Whistle-Blowers on the Board? The Role of Independent ...awa2018.concurrences.com/IMG/pdf/cartel_prosecutions.pdf · penalties for engaging in price fixing. The design of these policies

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[ Journal of Law and Economics, vol. 60 (May 2017)]© 2017 by The University of Chicago. All rights reserved. 0022-2186/2017/6002-0008$10.00

Whistle-Blowers on the Board? The Role of Independent Directors in Cartel Prosecutions

Murillo Campello Cornell University

Daniel Ferrés University of Montevideo

Gaizka Ormazabal IESE Business School

Abstract

Market reactions to news of cartel prosecutions are muted when indicted firms have a high proportion of independent directors on their boards. Independent directors serving on cartel-indicted firms are penalized by losing board seats and vote support at other firms where they serve. Notably, firms with more inde-pendent directors are more likely to cooperate with prosecutors through leni-ency programs. They are also more likely to dismiss chief executive officers after cartel indictments. Our study shows that cartel prosecution imposes significant, market- based personal costs on independent directors and that they take actions to mitigate those costs.

Crompton is a prime example of a company whose independent board of directors decided to leave no stone unturned in its com-mitment to investigate, identify and report antitrust violations. . . . [T]he board’s strategy resulted in the company receiving an extraordinary reduction in its rubber chemicals fine. . . . Cromp-ton’s early cooperation allowed the Division to conserve and focus its resources and to immediately put additional pressure on other subject companies and individuals to cooperate. (Hammond 2006)

We thank an anonymous referee, Renée Adams, Dennis Carlton, John Connor, Juan Dubra, Mireia Gine, Javier Gomez-Biscarri, Igor Goncharov, Encarna Guillamon, Joe Harrington, Filippo Ippolito, Leslie Marx, Jose Luis Peydro, Miriam Schwartz-Ziv, Daniel Sokol, Valery Suslow, Xavier Vives, and seminar participants at Cambridge University, IESE Business School, INSEAD, the 2016 European Finance Association annual meeting (Oslo), the 2016 Financial Management Association Napa Conference, Lancaster University, Massachusetts Institute of Technology, Northwestern Uni-versity, Universitat Pompeu Fabra, Universidade Católica/Nova de Lisboa, Universidad de Monte-video, and the 2016 Western Finance Association annual meeting (Park City, UT) for useful com-ments and suggestions. We acknowledge funding from the Centro de Gobierno Corporativo de la Universidad Católica (Chile). Ormazabal acknowledges funding from the Ramon y Cajal and Marie Curie Fellowships and the Spanish Ministry of Science and Innovation (grants ECO2010-19314 and ECO2011-29533).

242 The Journal of LAW & ECONOMICS

1. Introduction

The prosecution of price-fixing cartels is an issue of much interest around the world. In recent years, governmental authorities have introduced a myriad of changes to existing antitrust policies, including more stringent civil and criminal penalties for engaging in price fixing. The design of these policies is a matter of substantial debate, one that calls for a wider understanding of the economic re-percussions of cartel indictments—not only for consumers but also for the inves-tors of indicted firms. In this context, the costs imposed on firms’ equity holders by cartel prosecutions lead to the question of whether corporate governance sys-tems can mitigate losses in value.

This paper contributes to the debate on antitrust policies and governance sys-tems by looking at the role played by corporate officials around cartel prosecu-tion. In particular, it examines whether market-based penalties for nonexecutive officials in firms involved in price-fixing are significant in shaping their behav-iors. It also assesses whether those officials’ incentives and actions reduce the for-mation of cartel schemes and the prosecution costs borne by shareholders. The analysis focuses squarely on independent board directors.

Focusing on independent directors is likely to result in powerful tests, as these individuals are highly sensitive to market sanctions (for example, in the form of reputational losses). Importantly, directors have powers not only to order inter-nal investigations but also to require officers and employees to cooperate with prosecutors. In some cases, boards also establish special committees and appoint outside counsel to consider applications for leniency. As a result, they constitute a set of corporate insiders whom antitrust policies can exploit in designing prose-cution policies. The focus on independent board directors, in particular, facilitates the task of identification in empirical testing. To wit, while the potential effect of reputational losses on managers could be confounded by simultaneous civil and criminal penalties, outside directors are rarely subject to court- monitored eco-nomic sanctions or imprisonment. In addition, independent directors generally have less convex economic interests in the firm’s profits than do managers and other corporate officials (who often receive stock- or option-based compensation packages). As a result, independent directors’ benefit from cartel involvement is less likely to compensate for the costs of being associated with corporate mis-behavior.

