Effect of Board Structure on Risk Taking: The Moderating Role of Firm Performance

Abstract

It is argued that the main cause of the recent corporate failure was that corporations engaged in excessive risk taking. The board of directors is responsible for the companies’ risk management policies. This research examined how board characteristics predict risk taking propensity when firm size and industry were controlled. The study also examined the moderating effect of firm performance on board structure -risk taking relationship. Moreover, the study was guided by agency theory which postulates principal-agent conflict in decision making. The study employed explanatory research design. The research utilized secondary data derived from document analysis mainly from companies’ financial reports. The study included 38 companies listed throughout 2005-2010. Both descriptive and inferential statistics were used. The data collected was presented in tables and graphs. Inferential statistics included correlation and moderated regression analysis. The findings revealed that board size had negative significant effect on risk taking (β=-.061, p<0.01), director independence had positive effect on risk taking (β=1.249, p<0.01) and CEO duality had no effect on risk taking (β=0.311, p>0.01). After moderation of the above variables using firm performance, board size and director independence had significant effect on risk taking; (β=0.025, p < 0.05), (β=0.309, p< 0.05) respectively whereas CEO duality has no effect on risk taking (β=0.092, p> 0.05).In conclusion, the study showed that board structure affects risk taking and that firm performance has a moderating effect.  Thus the study recommends that managers should emphasize on reducing board size and increasing director independence which can have strong impact on firm decisions and outcomes. Specifically, it can lead to undue risk taking, and such risk taking may significantly influence the firm’s performance. In addition level of performance when making such decision is a crucial factor that should be taken into account.

Key Words: Risk Taking, Board Structure, CEO Duality, Director Independence, Board Size, Firm Performance