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Lauren Cohen, Andrea Frazzini, Christopher Malloy
NBER Working Paper No. 14232
Issued in August 2008
NBER Program(s): AP
CF
---- Abstract -----
We test the hypothesis that firms appoint independent directors who are overly sympathetic to management, while still technically independent according to regulatory definitions. We explore a subset of independent directors for whom we have detailed, micro-level data on their views regarding the firm prior to being appointed to the board: sell-side analysts who end up serving on the board of companies they previously covered. We find striking evidence that boards appoint overly optimistic analysts who exhibit little skill in evaluating the firm itself, other firms within the firm's industry, or even other firms in general. The magnitude of the optimistic bias is large: 82.0% of appointed recommendations are strong-buy/buy recommendations, compared to 56.9% for all other analyst recommendations. We find that appointed analysts' optimism is stronger at precisely those times when firms' benefits are larger, and that appointed analysts appear to be more closely tied to appointing firms than the title "independent" director would suggest. Our results challenge the widely held view that appointments of independent directors necessarily add objectivity to the board of a firm.
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