The Functions And Value Of Independent Directors In China

This paper studies the functions and internal mechanism of independent directors,and their contributions to listed companies in China’s institutional environment.The traditional theory holds the view that the independent directors can enhance the corporate value through playing monitoring and advisory roles.In 2001,China Securities Regulatory Commission introduced the independent director system in the hope of improving corporate governance and protecting the rights and interests of minority shareholders.However,during 20 year’s development in China,the evaluations of independent director system are quite different.The independent director system developed in the mature western markets(such as the United States),where listed companies are highly fragmented.As a typical transition economy country,the formal institutions are not mature in China and the equity of listed companies is highly concentrated.There are huge differences in the institutional environment and corporate characteristics.In China,whether independent directors make contributions to the listed companies and how they play their due roles is worth in-depth study.According to agency theory,independent directors can alleviate agency problems and prevent controlling shareholders and management from encroachment of interests,so one of the important functions of independent directors is supervision.In the concept of “friendly board”,the independent directors can provide legal and financial aspects of professional knowledge and advice,the management experience in the other enterprise.Thus,the second function of independent directors is consulting.At the same time,independent directors can obtain key information and resources related to the development of the company in social networks,so as to reduce the uncertainty in the development process of the enterprise and improve the performance of the enterprise.Therefore,the third function of independent directors is to provide resources.To sum up,the functions of independent directors are supervision,consulting,and resource functions.The domestic study on independent directors has experienced some changes: from the early research on the traditional functions of monitoring and advisory of independent directors to the research on the resource function of independent directors.After the waves of anti-corruption,how independent director system develop in the future has gradually been the hot topic.However,there is no consensus on whether independent directors can improve corporate governance and corporate performance.In addition,there are some deviations in the selection of indicators in the existing literature,which lead to research errors.Finally,most of the researches on independent directors focus on whether they perform their duties,and lack of internal mechanism verification.Therefore,this paper aims to study the current situation and internal mechanism of independent directors’ duty performance in China’s institutional environment,as well as their value to listed companies,so as to get a more comprehensive,dynamic and indepth conclusion.This paper builds the game model,uses Heckman two-stage regression model,panel(Poisson)fixed effects model,the instrumental variable method,natural experiment method,the event study methodology and difference-in-difference regression model to investigate three functions of independent directors and the real value of listed companies.The research findings of this paper are as follows.First,the empirical study of the first part of this paper is about the monitoring function of independent directors.We construct the game model of violation and independent directors’ supervision,and then analyze the monitoring behavior,especially the dissenting behavior and motivation of independent directors theoretically and empirically.The results show that independent directors’ objection cannot reduce the illegal behavior of listed companies,because there is a principal-agent relationship between independent directors and shareholders,especially small and medium-sized shareholders.The key motivation of independent directors’ objection supervision is to balance allowance and reputation to maximize personal interests.Therefore,the main motive of independent directors’ objection is to discharge their responsibilities rather than to fulfill their duties,and the supervision role of independent directors is not significant.In addition,the conclusion does not simply point out the so-called "dark side" of independent director monitoring listed companies in China.This study shows that we should be fully aware of the fact that the independent director is also a rational economic man.Only by giving them appropriate external incentives and affecting the costs and benefits of independent directors’ supervision,can independent directors fulfill their duties without shirking their responsibilities.Second,the second part of this paper is the empirical study of the independent director’s advisory function.The second part is mainly from the perspective of human capital of independent directors to investigate the advisory role of independent directors.Based on the industry background of independent directors,this paper investigates the consulting function of independent directors with industry experience and their effect on listed companies.The results show that there is a significant positive correlation between independent directors’ industry experience and enterprise value,and this significant positive impact mainly depends on their working experience as executives and academic experience in universities and scientific research institutions.After controlling endogeneity with natural experiments,the results are still significant and robust.We also find that the experienced independent directors make use of their "industry experts" advantages to enhance the enterprise’s investment efficiency,operation efficiency and profitability to play the consulting function,so as to enhance the enterprise value.Third,the third part of this paper is the empirical study of the independent director resource function.Independent directors have rich social relations,which is a convenient channel for the company to obtain external key resources.There are many forms of resources,and it is not comprehensive to examine one form of resources alone.This paper discusses the two most representative forms of resources,information resources and political resources of independent directors.Therefore,the third part empirically tests the resource function of independent directors from these two aspects.On one hand,based on the perspective