Independent Directors and Firm Value: Evidence from an Emerging Market

Do independent directors add value to emerging market firms? Using a natural experiment that provides exogenous changes in independent directors together with unique data on all director resignations, we find that the answer to this question is “Yes!” The natural experiment we exploit is provided by the recent Satyam fiasco in India. Following the disclosure of extensive accounting fraud by the promoter family in Satyam, several independent directors resigned from other Indian firms. Since these resignations were motivated by an unexpected shock external to the firm, they were unaffected by firm- and director-specific factors coinciding with the time of the resignation. Using the extraordinarily large number of such resignations in January 2009, we find the four-day cumulative abnormal return surrounding director resignations to be -1.3%. This effect is robust even after controlling for unobserved firm and director characteristics using fixed-effects and is also reflected in ex-post firm performance as measured by Tobin's Q. Consistent with the monitoring role of independent directors, we find that the effect is disproportionately greater for those independent directors that sit on the audit committee and possess business expertise; while the effect of being in the audit committee is greater for smaller firms, the effect of business expertise is felt more in large firms. Finally, the departing independent directors are missed less in family-owned firms.