, business expert, support specialist or community
influential). All directors were classified by one of the authors and a second
researcher not connected with the study. The two resolved the small number of
differences in coding by discussion. Classification was very straightforward, and
followed the guidelines presented in table I, column 3 with respect to director char-
acteristics based primarily on occupation.
One significant problem in designing the study was to identify, from a resource
dependence perspective, when deregulation would have an effect on firms’ felt
resource needs. While deregulation technically occurred in 1978, one could easily
argue that it had little effect until 1980, and the implications of deregulation are
still unfolding into the new century. On the other hand, one could argue that firms
could anticipate the arrival of deregulation as early as 1976, and could have begun
the process of altering their board structures long before the event. Further, firms
probably differ with respect to when they concluded board structural changes
would be beneficial and what those changes should be. We dealt with these issues
in an admittedly somewhat arbitrary fashion by deleting the three years sur-
rounding deregulation (1977, 1978 and 1979) and labelling the period prior to
1977 as regulated and after 1979 as deregulated.
Because our conceptual level of analysis is board replacement, coding of direc-
tors as entering or exiting was done as follows. We collected data from 1968 to
and including 1988. Our first year of entry/exit coding was 1969, however, and
our last year of entry/exit coding was 1987. To illustrate the process for 1969, we
identified each director in place in that year, and checked to see if he or she was
present on the board in 1968. If not, he or she was coded as entering. We then
looked at the board in 1970 to see if he or she was still present. If not, he or she
was coded as exiting. Ongoing directors, being neither entering nor exiting, were
not counted for our analyses. The process was repeated for each director, each
year, from 1969 to 1976 (the regulation period) and from 1980 to 1987 (the deregu-
lation period). This provided us with matched entering and exiting directors of
each type for both regulated and deregulated periods. These matched replace-
ments formed the basis for our data analyses and statistical tests.
In order to ensure that any differences across time periods observed in our
sample are attributable to the event of deregulation and not to other confound-
ing variables or general trends (e.g. economic trends) in board composition shared
by other firms and industries, we also included a control group of public utility
firms in our study. Public utilities were chosen due to the stability of their envi-
ronment during the time period of this study. While recently (1992 to present)
public utilities have undergone a number of changes leading toward deregulation,
during our sample time period this industry was regulated highly which led to sta-
bility in their external environment. For our control group, we randomly selected
15 firms from Compustat’s list of companies whose primary business was SIC 4911
(Standard Industrial Classification: electric services). Directors were identified and
classified according to the same procedures above for the entire 16-year period for
a total sample of 240 firm-years.

248 . . , . .   . . 
Statistical Methods
The hypotheses were tested using loglinear analysis for the three variables of inter-
est (type of director leaving, type of director entering the board and time period).
These variables were configured as a 4 ¥ 4 ¥ 2 table (table II), with the row vari-
able representing the type of director leaving, the column variable representing
the type of director providing a replacement, and the layer variable indicating the
time period (either regulation or deregulation). Data were therefore coded as
observed counts of numbers of directors falling into each of the cells of the table.
Loglinear analysis provides a means of investigating the interrelationships among
three or more categorical variables; it is superior to chi-square methods because
it allows pairwise associations to be examined while controlling for the effects of
other variables. Thus, loglinear analysis avoids the problem of Simpson’s Paradox,
in which a pair of variables can have a marginal relationship that is in a different
direction than their relationship when controlled for other variables (Agresti, 1990;
Fienberg, 1980). In some uses of loglinear modelling, one variable will be defined
as a dependent or response variable on theoretical grounds while the others are
treated as explanatory variables (Fienberg, 1980). This form of loglinear analysis
is called logit analysis. We use both loglinear and logit forms of the model in testing
our hypotheses.
Loglinear analysis is intended to investigate the interrelationships among a
number of variables, and therefore its typical use is to examine the extent to which
different models of multivariable relationships predict a given set of data – i.e. it
is used in model-fitting (Fienberg, 1980). The goal of the analysis is to find the
combination of main and interaction effects that is parsimonious while providing
the ‘best’ fit to the data. It is common to begin with a saturated model, one in
which all possible main and interaction effects are included and which fits the data
Table II. Observed counts for membership replacements
Regulation period
Entering director
I SS BE CI Total
I 10 3 6 4 23
SS 2 3 4 1 10
Exiting director BE 5 2 26 4 37
CI 2 2 2 4 10
Total 19 10 38 13 80
Deregulation period
Entering director
I SS BE CI Total
I 8 4 16 3 31
SS 1 4 16 7 28
Exiting director BE 3 2 24 6 35
CI 0 1 7 3 11
Total 12 11 63 19 105
Note:
I = insiders, SS = support specialists, BE = business experts, CI = commu-
nity influentials.

