Docstoc

Value of Independent Director.ppt

Document Sample
Value of Independent Director.ppt Powered By Docstoc
					                                                            Slide 1




                The Value of Independent
                Directors: Evidence from
                Sudden Deaths

Joint with Kasper Meisner Nielsen (CUHK)

Bang Dang Nguyen, The Chinese University of Hong Kong

Presented at the EFM Symposium, Cambridge, April 11, 2009
                                                           Slide 2




Research Questions
   Is supposedly good monitoring by independent
    directors translated into increased firm value?
   Conflicting evidence, independent directors are:
     Not  value-increasing: McAvoy et al. (1983), Bhagat and
      Black (1999, 2001), Hermalin and Weisbach (1991),
      Klein (1998)
     Even value-decreasing: Agrawal and Knoeber (1996)
     Value-enhancing: positive stock reaction to nomination
      of independent directors (Rosenstein and Wyatt
      (1990)); positive correlation between fraction of
      outside directors and accounting performance (Core,
      Holthausen and Lacrker (1999))
                                                                        Slide 3




Research Questions
   Why inconclusive insights?
     Endogenous      boards (Hermalin and Weisbach (2003))
          Endogenous association between board composition and firm
           performance or firm value
          Board events hardly random, confounding with other news: i.e.
           CEO turnover coinciding with earning forecast adjustments.
     Issues   with performance and firm value measures
          Majority of papers uses MB, Tobin’s Q, accounting measures
          High risk of endogeneity for those metrics
     Independent      directors do not contribute to firm value
          Fama and Jensen (1983): inside directors command superior
           information; Shivsadani and Yermack (1999): directors
           nominated on board by CEOs
          Some hints from popular press, “rubber stamp men”
                                                                                   Slide 4




Research Questions
   Are independent directors good for firm value?
       Solutions: using exogenous events on directors
       Johnson, Magee, Nagarajan and Newman (1985)
            53 executive deaths from 1971 to 1982
            Positive stock price reaction to the death of founder-CEOs and negative
             reaction to professional CEOs

       How do the market react to sudden deaths of
        independent, “gray,” and inside directors?
       Does independence matter?
   What are the determinants of contributions of
    independent directors to firm value?
       Independence? Expertise? Monitoring and advisory
        needs?
                                                      Slide 5




Hypotheses
   If an independent director efficiently monitors
    and/or provide the managers with pertinent
    advice, firm value should be reduced when he
    dies suddenly.
   The potential contributions of independent
    directors to firm value depend on their
    independence and expertise, as well as on the
    firm monitoring and advisory needs
                                                                           Slide 6




Principal Findings
   Following the death of an independent director,
    stock price drops by almost 1% on average
       Significant and negative CARs: firm value reduced by $40 million
       No significant stock price reaction for other directors
   Independence matters and is valuable
       Markets react less negatively when independent directors hold
        long tenure, and are appointed after the CEO
       Results hold when controlling for director-invariant variation (e.g.
        ability, experience, and skills) using a fixed-effect approach
   Value of independent directors is lower in complex
    and opaque firms where monitoring is less
    effective
                                                                      Slide 7




Sample Selection
   News search on deaths of corporate directors
       From January 1, 1994 to December 31, 2007
       Sources: Factiva, Lexis-Nexis, SEC Edgar
   Keyword search terms
       Broad and sophisticated search windows
       Directors (board member, chairman & director)
       Death (deceased, died, passed away, etc.)
   Gross-sample of 772 deceased directors
       Detailed follow-up search to determine cause of death
       Director name search in a one-year window around the death
   Final sample
       229 directors who suddenly died, and who hold 279 directorships
                                                              Slide 8




                               Table I
                       Cause of Director Deaths

                                            N     Share of total
A. Cause of death
   Cancer                                   156       0.202
   Complications from specified deceases     67       0.087
   Complications from surgery                20       0.026
   Sudden death                             229       0.297
   Suicide                                   6        0.008
   Unspecified illness                       97       0.126
   Undisclosed                              197       0.255
 All                                        772       1.000
                                                                         Slide 9




Event Definition
   Definition of sudden deaths
     Oxford    English Dictionary
          Sudden death: a noun means of deciding the winner in a
           tied match, in which play continues and the winner is the first
           side or player to score
     Medical    definitions
          Sudden death: an unexpected and nontraumatic death that
           occurs instantaneously or within a few hours of an abrupt
           change in the person's previous clinical state [American
           Academy of Pediatrics]
          Example: sudden cardiac death (SDC) is defined as a
           nontraumatic, nonviolent, unexpected event resulting from
           sudden cardiac arrest within 6 hours of a previously witnessed
           state of normal health [American Academy of Pediatrics]
                                                                       Slide 10




