Bankers in the Boardroom and Firm Performance in China

ABSTRACT

We use a dataset comprising the appointments of commercial bankers as board of directors at Chinese listed firms and find that financially distressed firms are more likely to recruit a commercial banker as a director of the board. The presence of a banker on the board increases access to bank loans, yet many investors react negatively to announcements of such appointments. We also find that such appointments are typically followed by a drop in the appointing firm’s operating performance, and an increase in rent-seeking activities. This suggests that bank directors cannot strengthen corporate governance. Most financial resources are expropriated by corporate insiders.

KEY WORDS:

• bankers
• China
• corporate governance
• firm value

Acknowledgments

We thank Ali M. Kutan (editor) and two anonymous referees for helpful comments. We also thank Tai Leung Chong, Julan Du, and Zuzana Fungacova for their helpful comments.

Funding

This article is supported by National Natural Science Foundation of China (No.71402181), the Program for New Century Excellent Talents in University (NCET-11-0495), the Fundamental Research Funds for the Central Universities, and the Research Funds of Renmin University of China (13XNJ003), and the Beijing Humanities and Social Science Program for Excellent Doctoral Dissertation Advisor (No. 20131000201).

Notes

^1. Hoshi and Kashyap (2004) find that 31.6 percent of U.S. listed firms have bankers on their boards.

^2. This connected lending is more valuable in sluggish economic situations. For example, a solid bank connection can isolate Japanese firms from cash flow shocks, reducing their investment sensitivity to the latter (Hoshi, Kashyap, and Scharfstein 1991). Likewise, according to previous studies, firms with difficulty in raising bank loans and an increased demand for external financing, such as small, young, and fast-growing companies, can reap more benefit from the enhanced access to bank financing.

^3. Shareholders generally prefer high-risk projects while bankers prefer projects that can maximize the probability of repayment rather than the expected returns to shareholders.

^4. The Administrative Measures for the Post-Holding Qualifications of Senior Managers of Financial Institutions were proposed and implemented on March 24, 2000. According to Article 14, senior managers or executives of financial institutions are prevented from working in other enterprises. However, with the approval of the PBOC and related regulatory authorities, managers or executives in commercial banks can legally work for another firm.

^5. Based on these doctrines, banker-directors will be judged to have taken actions that improve their benefits at the expense of other claimants, in the aftermath of firm failure.

^6. Delisting rules in China are not market-based. Progress on kicking out poor performers or rule breakers has been slow and was largely suspended until recent years (South China Morning Post, July 6, 2014). Only forty-nine firms have delisted from Chinese stock markets for their poor performance since the delisting policy was introduced in 2001 (China Daily, July 6, 2014). As a result, corporate insiders may not care much about the survival of their firms.

^7. The dataset includes all the details for short- and long-term debt, from which we extract bank loan items. It does not, however, disclose the maturity and interest rate of bank loans, hence we only focus on loan size in later analyses.

^8. We require a firm to be listed by 2005 for several reasons. First, firms with a new initial public offering are less likely to be financially distressed. Second, the performance before the appointment is not available for firms list after 2005. Finally, in 2005 the CSRC published the Guidance Notes on the Split Share Structure Reform of Listed Companies. The reform is designed to float nontradable legal person shares through the open market. Such legal person shares could, under the reform program, be converted to tradable A-shares. As a result, the governance structure of firms listed before 2005 is different from those listed after 2005. To examine the robustness, we also include firms that are listed after 2005. Our results remain qualitatively unchanged. For the sake of simplicity, these results are not reported, but are available upon request from the authors.

^9. We define a firm with or without banker-directors based on whether there is at least one banker-director on the board.

^10. The banker firm sample is 142 firm-year observations for 127 distinct firms, as a result, we don’t include the firm fixed effect. To check robustness, we also added firm fixed effects to the regression model. It turns out that our primary results remain qualitatively unchanged. These results are not reported, but are available upon request from the authors.

^11. About 76 percent of bankers serve as independent directors.

^12. This striking difference is due to the regulation of China’s financial institutions’ senior managers. The main provisions on this are stipulated in the Administrative Measures for the Post-Holding Qualifications of Senior Managers of Financial Institutions. The PBOC is responsible for enforcement of this law. See note 5.

^13. CEO compensation is total cash compensation and includes salary, bonuses, and commissions measured in RMB.

¹⁴ We also use the total bank loans outstanding scaled by local gross domestic product to measure the development of the local banking sectors, and our results remain qualitatively unchanged.

^15. To check robustness, we also use Tobit regression models. The results remain essentially identical in terms of the sign and magnitude of the marginal effect. For simplicity, these results are not reported, but are available upon request.

^16. This procedure allows several nearest matches for the treatment observations to be found. We try one to four matches, and the results are virtually identical. For simplicity, we only report the results of the nearest-neighbor matching.

^17. Our identification of new loans may underestimate the short-term loans that are obtained and paid back within the same year. If downward bias in short-term bank loans is random across two samples, it will have little effect on our result. Moreover, we conjecture that such bias is less likely to be randomized and that firms with banker-directors on the board are more likely to have increased access to bank loans. In this regard, the downward bias in the treatment firms is more severe, going against our result. Even with such adverse bias, we still note a considerable increase in new bank loans after a director appointment, lending more credibility to our conclusion. Our results for long-term bank loans are not affected by the imperfections in our identification.

^18. We thank the referee who brought this to our attention.

^19. We conduct the matching procedure based on all the covariates in the banker-director appointment specification, which generates a similar counterparty for each treatment observation in all the covariates affecting selection into the treatment group.

^20. In unreported results, we also test the difference in the distribution of ROA at the year-end of appointment, and no significant difference is detected.

^21. This index is a comprehensive index measuring the regional market development, and has been widely used in academic research in China (Jiang, Lee, and Yue 2010; He and Rui 2014).

^22. As compensation variables are heavily right-skewed, we use the logarithmic transformation of CEO compensation.

Additional information

Funding

This article is supported by National Natural Science Foundation of China (No.71402181), the Program for New Century Excellent Talents in University (NCET-11-0495), the Fundamental Research Funds for the Central Universities, and the Research Funds of Renmin University of China (13XNJ003), and the Beijing Humanities and Social Science Program for Excellent Doctoral Dissertation Advisor (No. 20131000201).