Litigation Risk and the Independent Director Labor Market

45 Pages Posted: 12 Nov 2019 Last revised: 8 Jan 2020

See all articles by Dain C. Donelson

Dain C. Donelson

University of Texas at Austin - Red McCombs School of Business

Elizabeth Tori

Texas A&M University - Department of Accounting

Christopher G. Yust

Texas A&M University

Date Written: October 1, 2019

Abstract

Does litigation risk affect board composition and compensation-related issues for independent directors? We exploit an unexpected decision by the Delaware Supreme Court, which lowered the liability threshold only for directors in derivative litigation over their own compensation to answer this question. We find that the market, firms and directors all reacted to this rare increase in director-only litigation risk. First, Delaware firms experienced significant negative short-window returns, concentrated in firms with high return volatility (higher litigation risk firms), where equity compensation is most important. These results are consistent with investor concerns about attracting and/or retaining qualified directors. Further, higher risk Delaware firms added more qualified directors to the compensation committee. In contrast, lower risk Delaware firms decreased director equity compensation and their directors decreased insider trading activity. Overall, results are consistent with firms and directors acting to mitigate litigation concerns.

Keywords: Director Labor Market, Derivative Litigation, Board Composition, Director Compensation, Insider Trading, Litigation Risk, Entire Fairness Standard

JEL Classification: G30, G32, J3, K22, K41, M12, M52

Suggested Citation

Donelson, Dain C. and Tori, Elizabeth and Yust, Christopher G., Litigation Risk and the Independent Director Labor Market (October 1, 2019). Available at SSRN: https://ssrn.com/abstract=3479341 or http://dx.doi.org/10.2139/ssrn.3479341

Dain C. Donelson

University of Texas at Austin - Red McCombs School of Business ( email )

Austin, TX 78712
United States
512-232-3733 (Phone)

Elizabeth Tori

Texas A&M University - Department of Accounting ( email )

430 Wehner
College Station, TX 77843-4353
United States

Christopher G. Yust (Contact Author)

Texas A&M University ( email )

430 Wehner
College Station, TX 77843-4353
United States
979.845.3439 (Phone)

HOME PAGE: http://www.christopheryust.com

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