However, it is possible that the market does not impose significant penalties on independent directors of firms involved in cartels. Relative to top executives in charge of the daily operations of the firm, outside directors may be less likely to be aware of corporate misbehavior and thus more likely to be granted the pre-sumption of innocence by the market. That being said, these arguments do not eliminate the possibility that cartel prosecution harms independent directors’ reputations. And even if those directors are not believed to be the architects of price-fixing, the firm’s involvement in such schemes could be seen as evidence of incompetence.

Cartel Prosecutions 243

We study various dimensions of cartel prosecutions using a comprehensive set of US public firms indicted by antitrust authorities across various international jurisdictions between 2002 and 2012. As a starting point, we analyze the stock market reaction to first-time news of cartel prosecutions. In particular, we model abnormal equity returns to cartel indictments as a function of the proportion of independent directors serving on the boards of the firms cited. Consistent with the expectation that the personal costs of cartel involvement prompt indepen-dent directors to take corrective actions, we find that firms with larger fractions of independent directors on their boards experience significantly smaller losses in value around cartel-busting episodes. Put differently, the presence of indepen-dent directors mitigates the cost of cartel prosecutions for public market equity investors. The magnitude of the variation in equity returns is substantial. A base-line estimation suggests that a 1-standard-deviation increase in director inde-pendence—a mere one- or two-person increase in the number of independent directors in the average firm—is associated with average 1-day returns around announcements involving cartel investigations that are higher by nearly 50 basis points. This pattern is robust to the inclusion of a host of control variables and in-dustry and jurisdiction fixed effects, which suggests that the pattern we document is robust to a number of sources of unobserved variation.

To better characterize our results, we employ an approach in which we vary the degree of independence of directors’ appointments to the firm’s board. In partic-ular, we consider situations in which our sample independent directors’ appoint-ments were less attributable to the direct influence of indicted chief executive of-ficers (CEOs); we exploit cases, for example, in which directors were appointed for mandatory compliance with the Sarbanes-Oxley Act (SOX), preceded their indicted CEOs’ tenure, or followed class-action suits initiated by shareholders, among others. Our results show that the market responds even more favorably to the presence of these types of independently appointed outside directors on the boards of indicted firms following news of prosecution. Notably, the more plau-sibly extraneous conditions we add to these directors’ appointments, the stronger are the estimated mitigating effects of independent directors.

Beyond tests performed on de facto prosecuted firms, we also explore the ef-fect of prosecutory announcements on potential targets of antitrust enforcement. The discovery of price-fixing schemes often triggers further investigation of col-lusive practices in an industry (see Hammond 2009). That is, a public indictment raises the odds that peer firms operating in the same industry are also indicted. Our tests show that when the industry-wide expected probability of prosecution increases, unprosecuted firms also experience equity returns that are positively related to the proportion of independent directors on their boards. This evidence informs the debate on the efficacy of antitrust policy by showing that there are measurable externalities in cartel prosecutions and that economic spillovers are shaped by the presence of independent directors on corporate boards.

Next we turn to direct evidence of the reputational costs that independent di-rectors bear for their involvement with cartel-indicted firms. Our analysis shows


that, following prosecution announcements, directors of firms involved in cartels lose a significant number of directorships at other firms. Notably, even when di-rectors do not lose positions at other firms, they still lose voting support across their portfolio of outside directorships. These results reveal that professional di-rectors of cartel firms experience significant labor-market reputational costs fol-lowing regulatory indictments.

In the last part of our analysis, we provide evidence of the proactive role played by independent directors in cooperating with antitrust authorities and in pun-ishing managers involved in price-fixing schemes. We do so by examining two dynamics around cartel prosecutions. First, we examine the relation between the probability of applying for leniency and the presence of independent directors on boards. We show that firms with a higher proportion of independent direc-tors on their boards are much more likely to apply for leniency programs during cartel prosecutions. Second, we show that firms with a higher proportion of inde-pendent directors are more likely to replace their scandal-laden CEOs following announcements of cartel prosecution. These results indicate that independent di-rectors favor the implementation of corrective actions that aim to mitigate repu-tational damage arising from price-fixing scandals.