   249
perfectly. A hierarchical elimination process is employed so that effects are dropped
until the most parsimonious model that is not significantly different from the satu-
rated model is obtained. Likelihood ratio statistics are used to assess this difference
in fit. For the selected model, a residual analysis can reveal whether the model fits
well each of the cells in the table. The selected model can be interpreted in log-
linear format (no dependent variables), or logit format (identifying one of the vari-
ables as a dependent variable) (Fienberg, 1980; Tabachnick and Fidell, 1989;
White et al., 1993). In either case, cell ‘coefficients’ are typically used to compute
odds ratios for the odds of being in particular cells; these odds are interpreted as
giving the likelihoods of falling into specific cells of interest (as opposed to falling
into other cells). Notice that it is not common to provide significance tests for indi-
vidual cell ‘coefficients’; the spirit of loglinear modelling requires that once a
model is selected, all coefficients included in that model are used to compute the
necessary odds ratios for interpretation (Fienberg, 1980).
For our hypotheses, which posit that board replacements depend on time period,
it made sense to identify time period (regulation or deregulation) as the dependent
variable, which would then be predicted by the particular pattern of replacements
to the board of directors. Clearly, if a loglinear analysis revealed no difference in
the pattern of replacements across the time period variable, we would need to go
no further – none of our hypotheses would have obtained any support. If a dif-
ference was discerned from the analysis, however, then the particular replacements
giving rise to the difference would be analysed in order to examine each of the
hypotheses.

Models were considered hierarchically, as revealed in table III. The best-fitting
model for the airline data contained all two-way interactions and no three-way
interaction, because its fit indicated no significant loss in eliminating the three-way
interaction term from the saturated model (likelihood ratio statistic (G2) = 8.3437,
df = 9; p = .50), and because elimination of any of the two-way interactions sig-
nificantly reduced the fit of the model, as indicated in table III. Additionally, an
examination of the standardized residuals for the 4 ¥ 4 ¥ 2 = 32 cells revealed that
they were all less than one in absolute value, indicating a uniformly good fit for
this model across all cells (see table IV).
Because the best-fitting model for the airline data contains all two-way interac-
tions, the data in table II cannot be collapsed over the regulatory time period; that
is, shifts in board composition are dependent on the time period. Thus, the pattern
of replacements (i.e. the relationship between departing and entering director
types) must be considered in the context of the regulatory time period being exam-
ined, because the pattern will differ for regulation and deregulation periods. Note
that the dependence of the pattern of replacements on the time period precludes
any pairwise, chi-square analysis of the variables (Fienberg, 1980).
For our control group of public utilities, however, the best fitting model did not
include the time period interactions. As indicated in table III, the best fitting model
for the public utility data contained only the interaction between exiting and enter-
ing directors, no two-way interactions between entering or exiting directors and
time period, and no three-way interaction. The best fitting model here did not
250 . . , . .   . . 
Table III. Determination of best-fitting model via hierarchical
loglinear analysis
Model description Change in G 2 df p-value
Airline sample
Model containing:
– all two-way interactions 8.344 9 .50
– no exiting director by
entering director interaction 26.483 9 .00
– no exiting director by time
period interaction 8.296 3 .04
– no entering director by time
Public utility sample

