The financial firms that suffered the greatest stock-price declines during the economic crisis tended to be those with the highest proportion of independent directors, according to a new study.

The study, presented recently at the annual meeting of the American Accounting Association, examined 296 major financial institutions around the world with assets exceeding $10 billion over the seven quarters from January 2007 through September 2008. The sample consisted of banks, brokerages, and insurance companies in 30 countries, including 125 in the U.S. and 131 in Europe.

The study found that that boards not only were frequently ineffectual but commonly undermined stock performance — and did so, ironically, through actions taken on behalf of transparency and good corporate governance. This proved to be the case despite the general presumption today that board independence is a touchstone of enlightened company management.

In another surprise, the study also finds that, contrary to what is widely believed, the amount of financial expertise of board members had little or nothing to do with firms’ financial performance during the crisis. Neither did it matter whether or not the CEO also served as board chairman (the many critics of CEO duality notwithstanding), or whether the board had a risk committee.

What did make a significant difference, though, was the amount of company stock owned by institutional investors, with greater institutional ownership translating into poorer stock performance.

The percentage of independent directors averaged 82 percent for the sample as a whole, ranging on a countrywide basis from 64 percent in the United Kingdom to 93 percent in Switzerland. Institutional ownership averaged 67 percent in the U.S. and 27 percent in Europe, and stocks of the companies studied declined on average by about one third in both places.

"Firms with higher institutional ownership took more risk prior to the crisis, which resulted in larger shareholder losses during the crisis period, and firms with more independent board members raised more equity capital during the crisis which led to a wealth transfer from existing shareholders to debt holders," wrote the study's authors David Erkens, Mingyi Hung, and Pedro Matos of the University of Southern California.

They concluded that, "while the optimal level of risk-taking and equity capital for financial institutions is unknown, our findings cast doubt on whether regulatory changes that increase shareholder activism and monitoring by outside directors will be effective in reducing the consequences of future economic crises."

What accounts for the propensity of independent directors to raise equity capital when companies' share prices are sinking? “In contrast to corporate insiders, who are primarily concerned about their job security at the firm, and therefore have an incentive to hide bad news to avoid being replaced by shareholders, independent board members are primarily concerned about their reputation in the market for directorships,” the professors explained. “Prior research finds that outside directors hold fewer board seats after serving in companies that file for bankruptcy or privately restructure their debt. Thus, independent directors have an incentive to avoid the reputational cost of a bankruptcy by pressuring firms to raise equity capital.”

Further, the professors noted, “Independent directors build their reputation as monitors...by requiring firms to have more transparent financial reporting. During the crisis period, transparent reporting implied the timely recognition of losses related to subprime mortgages. Because the recognition of losses led to lower capital adequacy ratios, firms had to resort to raising equity capital to avoid regulatory intervention when they recognized losses related to subprime mortgage-related assets.”