BOARD INTERLOCKS AND FIRM PERFORMANCE:

Toward a Combined Agency–Resource

Dependence Perspective.
Fabio Zona, Luis Gomez & Michael Withers.
Journal of Management, Vol. 20 No. 10 (oct., 2015) Pp1-30

Luis Ángel Meneses

Corporate Finance

April 24, 2019

 OUTLINE.
 Abstract.
 Introduction.
 Theoretical Background .
 Hypothesis Development .
 Method.
 Results.
 Discussion.

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 ABSTRACT.
 This study develops a combined agency–resource dependence perspective and
applies it to the study of interlocking directorates.

 It suggests that interlocking directorates may exert either a positive or a negative

effect on subsequent firm performance, depending on the firm’s relative resources,
power imbalance, ownership concentration, and CEO ownership.

 A test on a sample of 145 Italian companies provides support for hypothesized

effects.

 This study suggests that integrating agency and resource dependence theories
provides a higher-order explanation of firm performance and helps advance both
agency and resource dependence theories.

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 INTRODUCTION.
 Organizational researchers have long been interested in the influence that board interlocks may have
on a variety of firm outcomes. Of particular focus, researchers have attempted to determine the
relationship between board interlocks and firm performance.

 Two prominent perspectives in examining the board interlock–firm performance relationship are
agency theory (Jensen & Meckling, 1976) and resource dependence theory (Pfeffer & Salancik,
1978).

 These seemingly paradoxical findings suggest critical research questions that remain unanswered in
the board interlock literature: Why do firms engage in board interlocks when there may be little
economic value for the interorganizational relationship? Or, if board interlocks can positively affect
firm performance, what are the factors that may enable those firm benefits?.

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 INTRODUCTION.
 To answer these questions, they propose an integration of agency and resource
dependence theories into a unified framework to examine how interlocking
directorates affect firm performance.

 This study proposes that given that organizations are exposed to both managerial
opportunism and external constraints, applications of each theory separately may
not provide a comprehensive explanation of how board interlocks affect firm
performance. However, combining these perspectives may offer critical insights
into the board interlock–firm performance relationship.

 This study makes several important contributions to the strategic management

literature. First, the relationship between board interlocks and firm performance
may be dependent upon both external and internal forces.
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 INTRODUCTION.
• Second, it extends resource dependence theory by arguing that resource constraints
and power imbalance are two distinct factors that jointly shape the impact of
interlocks on performance.

• Third, this research extends agency theory by outlining how relations with other
firms may also shape agency costs at the focal firm.

• Utilizing resource dependence theory, and its social exchange foundations, we

extend agency theory to consider how resource-dependent firms, which are exposed
to major needs of resources, may constitute opportunities for corporate managers to
use resource plenitude to provide external support and maximize their private utility
via board interlocks

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 2. THEORETICAL BACKGROUND
• A board interlock forms “when a person is on the board of directors of two or more
corporations, providing a link or interlock between them” (Fich & White, 2005:
175).

• The two most prominent perspectives utilized to consider the outcomes of board
interlock are agency theory and resource dependence theory.

• Agency theory focuses internally on the agency costs that arise from the separation of
ownership and management. This theory maintains that managerial intent and deliberate
actions are key drivers of corporate outcomes to the point that, lacking effective controls,
executives maximize their utility at the expense of shareholders, reducing performance.
Conversely, resource dependence theory turns outward, suggesting that scholars should “focus
less on internal dynamics and more on the situations in which organizations were located and
the pressures and constraints that emanated from those situations”
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 2. 1 AN AGENCY PERSPECTIVE OF BOARD INTERLOCKS
• Building on theories of managerialism and property rights, agency theory posits
that, given the opportunity, executives will maximize their private interests at the
expense of shareholders, generating agency costs (reduced performance);
Oversight and incentive alignment mechanisms are necessary to keep managerial
opportunism and moral hazard in check.

• Because of impaired monitoring, board interlocks lead to heightened CEO power

and entrenchment, elevated executive pay, lucrative golden parachutes and
takeover defense tactics.

• For the interlocking directors, executive private utility also includes reduced
employment risk, increased executive private earnings (through fees and payments
to board members and pensions; heightened executive prestige and reputation,
and enhanced executive value in the managerial and directorate markets.
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 2. 2 A RESOURCE DEPENDENCE PERSPECTIVE OF BOARD
INTERLOCKS
Resource dependence scholars depict organizations as open systems whose
performance depends on their ability to procure critical resources from other firms
through reciprocal exchanges .

• Board interlocks are one such tactic enabling organizations to gain access to
critical resources, including both tangible and intangible resources.