Model containing:
– all two-way interactions 11.419 9 .248
– no entering director by time
– no exiting director by time
– no time period effect 0.735 1 .3911
– no entering by exiting
director interaction 70.957 9 .00
even contain the variable time period which indicates that the pattern of replace-
ments for public utilities did not change across time. This suggests that the pat-
terns of replacements found in the airline sample are not merely general trends
shared by other industries but may be associated with environmental change. The
specific patterns of replacements within our main sample of airline firms will now
be examined.
The a priori odds ratio for being in the deregulation period (as opposed to the
regulation period) was 1.16; i.e. in the airlines sample an observation was more
likely to fall in the deregulation rather than the regulation period. The odds ratios
for testing our hypotheses all include this a priori measure. When odds ratios are
greater than 1, the relevant likelihood is greater during deregulation. Odds ratios
of less than 1 suggest that the relevant likelihood is greater during regulation.
Hypothesis 1 posited that the likelihood of replacement with insiders would be
greater during the regulation than the deregulation period (or equivalently, less
during the deregulation than the regulation period). The odds ratio for replace-
ments being insiders during the regulation period was 1.375, meaning that insid-
ers occur as replacements 1.375 times as often in the regulation period than in the
deregulation period. Thus, Hypothesis 1 was supported.
Hypothesis 2 suggested a greater likelihood of business experts joining the board
as replacements during deregulation than during regulation. This hypothesis was
weakly supported, with the overall odds ratio for replacements being business
experts during deregulation versus during regulation being 1.03.
Hypotheses 3 (greater likelihood of support specialists as replacements on the
board during regulation than during deregulation) and 4 (greater likelihood of
community influentials as replacements during deregulation than during regula-
   251
Table IV. Expected frequencies and residuals for data in table IIa
Regulation period
Entering director
I SS BE CI
I 10.45 3.31 6.81 2.44
(-.138) (-.170) (-.312) (.995)
SS 1.36 2.45 4.24 1.95
(.547) (.352) (-.117) (-.679)
Exiting director
BE 5.86 2.56 23.43 5.14
(-.356) (-.348) (.530) (-.501)
CI 1.33 1.69 3.51 3.47
(.581) (.242) (-.807) (.284)
Deregulation period
Entering director
I SS BE CI
I 7.54 3.69 15.20 4.56
(.167) (.162) (.205) (-.730)
SS 1.64 4.55 15.76 6.05
(-.498) (-.257) (.060) (.386)
Exiting director
BE 2.15 1.45 26.55 4.86
(.580) (.460) (-.495) (.516)
CI 0.67 1.32 5.49 4.53
(-.820) (-.275) (.647) (-.248)
Notes:
I = insiders, SS = support specialists, BE = business experts, CI = commu-
nity influentials.
a
Expected counts are reported in the cells with standardized residuals given
in parentheses.
tion) were also both supported by our data; the odds ratios for each were sub-
stantially larger than 1 (1.9 and 1.5, respectively).
  

