The Value of Prominent Directors: Corporate Governance and Bank Access in Transitional Japan

Abstract

Although some observers urge modern transitional economies to rely on bank finance rather than stock markets, in "transitional" Japan at the opening of the 20th century large firms did not rely on debt. Instead, they raised their funds through the stock market, and took a variety of steps to mitigate the agency slack involved. As one of those steps, they sometimes recruited prominent investors to their boards.

We explore the value of director prominence. More precisely, we use data on firms in the cotton-spinning industry in early 20th century Japan to explore the relationship between board composition and firm profitability. First, we find that firms who hired prominent directors had higher profits than their competitors in succeeding years. We hypothesize that these prominent directors brought basic monitoring skills and certifying credibility: they knew what to expect of the firms, knew when and how to intervene, and had the reputations necessary to certify firm quality credibly. Second, we find that firms did not further increase their profitability by appointing directors with access to a bank or to spinning technology. We conclude that the firms probably had access to funds and technological assistance without connections through the board.