• Resource dependence theory posits a number of benefits derived from board

interlocks. In particular, board interlocks serve as a mechanism for firms to reduce
environmental uncertainty and dependence. These interorganizational ties also
provide access to diverse and unique information and the ability to learn new
corporate practices. Finally, a board interlock may serve as a signal of the quality of
the firm.
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 2. 3 AN INTEGRATED PERSPECTIVE OF INTERLOCKS
While both agency theory and resource dependence theory have been used to
understand the board interlock phenomenon, there has been limited effort to integrate
the two perspectives and reconcile their seemingly contradictory findings regarding the
board interlock–firm performance relationship.

• This theoretical integration has led to a preponderance of studies considering the role of board capital, or the
aggregate board-level human and social capital, on several organizational outcomes.

• They theorize that the level of resources, both at the focal firm and other firms composing the interlocks,
provides an important mechanism that links the two theories. For both perspectives, the level of resources is
an important consideration in understanding board interlock outcomes.

• In addition, to add further theoretical nuance to our perspective, they consider important resource
dependence and agency mechanisms—power imbalance and ownership concentration, respectively—and how
these mechanisms may affect the board interlock–firm performance relationship.
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 3. HYPOTHESIS DEVELOPMENT
• Hypothesis 1: Relative level of resources negatively moderates the relationship
between interlocks and performance such that the relationship shifts from positive
to negative at higher levels of resources.

• Hypothesis 2a: Among resource-constrained organizations, the positive relationship

between interlocks and firm performance will be greater the more the power
advantage of the interlocked, resource-rich counterparts.

• Hypothesis 2b: Among resource-rich organizations, the negative relationship

between interlocks and firm performance will be greater the more the power
advantage of the interlocked, resource constrained counterparts..

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 3. HYPOTHESIS DEVELOPMENT
• Hypothesis 3: The positive (for firms with lower relative resources) and negative (for
firms with higher relative resources) relationships between interlocks and firm
performance will be enhanced and attenuated, respectively, as ownership
concentration of the focal firm increases.

• Hypothesis 4: The moderating effect of ownership concentration on the relation

between interlocking directorates and firm performance weakens as available
resources decrease.

• Hypothesis 5: The positive and negative effects of interlocking directorates on firm

performance will be enhanced and attenuated respectively in organizations run by
CEOs with ownership interests, as compared to those run by nonowner CEOs.

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 4. METHOD
Sample and Data To test the hypotheses, they considered all of the companies that
were constantly traded on the Italian stock exchange during the period 2001 to 2006.

They collected data each year from Worldscope, Orbis, Aida, and company reports as
reported December 31.

The sample is thus a panel data set. Panel data have a number of advantages, such as
controlling for unobserved heterogeneity. In the time window from 2001 to 2006, we identified
214 companies that were constantly traded on the Italian stock exchange. Of these, they
excluded 44 banks or insurance firms institutionally devoted to providing financial resources to
manufacturing companies and 25 companies with missing values. The final sample includes
145 Italian manufacturing companies consistently traded during our 6-year window, thereby
producing a balanced panel of 870 firm-year observations.

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 4. METHOD
Dependent Variable

They measured firm performance as a firm’s return on assets (ROA) in each year. ROA
facilitates comparability with previous studies, which typically relied on this measure as
a performance index (Mizruchi, 1996). ROA is also the most commonly used
performance measure in strategy research (Becerra, 2009). We also tested alternative
performance measures, such as return on equity, which provided similar results.

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 4. METHOD
Dependent Variable

• Number of interlocks is measured as the total number of firm-to-firm interlocks in

each year.
• They combine agency and resource dependence perspectives and propose a novel
interpretation. The benefits (and costs) of interlocks associates with levels of
resources at the focal/interlocked partners; both sent and received ties (a) benefit
the resource-constrained firms and (b) harm the resource-rich one.
• The variable relative available resources was calculated as the difference between
the focal firm’s available resources and the mean of available resources of
interlocked partners. First, we calculated available resources at the focal firm, which
captures the focal firm’s degree of resource constraint/availability.

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 4. METHOD
Dependent Variable

• We measured funds from operations, which we calculated by adding, to the firm’s

net income, all the noncash charges and credits, including depreciation, amortization
of intangibles, and deferred taxes (Hoskisson & Hitt, 1994). The values of these funds
range from positive to negative, with high positive values reflecting large available
resources and very low negative values reflecting strong resource scarcity.

• Interlocks to power-advantaged organizations were measured following the research

on power imbalance. Casciaro and Piskorski (2005) outlined that power-dependence
relations are defined at the level of interindustry or intersector resource exchanges.

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 4. METHOD
Dependent Variable

• We measured funds from operations, which we calculated by adding, to the firm’s

net income, all the noncash charges and credits, including depreciation, amortization
of intangibles, and deferred taxes (Hoskisson & Hitt, 1994). The values of these funds
range from positive to negative, with high positive values reflecting large available
resources and very low negative values reflecting strong resource scarcity.

