Effects of Outsider’s Monitoring on Capital Structure and Corporate Growth Strategy: Evidence from a Natural Experiment

Min and Smyth (2014) report a positive impact of change in board structure on firm productivity.

Prior to this reform, virtually no Korean firms had outside directors. There has also been criticism about the effectiveness of outside director systems in Korea by pointing out low rejection rates in board meetings partly due to the outsider’s personal relationship with the CEO and the possibility of replacement when outsiders vote against the management plans (Kim and Lee 2015). A counter argument to this criticism is that management teams usually communicate with outsiders prior to board meetings to avoid official conflicts and thus the low rejection rates do not measure the effectiveness of the system (from the author’s conversation with multiple scholars who are working as outside directors). People in favour of the system also add that the existence of outsiders itself is a pressure to management. We notice that existing arguments are somewhat impressionistic without any rigorous analysis. As such, this controversy also justifies our study which is based on samples from (virtually) all listed companies.

Similarly, university graduates prefer chaebols to non-chaebols for their jobs. Because of this high demand, the annual job-entry examinations organised by chaebols such as Samsung have been regarded as one of the hardest tests in Korea.

The financial statement information includes tax shields (debt and non-debt tax such as corporate, personal and non-debt related taxes such as tax deduction for depreciation and investment tax credits), growth, profitability, size, earnings volatility, industry classification and asset structure (i.e., collateral value of assets).

Chaebol has been a contentious issue in Korea in many aspects. Refer to Moskalev and Park (2010) for chaebol’s value management, Song and Han (2015) for stock market reaction to corporate crime, Oh et al. (2011), Ahn and Park (2016), and Chang et al. (2015) for corporate social responsibility.

As at the end of June 1998, 104 firms which include 12 affiliates of the bankrupted Daewoo group were selected for the workout programmes.

Subsequently amended laws including the Securities and Exchange Law require firms to increase the ratio of outside directors to total board members if the size of their assets is large. This condition also suggests that the size of assets of a firm mattered when board reforms were introduced. However, we did not consider the size of assets for the excluded instruments because asset variable is one of the included regressors.

Alternative measure of earnings is to use cash flow net of interest expenses. However, this variable may proxy for a firm’s capital structure rather than for the availability of internal funds (Lang et al. 1996).

We thank an anonymous reviewer for this suggestion.