Event Definition
   We follow the medial definition whenever possible
   Our definition includes
       Strokes, heart attach where death occurs within 24 hours
       Accidents with instantaneous death
       Deaths reported as sudden and unexpected but actual cause of
        death unreported
   Our definition excludes
       Reported declining health prior to the death
       Brief illness, cancer, declining health, etc.
       Complications of a stroke or heart attack, timing unknown
       Suicides (5 cases)
                                                                               Slide 11




                           Table I
                   Cause of Director Deaths

                                                        N     Share of total
B. Cause of sudden death
   Heart attach                                         89        0.389
   Stroke                                               18        0.079
   Accident or murder                                   45        0.197
   Sudden and unexpected death, but unspecified cause   77        0.336
 All                                                    229       1.000
                                                                        Slide 12



Prominent Examples
   Accidents account for 45 out of 229 cases
       20 airplane/helicopter crashes
       15 traffic accidents
       5 fall incidents: accident during polo game
       2 drowned while swimming / snorkelling on vacation
       2 murdered: carjacking, arson (fire)
       1 died from a shooting incident during a hunting trip
   Individual cases
       Jerry R. Junkins, independent director of P & G: heart attack
        during business trip, May 29, 1996
       James Richard Cantalupo, CEO and Chairman of McDonalds
        (Inside): heart attack while attending convention, April 19, 2004
       Susan T. Buffet, gray director of Berkshire Hathaway: stroke, July
        28, 2004
       John T. Walton, inside director of Wal-Mart: ultralight aircraft
        crash, June 27, 2005
       Bruce R. Kennedy, gray director of Alaska Airways: plane crash,
        June 28, 2007
                                                                       Slide 13




2. CAR Around Sudden Deaths
   Event windows
       From day-1 to 0; from day -1 to +1; from day -1 to +2
   Cumulative abnormal returns (CARs)
       Market model estimated in a pre-event window from day -300 to -
        46
   Table V
       Negative CARs for the pooled sample, but not significant
       Negative and significant CARs for independent directors: firm value
        reduced by 0.96% during the (-1; +2) window
       No consistent and significant CARs for gray or inside directors
                                                                                                    Slide 14


Table V: CARs Arounds Sudden Deaths
Returns                          Event    N     Mean     Patell     Positive:   Median    Sign
                                 period         return     Z        Negative    return    rank
                                                                                           test
Panel A: All Directors
Cumulative abnormal return       (-1+0)   279   -0.53     -1.209    137:142      -0.04   0.701
Cumulative abnormal return       (-1+1)   279   -1.03    -1.552*    131:148      -0.21   -0.019
Cumulative abnormal return       (-1+2)   279   -0.74     -0.720    128:151      -0.24   -0.379

Panel B: Independent Directors
Cumulative abnormal return       (-1+0)   109   -0.47    -1.669**    47:62       -0.28    -1.074
Cumulative abnormal return       (-1+1)   109   -0.73    -1.751**    51:58       -0.28   -1.293*
Cumulative abnormal return       (-1+2)   109   -0.96    -1.818**    43:66       -0.45   -1.652**
Panel C: Gray
Cumulative abnormal return       (-1+0)   57    0.83     0.857       35:22       0.43    0.319
Cumulative abnormal return       (-1+1)   57    -0.61    -0.367      31:26       0.19    -0.441
Cumulative abnormal return       (-1+2)   57    -0.22    -0.151      29:28       0.17    -0.249

Panel D: Gray & Non-founder Inside Directors
Cumulative abnormal return       (-1+0)   134   -0.24     0.873      71:63       0.14    0.054
Cumulative abnormal return       (-1+1)   134   -1.22     0.007      64:70       -0.12   -0.970
Cumulative abnormal return       (-1+2)   134   -0.49     1.203      71:63       0.28    0.264
Panel E: Gray & Inside Directors
Cumulative abnormal return       (-1+0)   170   -0.56    -0.213      90:80       0.10     -0.491
Cumulative abnormal return       (-1+1)   170   -1.22    -0.588      80:90       -0.14   -1.304*
Cumulative abnormal return       (-1+2)   170   -0.60    0.532       85:85       0.01     -0.185
                                                                       Slide 15




3. Independence and Stock Price Reaction (1)
   If independence matters market response to
    unexpected deaths varies with the degree of
    independence
   Cross-sectional regressions of price reaction on
    proxies for the degree of independence
       Event window from -1 to +2
       WLS regressions: market capitalization used to weight stock price
   Proxies for degree of independence of directors
       Absolute tenure of director (Hermalin, Weisbach (1998), Carter
        and Lorsch (2004))
       Relative tenure of independent director in comparison to the CEO.
        (Shivsadani and Yermack (1999)). Rational: CEOs might be
        involved in the selection of directors
       Control variables: firm size, firm age, director age, industries
                                                          Slide 16




