How Do Independent Directors Influence Corporate Risk-Taking? Evidence from a Quasi-Natural Experiment

18 Pages Posted: 20 Jun 2017

See all articles by Pornsit Jiraporn

Pornsit Jiraporn

Pennsylvania State University - School of Graduate Professional Studies (SGPS)

Sang Mook Lee

Pennsylvania State University - Great Valley School of Graduate Professional Studies

Multiple version iconThere are 2 versions of this paper

Date Written: June 19, 2017

Abstract

Motivated by agency theory, we explore the effect of independent directors on corporate risk taking. To minimize endogeneity, we exploit the passage of the Sarbanes-Oxley Act as an exogenous shock that raises board independence. Our difference-in-difference estimates show that board independence diminishes risk-taking significantly, as evidenced by the substantially lower volatility in the stock returns. In particular, board independence reduces total risk and idiosyncratic risk by 24.87% and 12.60% respectively. The evidence is consistent with the notion that board independence represents an effective governance mechanism that prevents managers from taking excessive risk. Additional analysis based on propensity score matching also confirms our results. Our research design is based on a natural experiment and is far more likely to show causality, rather than merely an association.

Keywords: independent directors, risk-taking, agency theory, corporate governance, board of directors, SOX

JEL Classification: G32, G34

Suggested Citation

Jiraporn, Pornsit and Lee, Sang Mook, How Do Independent Directors Influence Corporate Risk-Taking? Evidence from a Quasi-Natural Experiment (June 19, 2017). Available at SSRN: https://ssrn.com/abstract=2988769 or http://dx.doi.org/10.2139/ssrn.2988769

Pornsit Jiraporn (Contact Author)

Pennsylvania State University - School of Graduate Professional Studies (SGPS) ( email )

30 E. Swedesford Road
Malvern, PA 19355
United States
(484) 753-3655 (Phone)

HOME PAGE: http://www.personal.psu.edu/pxj11/index1.html

Sang Mook Lee

Pennsylvania State University - Great Valley School of Graduate Professional Studies ( email )

30 E. Swedesford Road
Malvern, PA 19355
United States
610-725-5391 (Phone)

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