What do we know about ‘lone founders’ boards of directors?

This article was originally published in Spanish in the Esade Center for Corporate Governance Newsletter. 

A common critique from the business world about management research is its irrelevance to solving the real problems faced by CEOs, executives, and management experts. This criticism may be somewhat exaggerated, but it holds some truth: sometimes research addresses issues of little relevance to the business world; other times it seeks obviousness already discovered by managerial practice; in some cases, it is so abstract that its practical utility is low or very low; and in others, the inability to generalize (“universalize”) the findings is so high that it is only useful in very limited contexts. 

This criticism is more pronounced in some fields than in others: finance, marketing, and operations fare better than areas such as leadership, strategy, and especially corporate governance. However, what is known “scientifically,” even if it is limited and provisional (while better research is pending), must be considered when making decisions. As academics and practitioners have affirmed, knowledge with academic grounding at least serves to alert you: when one diverges from what this knowledge suggests (which may be reasonable given the circumstances), it is advisable to think twice and have good reasons for doing so. Therefore, in this series of articles, we aim to bring closer the scientific knowledge available on the relationship between types of ownership (family, institutional investors, etc.) and corporate governance. We will strive to make it useful for practitioners (CEOs, board members, and consultants). Our ambition is to bridge the gap between science and action in the realm of good governance. 

To this end, we will universalize what is known from empirical research. These always have clear limitations due to the sample and method used in observing reality. Therefore, what is asserted in these studies is limited to a geographical area, a subsegment of the observed reality, a specific time... In short, conditions that limit the universal validity of their conclusions. In this series of articles, we assume that these conditions do not limit, or do so to a reduced extent, the validity of the research conclusions. 

For this purpose, we rely on the meta-research conducted by Federo, Ponomareva, Saz, Aguilera, and Losada (2020). It attempts to comprehensively compile existing scientific knowledge that explains how the type of ownership affects board behavior. We begin with founder ownership. 

Founder ownership and boards of directors

Next, we review existing research in an orderly manner. If the reader wants to skip to recommendations, we suggest going to the last section. 

In this article, we refer to the peculiarities of boards of directors where founder ownership (sometimes the initial entrepreneur, often startups) characterizes the company’s shareholding. 

Research on “lone founders” or solo entrepreneurs as a type of ownership is relatively recent (Cannella et al., 2015; Dawson, Paeglis, & Basu, 2018). These owners often found startups with a high degree of innovation and intellectual property. 

The most relevant point is to start by saying that in many cases, the Board of Directors constitutes an extension of the founder (Cannella et al., 2015). Although lone founders tend to be somewhat more individualistic than family owners, there are some common traits with this new type of ownership. 

1. Board structure

We have not identified any specific contributions on the peculiarities of the board structure in this type of company, beyond what is mentioned in the previous paragraph — understanding the board as an extension of the founder (Cannella et al., 2015) — and the possibility of considering what has been stated for family-owned companies: smaller boards compared to companies with other types of ownership (Barontini & Bozzi, 2011); less complex board structures with fewer or no committees, leading to a greater role for the full board (Nowland, 2008). 

2. Composition

Regarding composition, in the boards of these companies, we can observe several trends: 

• First, a greater tendency for board control by the founder and a higher influence reflected in a preference for executive directors (Daily & Dalton, 1992), more controllable by the founder to protect the company’s know-how.
• Compensation tends to be lower than in other types of companies (Crespi & Renneboog, 2010), partly due to the specialization of the directors.
• There is also a higher turnover of directors (Crespi & Renneboog, 2010).
• If external directors are chosen, the founder tends to select directors with experience in similar companies — “other lone-founder firms” (Cannella et al., 2015). These directors usually have a longer and closer relationship with the founder than other directors (Cannella et al., 2015).
• These companies have the ability to attract prestigious directors based on the founder’s reputation and personal experience (Chahine, Filatotchev, and Zahra, 2011). For instance, if the founder has significant international experience, there will be a “natural” tendency for greater cultural diversity on the board (Balachandran, Wennberg, & Uman, 2019).

3. Board processes

Regarding board operations, in these companies, there is a tendency to work, debate, and decide primarily on growth and business development strategies. Given the tendency of external investors to favor the control function, in these companies, the entrepreneurial founder responds by representing investors on the board and providing greater independence to the board (Chauhan, Dey, and Jha, 2016). However, if there is an IPO, in these companies, the founder’s retention of a substantial ownership stake is associated with less independence and diversity of non-executive directors (Filatotchev, 2006). 

Brune et al. (2019) show that there is an association between the founder’s presence on the board and a reduction in the tendency to evade taxes. This presence, according to Wang and Song (2013), also leads shareholders to perceive greater control by the founder over board decisions, which is seen as a positive signal to shareholders due to the “discipline organizational behavior” effect. However, the founder’s presence on the board also reduces the diversity (richness) of information and the creation of alternatives in decision-making, known as the “group thinking” bias. 

4. Impact of the lone founder’s board on organizational behavior

Greater control over board decisions by the entrepreneur tends to result in positive outcomes in terms of results. This effect is believed to originate from the greater “discipline” the founder introduces into organizational/managerial behavior, as previously mentioned (Wasserman, 2017). On the contrary, as Wasserman identifies, there are trade-offs in startups, where the founder’s control over the board can reduce the firm’s value. Dawson et al. (2018) find a “U-shaped” relationship between founder ownership and firm value in new business ventures. Additionally, in these situations, there is a tendency to emphasize a support function rather than a monitoring or control function of the board. 

Conclusion: Where to focus attention? 

In companies where ownership is primarily held by the founder, boards tend to become an extension of the founder. Therefore, there is usually less independence of criteria and opinions unless the influx of external capital favors the control function. If not, the board tends to fulfill an advisory and support role for management. This can lead to poor debates and decision-making alternatives that may impoverish the company’s prospects. It is particularly important to be aware of this effect as these boards are heavily focused on working, debating, and deciding primarily on growth and business development strategies. 

Beyond the warnings mentioned at the beginning of the article, the knowledge presented remains useful for decision-making, often as one input among many, but an input that requires consideration.