Our paper contributes to several strands of research. First, it adds to the eco-nomics literature on price-fixing cartels. Early empirical work (Posner 1970; Hay and Kelley 1974) examines the effect of industry characteristics (number of firms, homogeneity of goods sold, barriers to entry, and price elasticity of demand) and external factors (demand fluctuations and technological change) on cartel forma-tion and stability. More recent contributions (Dick 1996; Genesove and Mullin 2001; Levenstein and Suslow 2006, 2011) emphasize the importance of the car-tel’s internal structure (self-enforcement, service to members, and information- sharing arrangements). We add to this literature by emphasizing a corporate gov-ernance dimension and show that individual firms’ internal organization should be considered in the antitrust policy debate.

Our work also relates to the nascent research on antitrust leniency programs. While the general conclusion from the theoretical literature is that leniency pro-grams make collusion more difficult, recent work suggests that these programs can lead to more cartel formation (for recent studies on the efficacy of leniency programs, see Miller 2009; Brenner 2009; Dong, Massa, and Zaldokas 2014). Our paper advances the understanding of the efficacy of leniency programs by focus-ing on a different angle: the role played by independent board directors.

Finally, our paper extends prior work on the role of reputation as a market- based penalty that should be considered when determining criminal, civil, and administrative sanctions in the prosecution of cartels. With regard to reputa-tional costs at the firm level, prior literature finds that some types of misconduct, such as fraud, are associated with significant losses (see Alexander 1999). How-ever, for other types of misconduct, such as environmental violations, there is no evidence of losses (Karpoff, Lott, and Wehrly 2005). The evidence for whether individual-level reputational incentives are strong enough to fight corporate mis-


conduct is mixed (see Helland 2006; Agrawal, Jaffe, and Karpoff 1999; Fich and Shivdasani 2007; Ertimur, Ferri, and Maber 2012). Notably, none of the existing studies look at cartel scandals, which are serious violations of corporate conduct. Our paper identifies and measures the individual-level losses that directors suffer as a result of cartel scandals and shows that they are economically significant.

The remainder of the paper proceeds as follows. Section 2 provides background on cartel prosecution. Section 3 describes the sample and the key variables used in our study. We analyze stock-market reactions to cartel prosecutions in Sec-tion 4. The consequences of cartel prosecution for individual directors are pre-sented in Section 5. Section 6 considers independent directors’ actions around cartel prosecutions and how firms reshape their boards following price-fixing in-vestigations, and Section 7 concludes. The Appendix contains definitions of the variables.

2. Institutional Setup

2.1. Background on Cartel Prosecution and Leniency Programs

Antitrust actions have increased dramatically in recent years in both the United States and the European Union. The surge in cartel-prosecution activity was pre-ceded by an increase in the penalties associated with price-fixing and the intro-duction of leniency programs. The United States introduced the Antitrust Crim-inal Penalty Enhancement and Reform Act (ACPERA; Pub. L. No. 108-237, 118 Stat. 661) in 2004. The act increased the maximum corporate fine to $100 million, the maximum individual fine to $1 million, and the maximum prison term to 10 years. Under the alternative fine provision, corporations and individual de-fendants can be fined up to twice the financial gain resulting from a violation. In Europe, antitrust fines were substantially revised in 2006.

Leniency programs define rules for granting reductions in penalties to firms or individuals who step forward to report participation in cartel activities and provide active cooperation in investigations conducted by enforcement author-ities. In the United States, the Corporate Leniency Program was introduced in 1978 to grant full amnesty to the first informant firm. The program was amended in 1993. In 1994, the US Department of Justice (DOJ) introduced the Leniency Policy for Individuals, and in 1999 it created Amnesty Plus to decrease penalties in exchange for information about other cartels in which investigated firms were involved. Leniency programs were introduced in Europe in 1996.

The theoretical literature on antitrust action highlights the trade-offs faced in regulating cartel prosecutions. Some researchers argue that leniency programs can be an effective cartel deterrence tool (Miller 2009; Brenner 2009), as the pos-sibility of applying for leniency exacerbates conflicts of interest among manag-ers of colluding firms (Aubert, Rey, and Kovacic 2006; Harrington 2008). Others, however, argue that because firms can obtain lower fines by cooperating with prosecutors, the existence of leniency programs reduces the expected costs of car-tel involvement (Motta and Polo 2003; Spagnolo 2005).


