Director Liability Protection and the Quality of Outside Directors

Director Liability Protection and the Quality of Outside Directors

Ronald Masulis, Sichen Shen, Hong Zou

Series number :

Serial Number: 
672/2020

Date posted :

April 21 2020

Last revised :

April 21 2020
SSRN Share

Keywords

  • Legal liability • 
  • board of directors • 
  • board quality • 
  • litigation • 
  • derivative suits

We investigate how state Universal Demand statutes (UD) affect recruitment and retention of outside directors. UDs require plaintiffs to obtain board support before a derivative suit can commence. This requirement significantly increases the legal hurdle that derivative lawsuits must meet, therefore lowering their frequency and the potential director legal liability.

Using a difference-in-differences analysis, we document significant improvements in outside director experience and reputation following UD adoptions. This is stronger for firms facing greater litigation risk or smaller local supplies of director candidates. UD adoptions also make high-quality director candidates from non-UD states firms more willing to join boards at firms incorporated in UD states. We find some limited evidence that UD adoptions help attract outside director candidates with better educational and professional backgrounds, and reduce voluntary departures of high-quality directors.

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Authors

Real name:
Sichen Shen
Real name:
Hong Zou