Balancing power: The role of independent directors on venture boards

Abstract

We develop a novel power-centric model that examines antecedents and boundary conditions for independent directors in venture boards. Using 989 U.S. biotech and pharmaceutical ventures from 2010 to 2020, we find that the structural power gap between inside directors and VC directors is negatively associated with venture board independence. We also find that VC directors' intra-group conflict through tenure variance would weaken the impact of VC directors' power over inside directors on venture board independence, while VC ownership power through investment would strengthen it. These results offer a deeper theoretical understanding of venture boards.

Executive summary

The role of independent directors on venture boards—privately owned, professionally funded firms—remains underexplored in academic literature. While independent directors in public firms are primarily tasked with monitoring executives and protecting shareholders, their role in ventures is less defined. In VC-backed ventures, CEOs are often aligned with the firm's goals, and major shareholders have direct representation on the board through venture capitalist (VC) directors. The traditional agency problem, which necessitates independent directors in public firms, is absent in this context. Yet, independent directors make up about 20 % of venture boards, prompting a key question: Why do VC-backed ventures include independent directors?

This paper develops a power-based theoretical model to explain the inclusion of independent directors on venture boards. Based on organizational power theory, board seats represent structural power, with inside directors (e.g., the CEO and key executives) and VC directors as the dominant groups. These groups often have divergent priorities—VC directors emphasize short-term financial returns, while inside directors focus on long-term growth and innovation. When power is imbalanced, the dominant group resists the addition of independent directors. However, when the power gap between the two groups is smaller, conflict and stalemates become more likely, creating a need for independent directors to mediate and restore board functionality.

The paper also identifies two critical contingencies that shape this dynamic. The first is the intra-group power dynamics among VC directors. High tenure variance within the VC group reduces cohesion and alignment, weakening their collective power. This diminished unity increases the likelihood of independent directors being added to balance competing interests. The second contingency is the external investors' influence: Greater VC investment aligns VC directors more closely with external investors, amplifying their collective power relative to inside directors. This increased power advantage reduces the perceived need for independent directors.

The study's findings, based on an analysis of 989 U.S. biotech and pharmaceutical ventures from 2010 to 2020, provide strong empirical support for this model. By highlighting the power-balancing role of independent directors, the paper offers a new political perspective on venture board composition. For practitioners, these insights underscore the strategic value of independent directors in fostering effective governance, especially in ventures where power dynamics between inside and VC directors are finely balanced. Entrepreneurs can proactively leverage independent directors to mitigate conflicts and improve board decision-making. For VCs, recognizing how intra-group dynamics and investment levels influence governance structures can help shape more effective board strategies. To conclude, by answering the question of why ventures include independent directors, this paper not only advances governance theory but also provides actionable guidance for practitioners navigating the complexities of venture boards.