Other Key Variables

The purpose of our analysis is to investigate how CEO-board social clustering affects corporate governance. In our primary analysis, the key variable of corporate governance we use is Bebchuk, Cohen, and Ferrell’s (2009), E-Index. E-index is a composite measure based on six Investor Responsibility Research Center (IRRC) provisions of shareholder protections.36 _The

measure takes a value between zero and six, with zero (six) being representative of the best (worst) shareholder protections. In addition to using the index itself, we also examine two of the individual components of the index for which data are made available, i.e., the presence of a staggered board and/or poison pill provision.

[Insert Table 3 about here]

We define a list of commonly used control variables in predicting average E-Index: log of total assets as the natural log of total book assets, book leverage as the sum of long-term and short-term liabilities over total book assets, return on assets as the net income over total book assets, and capital investments as capital expenditures over total book assets. We include the log of CEO age as an additional control following Morck, Shleifer, and Vishny (1988).

35 _{As robustness, we also used terciles, quantiles, deciles, and average centrality of the board as a}

continuous measure; the results were qualitatively similar in all cases. We used above/below the median as our primary measure simply because the interpretation is straightforward.

36 _{We thank Lucian Bebchuk, Alma Cohen, and Allen Ferrell for making their data publically}

available: http://www.law.harvard.edu/faculty/bebchuk/data.shtml. Bebchuk et al. (2009) construct their measure as the summation of six indicator variables which take a value of 1 if a firm has any of the following: 1) staggered board; 2) poison pill provision; 3) golden parachute policy for executives; 4) limits to amend bylaws; 5) limits to amend charter; and, 6)

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In additional testing, we examine the relation between the inner workings of the board and clustering. Specifically, we study the relation between clustering and board independence, board business, and board monitoring. Our measure of board independence is constructed as an indicator which takes on a value of 1 for boards that have a majority of independent directors and 0 otherwise (Fogel, Ma, and Morck, 2012). Additionally, we look at CEO’s total compensation and incentive pay as taken from ExecuComp. Total CEO compensation, CEO compensation, is the sum of salary, bonuses, the value of stock and options granted, the value of long-term

incentive payouts, and any other compensation grated. Data on executive compensation are from ExecuComp. In regression testing, we take the natural log of total compensation to reduce the non-linearity inherent in CEO compensation. For performance pay, we scale the equity-

dependent portion of the CEO’s total compensation by the total compensation paid to the CEO in that year. The equity component includes long-term incentive payouts, restricted stock grants (fair value stock awards), and the value of options granted.

[Insert Table 4 about here]

Table 4 presents the description and the summary statistics of these variables across relative clustering. Across measures of firm characteristics, differences emerge for both performance and financial characteristics. The average Tobin’s Q for firms who are

characterized as being relatively less clustered is higher for all three measure of clustering. Firm size, as measured by the natural log of total assets, is higher for less clustered firms for all but the most clustered firms. Book leverage is higher for firms who are less clustered. Capital

investments are lower for less clustered firms R&D investments make up an average of 2.5% to 2.9% of a firm’s book assets for less clustered firms, but only 1.2% to 1.6% for firms who are

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relatively more clustered. Summary statistics on ROA suggest that less clustered firms are relatively more profitable, but the difference is not economically significant.

Across measures of governance and board and CEO characteristics/compensation, we find similar differences in firms based on their relative clustering. On average, based on E-Index, less clustered boards have worse shareholder protections. However, they have more independent boards. CEO age and tenure are both higher for firms with a relatively higher degree of

clustering. Perhaps most striking are the differences in CEO compensation across relative clustering. CEOs of highly clustered firms have lower total compensation, but have higher cash compensation and lower performance based compensation (both is absolute terms and as a percentage of their total compensation). Taken together, measures of governance and board and CEO characteristics/compensation suggests clustering as a potential factor in the heterogeneity of the governance of firms.

[Insert Table 5 about here]

We repeat the analysis of Table 4 and examine the same firm, board, and CEO

characteristics, now splitting the sample by the location of the firm in the network, i.e., Periph. Periphery located firms have lower Q, are smaller, are less levered, have higher capital

investments, are less R&D intensive, and are less profitable than their centrally located counterparts on average. Across all measures of the financial characteristics of the firm, the differences are statistically different at greater than the 5% level. The differences are only economically meaningful, however, for size and R&D. Across measures of governance and board and CEO characteristics/compensation, we find differences in firms based on their relative location. Firms who are relative more centrally located have worse shareholder protections than those who are more peripherally located. However, similar to the differences identified by

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clustering, they have more independent boards. CEOs of peripherally located firms are older and have longer tenure in their position than their centrally located counterparts. Finally, differences in CEO compensation across Periph show a similar pattern to differences across centrality. CEOs of peripherally related firms have lower total compensation, but lower performance based compensation (both in absolute dollars and as a percentage of their total compensation). Finally, CEOs of Periph firms are paid a lower percentage of the total compensation paid to the top-five executive of their respective firms (Bebchuk, Cremers, Peyer, 2011).