This study examines how an external shock that lowers independent directors’ litigation risk affects firms’ investment behaviour. Exploiting the staggered enactment of Director-Liability-Reduction (DLR) laws across U.S. states between 1986 and 2002, and using a difference-in-differences design, we find that firms’ long-term investment declines following the enactment of DLR laws. We also find that the reduction cannot be explained by financial constraints or by a lack of growth opportunities. Overall, our results suggest that a regulation intended to encourage independent director participation may have unintentionally weakened board effectiveness, leading to curtailed long-horizon investment.
Li et al. (Sun,) studied this question.