Theoretical work also proposes that corporate governance is likely to play a role in cartel activity, since the decision to join a cartel is made at the very top of a firm’s hierarchy. Prior studies posit that certain corporate governance structures and managerial compensation schemes may facilitate collusive agreements (Har-rington 2006; Buccirossi and Spagnolo 2008). From an empirical perspective, the role of governance on cartel activity remains remarkably understudied. To our knowledge, no prior study empirically examines how the incentives of firms’ var-ious officials shape the prosecution of cartel schemes.

2.2. The Role of Corporate Boards in Cartel Investigations

Cartel investigations arise from several sources: governmental agencies inves-tigating other corporate conduct, formal complaints, amnesty applications, and proactive efforts by antitrust authorities. In the early stages of a cartel investi-gation, antitrust agencies use covert methods to gather evidence in many of the same ways that other governmental agencies gather evidence to prove other types of crimes.

Typically in the United States, the board of directors of an investigated firm learns about the ongoing cartel investigation when the DOJ issues subpoenas to request documents. Once the corporation learns that it is the target of a cartel in-vestigation, board action is required to authorize an internal investigation and to require officers and employees to cooperate with it (see Mahinka 2004). The inves-tigation is customarily conducted by the firm’s outside counsel, who reports either to a special committee of the board of directors or to the audit committee. On completion of the internal investigation, outside counsel informs the board about the nature of the conduct and the potential problems involving the company. Counsel then makes a report to the board about the direct and collateral conse-quences to the company of its participation in the suspected illegal activity. It also presents to the board the risks and benefits of making an application for leniency.

Corporate leniency applications occur after a thorough internal investigation is conducted and the board of directors supports the filing of the application. Using interviews with defense attorneys experienced in taking firms through the leni-ency process, Marx, Mezzetti, and Marshall (2015) estimate that 80–90 percent of corporate leniency applications occur in the context of an ongoing DOJ investi-gation (type B leniency), while 10–20 percent are filed before the DOJ has opened an investigation (type A leniency).

3. Data and Variable Construction

Our analysis is based on data from the Private International Cartels (PIC) da-tabase.1 The PIC database contains information on the universe of private inter-

1 The term “private” in the context of cartels is used to differentiate illegal price-fixing schemes from (public) price agreements protected by government sovereignty or international treaties, such as those established by the Organization of Petroleum Exporting Countries. The term “interna-tional” indicates that the cartel is formed by at least one corporate participant with headquarters,


national cartels detected since 1990 (for a detailed description, see Connor 2014). The data include the indicted firm’s name, its country of incorporation, the mar-kets and locations where collusion took place, the duration of the collusive agree-ment, the fines imposed, and whether the firm was granted amnesty under a plea deal.

Some cartels are first revealed to the public when fines, a guilty plea, or an in-dictment is announced in press releases by the relevant antitrust authority. In other cases, cartel investigations become known to the public as a result of the revelation of investigative events, such as surprise inspections conducted by an investigating antitrust agency. We define a first notice as the date when a cartel investigation is first publicly revealed. We collected information on first notices from press releases of antitrust authorities, such as the US DOJ, the Canadian Competition Bureau, the European Commission, and other national authorities with active anticartel programs. First-notices dates were also obtained from busi-ness newspapers, trade magazines, and news services.

We use firms headquartered in the United States with nonmissing Compu stat and Center for Research in Security Prices data for our analyses. Because our tests necessitate detailed data on board characteristics, we require that the firms be covered by Equilar.2 These refinements result in a sample of 192 American public firms involved in 200 cartels prosecuted by 41 antitrust authorities from 2002 to 2012. The number of observations used in the tests below varies according to the level of the targeted analysis. In all, our sample includes 374 firm-cartel observa-tions, 520 firm-year observations, 580 firm-cartel-jurisdiction observations, and 547 announcements.

Table 1 presents descriptive statistics for the sample firms with below- and above-median values of Independent Directors, defined as the percentage of in-dependent directors on the board.3 Table 1 presents statistics for the following core characteristics of the sample firms: MV is the firm’s equity market value; BM is the firm’s book-to-market ratio; Stock Return is the firm’s market-adjusted return over the past year; ROA is the firm’s return on assets, computed as annual operating income before depreciation scaled by total assets; Leverage is the lever-age ratio of the firm, computed as total debt scaled by total assets; and Volatility is the market-adjusted stock-return volatility of the firm. These proxies are mea-sured using the most recent accounting and market data prior to the prosecution announcement. As shown in Table 1, firms with above- and below-median values

residency, or nationality outside the jurisdiction of the investigating antitrust authority or by at least two members of different nationalities (US Department of Justice 2013).