3. Independence and Stock Price Reaction (2)
   Independence is valuable
     Stock  prices react less negatively when the
      independent director has long tenure or when
      appointed to the board after the CEO
     Stock price drops by -2.69% and only by -1.16%
      following the death of an independent director with one
      year and ten year of tenure respectively
     If tenure over 17 years: stock price reaction becomes
      positive
                                                                                     Slide 17



 Table VI: Independence and Stock Price Reaction
                           (1)          (2)          (3)          (4)          (5)

Independent             -0.0124***   -0.0143***   -0.0258***   -0.0155***   -0.0436***
                          (-3.50)      (-3.78)      (-3.74)      (-3.44)       (4.72)
Tenure                                              0.0002                    0.0003
                                                    (0.59)                     (0.71)
Independent * Tenure                               0.0010**                  0.0019***
                                                    (2.01)                     (3.19)
Independent *                                                   0.0032       0.0218**
Appointed by CEO                                                (0.50)         (2.84)

Director age                         -0.0005**    -0.0008**     -0.0005*    -0.0007**
                                       (-1.85)      (-2.49)      (-1.68)      (-2.18)
Market capitalization                -0.0029**     -0.0026*    -0.0029**     -0.0023*
                                       (-2.07)      (-1.85)      (-2.06)      (-1.66)
Market-to-book                        -0.0038*     -0.0037*     -0.0039*    -0.0039**
                                       (-1.90)      (-1.86)      (-1.92)      (-2.00)
Firm age                              0.0139**     0.0097**    0.0146***    0.0012***
                                       (4.16)       (2.69)       (4.02)       (3.24)

Industry effects           No           Yes          Yes          Yes          Yes

Adj. R-squared            0.043        0.228        0.252        0.226        0.278
N                          279          279          279          279          279
                                                                            Slide 18



4. Independence in Crucial Board Functions
   Independent directors assume the critical functions where
    insiders have potential conflicts of interest
       The SOX (2002): chairmen and members of audit committees must be
        independent and have competence in accounting and auditing
       Outside directors occupy important board committees: audit, nomination,
        compensation
   If crucial board functions valuable, stock price react more
    negatively when the independent chairmen or members of
    such committees suddenly die
   Table VII: Audit Committee seems to be the most
    important body in boards; No effect on Nomination,
    Compensation, Separation between Chairman and CEO
   Shivsadani and Yermack (1999) explanation
                                                                                                       Slide 19



Table VII: Independence in Crucial Board Functions
                            (1)          (2)          (3)          (4)          (5)          (6)

Independent director     -0.0148***   -0.0102**    -0.0169***   -0.0249***   -0.0152***    -0.0164**
                           (-3.92)     (-2.57)       (-3.36)      (-4.50)      (-4.00)       (2.44)
Independent chairman      -0.0063                                                          -0.0203**
                           (-0.76)                                                           (-2.31)
Independent audit                     -0.0186***                                          -0.0200***
                                        (-3.11)                                              (-2.88)
Independent                                         0.0028                                  0.0078
Compensation                                        (0.47)                                   (1.27)
Independent                                                     0.0130**                    0.0081
Nominating                                                       (2.31)                      (1.27)
Independent director *                                                        -0.0117       -0.0093
Separation of power                                                            (-1.05)       (-0.86)

Director age             -0.0005*     -0.0005*     -0.0006**    -0.0008**    -0.0005*      -0.0005
                           (-1.80)      (-1.88)     (-2.00)       (-2.61)     (-1.70)       (-1.51)
Market capitalization    -0.0029**    -0.0033**    -0.0032**    -0.0037**    -0.0032**    -0.0037**
                           (-2.09)      (-2.47)     (-2.28)       (-2.66)     (-2.25)       (-2.55)
Market-to-book            -0.0035      -0.0017     -0.0034*      -0.0030     -0.0036*      -0.0014
                          (-1.77) *     (-0.86)     (-1.72)       (-1.55)     (-1.79)       (-0.69)
Firm age                 0.0134***    0.0164***    0.0144***    0.0148***    0.0135***    0.0179***
                           (4.07)       (4.91)       (4.00)       (4.49)       (4.77)       (4.90)

Industry effects            Yes          Yes          Yes          Yes          Yes          Yes

Adj. R-squared             0.222        0.220        0.224        0.273        0.227        0.273
N                           215          215          215          215          215          215
                                                                Slide 20