of director network,this paper empirically tests the impact of the ability of independent directors to obtain information resources in the director network on the technological innovation behavior of enterprises.This paper uses panel(Poisson)fixed effect model for empirical analysis,and finds that independent directors with more information resources have a significant positive role in promoting the technological innovation behavior of enterprises,especially for private enterprises and enterprises in areas with higher degree of marketization.In order to control the endogenous problem,the special instrumental variable method and the impact of exogenous policy are used to conduct natural experiments.In addition,we empirically test and find the channels of independent directors’ influence on technological innovation behavior: helping enterprises obtain technological information,easing financing constraints and striving for government support.On the other hand,through the natural experiment of the basic provincial Party Secretary’s failure,this paper empirically tests the resource function of independent directors in China through the event study method and the construction of difference-in-difference regression model.The short-term and long-term impact of the provincial Party Secretary’s downfall on the listed companies in the province is that the company value decreases significantly,which proves the value of independent directors.This paper further studies the specific ways for independent directors to realize the resource function under the background of political connections in China,and finds that the value of independent directors is to use their own resource advantages to help listed companies obtain key resources to enhance the value of the company,which is more prominent in private enterprises and enterprises with official independent directors.The results show that anti-corruption is conducive to the readjustment of resource allocation,the establishment of market mechanism,fair competition among enterprises and economic development.Anti-corruption can also promote enterprises to gain competitive advantage through scientific and technological progress and ability improvement.Fourth,the fourth part of the empirical study is the value of independent directors.With the help of the exogenous policy impact of the Organization Department of the CPC Central Committee,this paper studies the market reactions to the compulsory resignation of independent directors after the promulgation of the 18 th document,and examines the value of independent directors to Chinese listed companies.Considering the heterogeneity of independent directors in China,this paper uses the event study method,double difference method and OLS regression to comprehensively investigate the actual role of independent directors in the board of directors and their actual value to listed companies.The results show that the agency problem of independent directors in China is getting worse due to the lack of effective monitoring and advisory,which has a diminishing effect on the value of listed companies.The official independent directors can effectively enhance the value of listed companies by helping listed companies,especially private listed companies,obtain government-controlled resources.Therefore,the net effect of independent directors on listed companies is negative or at least not significant,while the net effect of official independent directors on private listed companies is positive,and plays an important role in rent-seeking activities.To sum up,the functions of independent directors in China gradually show alienation.When introducing the independent director system,the CSRC emphasizes that independent directors should express independent opinions on major issues of listed companies,such as nominating,appointing and dismissing directors,employing or dismissing senior managers,and related party transactions,indicating that the CSRC hopes independent directors to play a supervisory role.In fact,the supervision function of independent directors in China has been seriously weakened.Meanwhile,the consulting function can be effectively played in some cases,and there is a certain degree of heterogeneity.In addition,the derivative function of independent director,resource function,has been fully and effectively played.In addition to the information resources that are very important to the development of enterprises,the political resource function of independent directors is particularly prominent.Under the background of institutional characteristics of transitional economies,some independent directors have gradually become the channels for enterprises to obtain political resources and rentseeking activities.Therefore,independent directors also play the role of helping enterprises to establish political connections,and helping enterprises more easily obtain the key resources controlled by the government.The contributions and innovations of this paper are mainly reflected in the following aspects.Firstly,this paper studies the functions of independent directors and their contributions to Chinese listed companies.In examining the role of independent directors in the board of directors in China,this paper emphasizes the heterogeneity of independent directors and clarifies the value of different types of independent directors.Second,in the empirical method,we use the unique natural experiment to control the potential endogenous problems to examine the function of independent directors and measure the value of independent directors to listed companies;We also use the information transmission of independent directors in the network to prove that independent directors play a role in the mechanism of resource function;This paper constructs a simple game model from the perspective of cost-benefit of independent directors to analyze the motivation of independent directors’ performance.Thirdly,when we study the function of independent directors,we verify the function channels of independent directors,and get some innovative conclusions,such as shirking the responsibility and the three channels of independent directors to promote enterprise innovation.Fourth,China has a concentrated corporate ownership structure and a weak institutional environment with poor investor protection,which has many similarities with other emerging market countries.The findings in China provide sufficient new evidence for the classic theory of independent directors and certainly shed light on corporate governance in other emerging and transforming economies,which confront similar problems of the independent director system as China.