Do Boards of Directors that are Perceived to be Better Aligned with Shareholder Interests Enhance the Operating Performance of Firms?

This study empirically tests the hypothesis that perceptions of the board’s alignment with shareholder interests are reflected in the financial performance of firms. The hypothesis is tested by examining the relationship between operating earnings in excess of the cost of capital (ER) and firm grades based on a new index of shareholder confidence based on: individual potential, group potential and past actions of directors for a sample of large publicly traded Canadian firms from 2002–2006. High shareholder confidence index values are generally associated with higher ER, although the relationship is not monotonic for higher graded boards. The performance gap between firms with high vs. low expected agency costs as reflected in terms of directors’ alignments with shareholder interests amounts to almost 30%. JEL Code: G34