As earlier empirical work has supported a difference in board composition in reg-
ulated versus unregulated industries, it was anticipated that support would be
found for an overall change in the composition of the boards in regulated and
deregulated airlines. Two categories of the classification scheme used in this study
are similar to those used by Baysinger and Zardkoohi (1986), but our results differ
somewhat from theirs. The previous study found fewer directors of what we term
community influentials in unregulated firms as compared to regulated firms. This
contradictory result may be explained by the research design of their study. First,
the authors included the ‘other’ directors in this category rather than in the deci-
sion support category as we have. Second, the earlier study examined unregulated
and regulated firms cross-sectionally, thus reducing the strength of inferences
regarding cause and effect (Cook and Campbell, 1979). Since it is commonly
regarded that the board of directors reflects the environment within which a firm
operates, the differences across the two industries examined by Baysinger and
252 . . , . .   . . 
Zardkoohi (1986) may not be a reflection of the regulatory aspects, but other envi-
ronmental factors as well. Thus, the present study should not be interpreted as
contradictory to the work by Baysinger and Zardkoohi (1986), but an attempt to
better isolate the dynamics surrounding changes in the composition of boards of
directors as environmental changes occur.
The results reported here suggest that as environments change, the composition
of boards will change to reflect the shift in resource needs confronting the firm.
With a shift from a regulated to a deregulated environment, firms tend to strate-
gically alter the composition of their boards in response to new environmental
demands and forces. Specifically, during regulation board replacements were more
likely from the insider and support specialist category, while during deregulation
board replacements were more likely to come from the business expert and com-
munity influential categories.
These results serve to further organizational scientists’ understanding of the
effect of environmental change on the roles served by directors and therefore the
composition of boards. Environmental jolts such as deregulation change the nature
of the interdependencies and resource needs faced by the firm, thus altering the
needs with respect to the extra-governance roles of directors. These shifting needs
are addressed by altering the mix of directors on the board, re-aligning board
composition to better reflect the firm’s post-jolt needs.
In addition, this study has attempted to further our understanding of the
resource dependence role of directors by exploring four distinct categories of
directors. These categories are grounded in resource dependence theory and
provide a flexible mechanism for exploring board composition as related to the
resource dependence role. Our taxonomy challenges the implicit assumption
that an outsider is an outsider, and every outsider brings similar resources and
linkages.
For managers, our study advocates a more thorough consideration of the extra-
governance role that directors provide. Directors, through their individual exper-
tise and attributes, provide the firm with links to its external environment as well
as knowledge and information. These linkages act in a similar manner to those
provided by interlocking directorates in that they may potentially serve to
reduce uncertainty, interdependence, and subsequent transaction costs. Thus, as a
firm’s external environment undergoes a significant environmental change, the
board’s strategic role as an environmental link may need to be reassessed and com-
position of members altered to reflect the changing conditions. This study goes
beyond earlier studies that would prescriptively state that as environments change
and as uncertainty and dependency increase a firm should have more directors
and more linkages. By considering what types of resources and linkages are most
salient in a given environment, firms and shareholders may be better able to
determine what types of directors will be most effective in fulfilling the resource
dependence role.
Avenues for future study in this area would include examining the association
between board composition and firm performance. A number of studies have
focused on board composition and performance, but few from a resource depen-
dence perspective and none using our taxonomy. A logical next step is to compare
the performance of firms who do align or change board composition to reflect
environmental change along expected dimensions with those who do not strategi-
cally alter board composition. A note of caution, however, about the relationship
   253
between any given board role and performance must be taken from previous lit-
erature. Empirical results linking board composition and performance in agency
roles has been mixed. This may be due to the complication stemming from the
dual roles of directors (see Johnson et al. (1996) for a recent review of board
research). That is, the resource dependence role and the agency role must be exam-
ined together to avoid incomplete pictures of composition and performance. Some
approaches to dealing with that problem, common among agency theorists, would
be to select settings in which one role or the other dominates. For example, in
studies of takeover defences, the agency role dominates. On the other hand, in a
study of linkages and firm survival for young entrepreneurial firms, the resource
dependence role may dominate.

[1] Our taxonomy is fundamentally different from Baysinger and Zardkoohi’s (1986) in
that it is based on resource dependence theory. As such, we value differential resources
and linkages brought by each distinct type of director and categorize them based on
these differing resources. Because of this theoretical underpinning, we do not use
Baysinger and Zardkoohi’s category labels in our taxonomy although operationally
they are somewhat similar.
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Journal of Management Studies 37:2 March 2000

THE RESOURCE DEPENDENCE ROLE OF CORPORATE

University of Western Ontario

Texas A&M University

© Blackwell Publishers Ltd 2000

© Blackwell Publishers Ltd 2000

      

        

Hypothesis 1: Under regulation, there is a greater likelihood of replacements to

Hypothesis 2: Under deregulation, there is a greater likelihood of replacements

Hypothesis 3: Under regulation, there is a greater likelihood of replacements to

Hypothesis 4: Under deregulation, there is a greater likelihood of replacements

© Blackwell Publishers Ltd 2000

© Blackwell Publishers Ltd 2000

Table II. Observed counts for membership replacements

© Blackwell Publishers Ltd 2000

Model description Change in G 2 df p-value

Public utility sample

  

© Blackwell Publishers Ltd 2000

© Blackwell Publishers Ltd 2000

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