5. Isolating Independence from Ability and Skills
   Negative stock price reaction might be due to
    independent directors being more skillful than
    inside or gray directors
   Measurable and observable proxies for skills,
    mostly related to educational backgrounds
               96% of all directors hold a bachelor degree,
     Education:
      11% a MBA degree, 11% a PhD degree
   Table VIII
     Column  (1): education has little explanative power
     Columns (3), (4): fixed effect regressions, controlling
      for any director-invariant heterogeneity
     Independence is truly valuable
                                                                           Slide 21


Table VIII: Isolating Independence from Ability and Skills
                               (1)          (2)        (3)        (4)
 Independent                -0.0128***    -0.0284    -0.0294*   -0.0334*
                              (-3.13)      (-1.59)    (-1.96)    (-1.92)
 Post-graduate              -0.0123**    -0.0111*
                              (-1.98)      (-1.73)
 Independent * Post-grad.                  0.0143
                                            (0.16)
 MBA                         0.0018       -0.0041
                             (0.91)        (-0.43)
 Independent * MBA                         0.0098
                                            (0.80)
 PhD                         0.0010        0.0054
                             (0.05)         (0.13)
 Independent * PhD                        -0.0072
                                           (-0.16)
 Director age               -0.0006*     -0.0005*
                             (-1.87)       (-1.77)
 Market capitalization      -0.0034**    -0.0030**              -0.0071
                             (-2.24)       (-2.35)               (-1.56)
 Market-to-book             -0.0030**     -0.0030               -0.0080
                             (-2.24)       (-1.38)               (-0.90)
 Firm age                   0.0166***    0.0159***               0.0198
                              (4.32)        (4.03)                (1.63)
 Industry-effects              Yes           Yes       Yes         Yes
 Director Fixed-effects         No            No       Yes         Yes
 Adj. R-squared               0.228         0.024     0.487       0.504
 N                             192           190        77          71
                                                          Slide 22



5. Monitoring and Advisory Needs, and Value
of Independence
   Independent directors supposed to both monitor and
    provide advice to the managers
   Conjecture: price reaction less negative in firms
    where effective monitoring is more difficult, and
    whenever advice requires firm-specific knowledge
   Proxies for monitoring and advisory needs based on
    level of intangible assets (Opacity) and number of
    business segments (Complexity)
   Table IX: independent directors less effective (i.e. less
    valuable) when firms are more opaque and more
    complex
                                                                                        Slide 23


Table IX: Monitoring and Advisory Needs, and Value of Independence
                                        (1)         (2)          (3)          (4)
  Independent                        -0.0162**   -0.0158***   -0.0224***   -0.0360***
                                      (-2.58)      (-2.77)      (-3.15)      (-4.44)
  Independent * Opaque                0.0181*
                                       (1.89)
  Opaque                              -0.009
                                      (-1.39)
  Independent * Intangibles                       0.0361*
                                                    (1.72)
  Intangibles                                     -0.0068
                                                   (-0.46)
  Independent * Complex                                        0.0161*
                                                                (1.96)
  Complex                                                     -0.0151**
                                                               (-2.40)
  Independent * Number of segments                                         0.0068***
                                                                             (3.51)
  Number of segments                                                       -0.0020**
                                                                            (-2.40)
  Director age                       -0.0004*    -0.0005**    -0.0004*     -0.0004*
                                       (1.74)      (-2.23)     (-1.83)      (-1.82)
  Market capitalization              -0.0007      -0.0003      0.0007      -0.0003
                                      (-0.58)      (-0.26)      (0.56)      (-0.24)
  Market-to-book                     -0.0032*     -0.0024     -0.0027      -0.0026
                                      (-1.93)      (-1.43)     (-1.61)      (-1.56)
  Firm age                           -0.0005       0.0002      0.0022       0.0020
                                      (-0.18)       (0.06)      (0.71)       (0.67)
  Industry-effects                     Yes          Yes          Yes          Yes
  Adj. R-squared                      0.049        0.049        0.094        0.120
  N                                    249          249          279          279
                                                                            Slide 24




Summary
   Paper to provide direct evidence on value-
    enhancing independent directors
       Firm value reduced by 1% after sudden death
       No significant reaction to the death for inside or gray directors
   Independence is valuable
       Tenure and appointment before the CEO are determinants
       Independence is more valuable in Audit Committees
   Firm monitoring and advisory needs affect the
    value of independent directors

				
DOCUMENT INFO
Shared By:
Categories:
Tags:
Stats:
views:15
posted:9/14/2011
language:English
pages:24
handongqp handongqp
About