2 The Equilar BoardEdge database provides board-composition data collected from annual proxy filings (DEF 14A) with the Securities and Exchange Commission. The database covers a large num-ber of firms starting in fiscal year 2001.

3 Following New York Stock Exchange and NASDAQ listing rules, we define a director as in-dependent if he or she has no material relationship with the listed company, either directly or as a partner, shareholder, or officer of an organization that has a relationship with the company (see Se-curities and Exchange Commission 2003).


of Independent Directors do not systematically differ in their underlying charac-teristics.4

Table 2 presents statistics on the characteristics of the 200 cartels in which the sample firms were involved. The term Number Participants is the number of firms involved in the cartel. The term Duration is the number of years from the beginning to the end of the cartel. The term Cartel Sales is the total revenues of the cartel firms during the collusive period (expressed in millions of dollars). The term Fines Cartel is the total amount of monetary fines imposed on all of the firms that participate in a given cartel (in millions of dollars). Two characteris-tics warrant attention. First, the average volume of sales affected by cartels in the sample is substantial ($49 billion). Second, firms receive substantial fines for car-tel involvement ($138 million per cartel, on average).

4 Table B1 in the online appendix also shows that the sample firms cover a wide range of indus-tries, with a relatively high level of representation of producers of chemicals and allied products, consumer nondurables, manufacturing, and financials.

Table 1Firms’ Characteristics: Summary Statistics by Percentage of

Independent Directors on the Board

Below Median Above Median Difference in Means

(p-Value)

Difference in Medians(p-Value)Mean Median Mean Median

MV 39,027 7,989 48,542 14,946 .209 .006BM .56 .45 .49 .43 .444 .754Stock Return .01 −.01 .03 .02 .368 .091ROA .01 .01 .01 .01 .722 .054Leverage .25 .24 .25 .24 .905 .960Volatility .02 .02 .02 .02 .426 .370Note. N = 520 firm-years.

Table 2Cartels’ Characteristics:

Summary Statistics

Mean MedianNumber Participants 7.67 6Duration 6.18 5Cartel Sales 49,084 3,870Fines Cartel 138 6.58Jurisdiction: United States .43 0 European Union .33 0 Canada .15 0 Other .58 1Note. N = 200 cartels.


4. Independent Directors and the Market’s Reaction to Cartel Prosecutions

We set out to investigate the role that independent directors play during ep-isodes of cartel detection and prosecution. Our first set of tests focuses on stock-market reactions to first-hand publicly revealed news about a firm’s in-volvement in a cartel prosecution. This test allows us to examine whether the presence of independent directors on the boards of cartel-indicted firms miti-gates the costs that the prosecution process imposes on those firms’ shareholders. We later examine various incentives that independent directors have to act to mitigate the costs of cartel activities. We also identify particular actions that inde-pendent directors take to correct corporate wrongdoing.

4.1. Equity Returns

To analyze the stock-market reaction to cartel indictments, we gather rele-vant dates for each cartel case in which sample firms are involved and for each jurisdiction in which the cartel is prosecuted. As an exploratory analysis of the value effect of independent directors, we partition the sample into firms with above-median and below-median percentages of Independent Directors. Figure 1 plots average cumulated (buy-and-hold) returns of cartel firms over a window (−5, 5) days around the first announcement of prosecution for each of the sam-ple cartels. As shown in Figure 1, both groups of firms experience negative re-turns around prosecutory announcements. However, firms with higher values for Independent Directors exhibit markedly less negative returns.5

More formally, we examine the association between announcement returns and the percentage of independent directors by estimating the following regres-sion model:

Abnormal Return Independent Directorsi t i t, , -= + +b b b0 1 1 2Firm Conttrolsi t

i t i t

, -

, - ,+ +1

3 1b eCartel Controls , (1)

where i indicates the firm and t indicates the date of the announcement. The term Abnormal Return is the market-adjusted return on the date of the first notice of a cartel investigation (expressed as a percentage). Equation (1) includes con-trols for variables found by prior literature to be associated with the cross section of stock returns. The vector Firm Controls includes Size, BM, and Stock Return. The term Cartel Controls includes the logarithmic transformations of Number Partici pants, Duration, Cartel Sales, and Fines Cartel. Finally, we include juris-diction and industry fixed effects to control for antitrust authorities’ institutional

5 The difference in returns between the two groups in Figure 1 is statistically significant and robust to alternative measures of returns (market-adjusted buy-and-hold raw returns or average abnormal returns computed using a three-factor Fama and French plus momentum model).


characteristics and industry characteristics.6 Standard errors are clustered at the cartel level to account for the fact that errors for observations from the same car-tel may be correlated.