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 4. METHOD
Dependent Variable

• Thus, for each focal firm in industry j, they calculated a measure of interlocks to
power-advantaged actors as:

where Intj→i is the number of interlocking directorates that the focal firm in industry j sets with firms in
each other industry i (an alternative measure of percent of interlocks yielded similar results), n is the
number of industries (59) available from Italy’s input-output, Ci→j is the dependence of industry j on
industry i, and Cj→i is the dependence of industry i on industry j.

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 4. METHOD
Dependent Variable

• Ownership concentration was measured as a Herfindahl index of shareholders with at least 2% of the equity for
each company in the sample. Differently from the percentage of total shareholdings, the Herfindahl index
accounts for the distribution of stakes among shareholders, which is salient for Italian firms, whose ownership
structures include major blockholders. Information on shareholders’ share is reported by CONSOB (the Italian
Security and Exchange Commission) at each year’s end. We used this variable for Hypotheses 3 and 4 and as a
control measure for the rest of the hypotheses.

• CEO ownership was measured as a dummy variable set at 1 for CEOs with ownership (48% of sample firms) and 0
for those who had no ownership participation in the firm (52% of sample firms). This variable was used to test
Hypothesis 5 and as a control for the rest of the hypotheses. In Italy, unlike the United States, where CEO equity
ownership and stock options are almost universal among the largest firms (Gomez-Mejia et al., 2010), stock
options are rarely granted, and the distribution of equity ownership across managers of corporations is closer to a
binomial distribution. As such, we use a binary variable to capture CEO ownership.

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 4. METHOD
Control Variables

• They included several control variables. In studying the determinants of firm performance, it is virtually
impossible to control for all possible determinants. To alleviate this issue, they included a 1-year lagged
dependent variable to control for possible omitted variables outside those explicitly included in regressions
(Greene, 2000).

• They also controlled for firm size, measured as the logarithmic transformation of total assets (O’Sullivan, 2000;
van Essen et al., 2015).

• They included a measure of strategic change to account for effects of investments and divestitures. We assessed
year-to-year adjustments in three key resource allocations: (a) expenditures on property, plant, and equipment;
(b) total assets; and (c) number of employees. If a firm were maintaining the status quo, these quantities would
be similar across years; conversely, large changes (positive or negative) in these measures would signal important
alterations of a firm’s strategy. .

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5. RESULTS

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5. RESULTS

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5. RESULTS

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5. RESULTS

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5. RESULTS

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 CONCLUSION.
• This study makes a number of contributions to the board interlock literature. First, extant
research on interlocking directorates adopts varied theoretical perspectives, but inconclusive
empirical findings raise concerns that board ties exert any systematic effect on performance.
They posit that examining corporate conditions only at the focal firms may be insufficient.
This study clarifies that, since board interlocks are an interfirm tactic involving two parties,
corporate conditions of both parties must be explicitly considered to fully capture the impact
of interlocks on performance.

• Second, our integrated agency–resource dependence perspective also suggests that board
interlocks may affect firm performance depending on the resource characteristics of the
focal firm. For those resource-constrained firms, interlocks with resource-rich organizations
may provide key benefits that enable them to overcome resource limits and achieve higher
performance.
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 CONCLUSION.
• This study advances boundary conditions of resource dependence theory. Resource
dependence scholars presume that organizations are resource constrained (Pfeffer, 1987) to
conclude that executives’ motives and deliberate actions play a minor role in the setting and
consequences of interfirm tactics. This study relaxes the assumption of resource constraints
and considers the conditions (i.e., large available resources) under which interfirm tactics
also involve executives’ private interests.

• Finally, our study advances agency theory. It outlines a broader picture of the sources and
nature of agency costs, such that resource needs at other firms call for even greater agency
costs at the focal resource-rich firm. In particular, agency costs are triggered not only by
interest misalignment between a CEO and the shareholders (Kolev, Wiseman, & Gomez-
Mejia, in press) but also by interest alignment between self-serving executives at resource-
rich firms and executives at resource-constrained firms.
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 CONCLUSION.
• While our study makes several contributions, our results are subject to a number of potential
limitations. First, our sampling frame and context are important factors to consider when
evaluating our results. Our sample of Italian firms from 2001 to 2006 may limit the
generalizability of our study findings. Future research may consider examining our proposed
hypotheses in other countries or look to comparative analysis to examine the effects across
country settings.

• Finally, our study advances agency theory. It outlines a broader picture of the sources and
nature of agency costs, such that resource needs at other firms call for even greater agency
costs at the focal resource-rich firm. In particular, agency costs are triggered not only by
interest misalignment between a CEO and the shareholders (Kolev, Wiseman, & Gomez-
Mejia, in press) but also by interest alignment between self-serving executives at resource-
rich firms and executives at resource-constrained firms.
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