Controlling-minority shareholder incentive conflicts and directors' and officers' liability insurance: evidence from China

This paper examines the demand for directors’ and officers’ liability insurance (DandO insurance) by Chinese listed companies where controlling-minority shareholder incentive conflicts are acute due to the concentrated and split ownership structure. We hypothesize and find evidence that the incidence of seeking DandO insurance is positively related to the extent of controlling-minority shareholder incentive conflicts – a finding not previously documented in the literature. Using an event study, we find that the announcements of DandO insurance decisions in firms that engage in earnings management, and/or are controlled by a local government (such firms tend to have stronger incentives to tunnel), seem to have a negative wealth effect. In addition, the incidence of the DandO insurance decision is positively related to the proportion of independent directors and several litigation risk proxies. Therefore, the breakthrough in corporate governance and judicial reforms has created non-negligible perceived securities litigation risk in China.