Table 3 presents the results from estimating equation (1). The estimations sug-gest that the proportion of independent board members is positively associated with the prosecution-announcement returns; the coefficient on Independent Di-rectors is positive and significant across all specifications. In column 4, the mag-nitude of the coefficient on Independent Directors implies that a 1-standard- deviation increase in Independent Directors (15 percent) is associated with an average relative increase of 49 basis points in daily returns on days with news about cartel-prosecution announcements.7 These results reveal a strong associ-ation between equity returns around the announcement of cartel prosecutions and the proportion of independent directors serving on prosecuted firms’ boards. They are unique in suggesting that stock-market participants anticipate that in-

6 To mitigate concerns about our inferences being confounded by cross-sectional variation in car-tels’ characteristics, we also estimated equation (1) using cartel fixed effects. We do not present those results in Table 3, given that including cartel fixed effects excludes a large number of sample cartels that contain only one observation. Still, the untabulated results lead to inferences that are quantita-tively similar to those in Table 3.

7 See the online appendix for an alternative specification of equation (1) that includes a more extensive set of control variables: Firm Controls, Governance Controls, Cartel Controls, and Cartel Firm Controls. Table C1 in the online appendix shows the coefficients and t-statistics for the control variables. The results in Table 3 and Table C1 lead to quantitatively similar inferences.

Figure 1. Cartel detection and board independence


dependent directors play a positive role in reducing the costs of prosecuting illicit activities.

4.2. Varying Degrees of Directors’ Independence

We explore the sensitivity of our results to variation in the nature of indepen-dence across the nonexecutive board members of the cartel firms. This analysis is based on an in-depth examination of the sources of cross-sectional variation in our key independent variable, Independent Directors. In particular, we exploit the fact that directors’ appointments often occur several years prior to the cartel prosecution, under circumstances not necessarily related to the conditions lead-ing to the cartel’s formation and detection. Those appointments are motivated by several regulatory, legal, and market-driven factors that are outside current top management’s control. Ultimately, we study whether the positive-shareholder- value implications of board independence around price-fixing investigations is particularly pronounced when independent directors have fewer ties to the in-dicted CEO.

Following previous literature, we identify four circumstances that are associ-ated with extraneous variation in board independence: (1) whether the indepen-dent director was appointed in 2002, the year in which the Sarbanes-Oxley Act was passed;8 (2) whether the independent director was appointed before the ar-rival of the indicted CEO; (3) whether the firm was subject to shareholder litiga-tion during the 12 months prior to the appointment of the independent director;9 and (4) whether industry returns over the 12 months prior to the appointment of the independent director are negative. We construct the variable Independent Appointments as the fraction of directors who both are independent and meet

8 Prior research (Linck, Netter, and Yang 2009; Duchin, Matsusaka, and Ozbas 2010) uses similar strategies to empirically identify the effect of independent directors’ actions on firm value.

9 Ferris et al. (2007) show that derivative lawsuits are followed by increased board independence. Cheng et al. (2010) show that defendant firms with institutional lead plaintiffs experience increases in board independence after securities class-action lawsuits. We identify whether the firm was sub-ject to shareholder litigation in a given period using data on press releases from the S&P Capital IQ Key Developments database.

Table 3Abnormal Returns on Prosecution-Announcement Days

(1) (2) (3) (4)Independent Directors 3.44** 3.09** 3.23** 3.26**

(2.89) (3.60) (4.29) (4.50)Cartel Controls No Yes Yes YesIndustry fixed effects No No Yes YesJurisdiction fixed effects No No No YesR2 .06 .07 .07 .08Note. All regressions include Firm Controls; t-statistics are in parentheses. N = 547.

** p < .01.


at least one, two, or three of the above circumstances. To wit, Independent Ap-pointments is designed to capture the proportion of directors who were not just nominally independent at the time of prosecution. For example, if there are seven independent directors of 10 board members, and four of the independent direc-tors were appointed under the circumstances described above, Independent Di-rectors equals .7 while Independent Appointments equals .4.

