Voluntary appointment of independent directors: evidence from Taiwan

• DOI: https://doi.org/10.1108/CG-07-2020-0292
• Published date: 02 June 2021
• Date: 02 June 2021
• Pages: 1318-1336
• Subject Matter: Strategy,Corporate governance
• Author: Mao-Feng Kao,Lynn Hodgkinson,Aziz Jaafar

Voluntary appointment of independent

directors: evidence from Taiwan

Mao-Feng Kao, Lynn Hodgkinson and Aziz Jaafar

Abstract

Purpose –Using a data set of Taiwanese listed firmsfrom 2002 to 2015, this paper aims to examine the

determinantsto voluntarily appoint independentdirectors.

Design/methodology/approach –This study uses panel estimation to exploit both the cross-section

and time-series nature of the data. Further, this paper uses Tobit regression, generalized linear model

(GLM) in the additional analysis and the two-stage leastsquares to mitigate for a possible endogeneity

issue.

Findings –The main findings show that Taiwanese firms with large board sizes tend to voluntarily

appoint independent directors and firms that already have independent supervisors more willingly to

accept additional independent directors onto the board. Furthermore, ownership concentration and

institutionalownership are positively associated withthe voluntary appointment of independent directors.

On the contrary, firms controlled by family members are generally reluctant to voluntarily appoint

independentdirectors.

Research limitations/implications –The findings are importantfor managers, shareholders, creditors

and policymakers. In particular, when considering the determinants of the voluntary appointment of

independent directors, the results indicate that independent supervisors, outside shareholders and

institutional investors are significant factors in influencing effective internal and external corporate

governance mechanisms. This research work focuses on the voluntary appointment of independent

directors. It would be interesting to compare the effectiveness of voluntary appointments with a

mandatoryappointment within Taiwan andwith other jurisdictions.

Originality/value –This study incrementallycontributes to the corporategovernance literature in several

ways. First, this study extends the earlier research by using a more comprehensive data set of non-

financial Taiwanese firms and using alternative methodologies to investigate the determinants of

voluntary appointmentof independent directors. Second,prior studies tend to neglect the possible issue

of using a censored and fractional dependent variable, the proportion of independent directors, which

might yield biased and inconsistentparameter estimates when using ordinary least squares regression

estimation.Finally, this study addresses the relevanteconometric issues by using theTobit, GLM and the

two-stageleast squares for a possible endogeneityconcern.

Keywords Ownership structure, Board characteristics, Independent directors

Paper type Research paper

1. Introduction

The global financial crisis and numerous corporate debacles have prompted extensive

internal corporate governance reforms across different jurisdictions. In the USA for

example, Congress passed the Sarbanes-Oxley Act (SOX) in 2002, which requires

companies to strengthen their corporate governance by stipulating that every public

company has to establish an audit committee, which must consist solely of independent

directors. Similarly, The UK corporate governance code states that at least one-third of the

total number of directors on the board should be non-executive directors. Elsewhere, many

jurisdictions including China, India, South Korea, Malaysia and Singapore also adopted

similar corporate governance reforms and required listed firms to appoint independent

Mao-Feng Kao is based at

the Department of

Accounting, National Dong

Hwa University, Hualien,

Taiwan. Lynn Hodgkinson

is based at the College of

Business Law Education

and Social Sciences,

Bangor University, Bangor,

UK. Aziz Jaafar is based at

Bangor Business School,

Bangor University, Bangor,

UK.

Received 15 July 2020

Revised 24 December 2020

9 March 2021

Accepted 16 March 2021

PAGE 1318 jCORPORATE GOVERNANCE jVOL. 21 NO. 7 2021,pp. 1318-1336, ©Emerald Publishing Limited, ISSN 1472-0701 DOI 10.1108/CG-07-2020-0292

directors (Black and Kim, 2012). Taiwan, which is the focus of this study, has also

implemented a series of reforms to enhanceits corporate governance mechanisms and one

of the most dramatic reforms was to introduce an independent director system. In

particular, from February 2002, firms that apply for initial public offerings on the Taiwan

Stock Exchange (TWSE) have been required, to appoint at least two independent directors.

However, this rule is not applicable to firms listed before that date, which are free to

voluntarily appoint independent directors. Hence, Taiwanese listed firms can be divided

into two groups, i.e. one is required by the authorities to appoint independent directors,

while the other is encouraged but not forced to appoint independent directors. Unlike the

aforementioned countries that have strictly demanded all listed firms to enhance board

independence, as the initial stage of theircorporate governance reforms, the new regulation

in Taiwan has a unique setting, i.e. “stringent enforcement” for firms that went public after

February 2002 and “flexible encouragement” for firms that were listed prior to February

2002. We take advantage of this exclusive setting which is considerably different from that

of other countries and in doing so, we examine the determinants for existing Taiwanese

listed firms with the discretionaryright to voluntarily appoint independent directors.

One of the main functions of the board of directors is to monitor and discipline top

management (Fama, 1980). That is to say, the corporate board is viewed as an ultimate

internal monitor of the firm and its role is to provide a relatively low-cost mechanism for

replacing or reassigning top managers(Fama and Jensen, 1983a;Hermalin and Weisbach,

1998). Fama and Jensen (1983b) also argue that the corporate board can bring a valuable

support function to the top managers in coping withspecialized decision-making problems.

Using the Taiwanese data set, Young et al. (2008) and Chou et al. (2018) provide evidence

of the initial stage of the reforms in 2002. Therefore, we argue that it is important to provide

further analysis on the determinants of board independence in Taiwan where the capital

market is characterized as weak shareholderprotection (Hsu et al.,2018).

The percentage of firms with the voluntary appointment of at least oneindependent director

increases considerably from a low of 9% at the beginning of the corporate governance

reforms in 2002 to 41% in 2015. Accordingly, the issue of the determinants of the voluntary

appointment of independent directors for Taiwanese firms that are free from the mandatory

requirement is an interesting research topic. Our main results show that Taiwanese firms

with large board sizes tend to voluntarily appoint independent directors. In addition, we

observe that firms that already have independent supervisors more willingly appoint

additional independent directors onto the board. As for ownership structure variables,

ownership concentration is positively associated with the voluntary appointment of

independent directors. Moreover, we find that institutional ownership is a significant

determinant of board independence. Our results also show that firms controlled by family

members are reluctant to voluntarilyappoint independent directors.

This study contributes to the corporate governance literature in several ways. Firstly, this study

extends the earlier research by using a more comprehensive data set of non-financial

Taiwanese firms and using alternative methodologies to investigate the determinants of

voluntary appointment of independent directors. In particular, we add to the extant literaturethe

important roles of board size and ownership concentration in the appointment of independent

directors. Secondly, prior studies tend to neglect the possible issue of using a censored and

fractional dependent variable, the proportion of independent directors, which might yield

biased and inconsistent parameter estimates when using ordinary least squares (OLS)

regression estimation. Finally, this study addresses the relevant econometric issues by using

the Tobit regression (Brooks, 2008), generalized linear model (GLM) (Papke and Wooldridge,

1996) and the two-stage least squares for a possible endogeneity concern (Chou et al., 2018).

The remainder of this paper is structured as follows. Section 2 presents a review of the

Taiwanese institutional background. Section 3 discusses the prior literature as to the

determinants of board independence and the development of hypotheses. Section 4

VOL. 21 NO. 7 2021 jCORPORATE GOVERNANCE jPAGE 1319