Board Efficiency and Internal Corporate Control Mechanism∗
نویسندگان
چکیده
We analyze the interactions between internal and external control mechanisms in a framework in which the board selects the CEO and then decides whether to retain or dismiss him after observing a signal on his ability. The novel aspect of our paper is that we consider both the hiring and the firing of the CEO by the board. The type of the board is defined by its ability to select a good CEO so that the quality of the CEO depends on the type of board. Then, the dismissal/retention decision provides information not only on the quality of the CEO but also on the board’s type. We show that board’s behavior depends on the pressure from the takeover market and on whether its type is publicly known. When the pressure from the takeover market is high and the type of the board is private information, the board prefers not to dismiss the manager even if it has received a very low signal on his quality. Hence, our model endogenously derives a collusive behavior between board and CEO in which the board does not fire a bad CEO. This behavior emerges as an attempt to hide the board’s inability to accomplish the first task, CEO selection, by distorting the second task, the CEO retention/dismissal decision.
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