We reestimate equation (1), replacing Independent Directors with Indepen-dent Appointments, measured using the number of directors appointed under at least one, two, or three of the four previously mentioned circumstances. We note that the percentage of observations with nonzero values of Independent Ap-pointments under at least one, two, or three of the circumstances is 98 percent, 56 percent, and 10 percent, respectively (no sample firm experienced four events at the same time). The sample mean (median) of Independent Appointments is 59.2 percent (66.7 percent), 13.3 percent (7.1 percent), and 1.5 percent (.0 percent), respectively. Table 4 presents results for the three alternative definitions of In-dependent Appointments. The coefficient on Independent Appointments is con-sistently positive and statistically significant across all definitions. Notably, the impact of Independent Appointments increases monotonically as we add more circumstances reflecting the plausible exogeneity of directors’ appointments. Standard errors increase, as using stricter characterizations of Independent Ap-pointments is at the cost of losing variation in the variable. This evidence suggests that directors who play a role in cartel prosecution are unlikely to have been ap-pointed under the scandal-laden CEO’s direct influence.

4.3. Spillover Effects of Cartel Investigations

The discovery of price-fixing schemes often triggers further investigations of collusive practices in an industry. This is an important observation in light of our findings that independent directors mitigate the negative effects of firms directly targeted in antitrust investigations. The mitigating effect we describe could apply not only to firms that are targeted by the authorities but also to peer firms that are likely to be the target of subsequent investigations. A deeper examination of

Table 4Variation in the Percentage of Independent Directors by the Number of Circumstances Signaling Independence

At Least One

At Least Two

At Least Three

Independent Appointments 1.01* 1.60+ 3.92+(2.34) (1.93) (1.68)

Note. The dependent variable is Abnormal Return. All regres-sions include Firm Controls, Cartel Controls, and industry and jurisdiction fixed effects; R2 = .05. Values in parentheses are t-statistics. N = 547.

+ p < .10.* p < .05.


the role of independent directors in cartel prosecutions suggests extending the analysis of the stock-market reaction to cartel prosecutions to unprosecuted peer firms—potential targets of future prosecutions. We turn to this analysis next.

For each firm prosecuted for involvement in a cartel, we identify a sample of unprosecuted industry peers using the text-based approach of Hoberg and Phil-lips (2010, 2016). These data are based on Web crawling and text-parsing algo-rithms that process the text in the business descriptions of 10-K annual filings on the Securities and Exchange Commission’s EDGAR website.10 Notably, the peer firms we identify are competitors of the cartel firms that were not indicted in the prosecutors’ announcements considered. For each unprosecuted firm, we use two measures of the probability of potential prosecution, E[Prosecution]. The first measure—Future Prosecution—equals one if the firm is prosecuted several years into the future (if the firm appears in the PIC data set because of prose-cutions in later years). The second measure—Fitted Value—is computed as the fitted value of a logit model that predicts the probability of cartel prosecution.11

We examine the association between announcement returns and the percent-age of independent directors in unprosecuted firms by estimating the following regression model:12

Abnormal Return Prosecution] Independentj i t j tE, , , -= + +b b b0 1 1 2[ DDirectors

Prosecution Independent Directorj t

j tE, -

, -+ ´1

3 1 b [ ] ssCartel Controls

j t

j t i t j i t

,

, , ,-

, - , -+ + +1

4 1 5 1 Firm Controlsb b e (2)

where j indicates the unprosecuted peer, i indicates the prosecuted firm, and t in-dicates the date of the announcement.

Table 5 presents the results from estimating equation (2). The negative coeffi-cient on E[Prosecution] reveals the equity losses of unprosecuted firms that are likely to be the target of subsequent cartel investigations on the announcement of a cartel prosecution in their industries. More important, the positive and signifi-cant coefficient on the interaction of E[Prosecution] and Independent Directors suggests that, among unprosecuted firms, expected losses stemming from pros-ecution are much lower for firms with a higher percentage of independent di-rectors on their boards. Finding that the role of independent directors in cartel prosecution also extends to unprosecuted firms is particularly interesting from a regulatory perspective, as it addresses the implications of those directors’ behav-ior in anticipation of a cartel prosecution.

10 See the online appendix for detailed information about the Hoberg and Phillips (2010) data library.

11 Our prosecution probability model follows Shapiro (1989) and Levenstein and Suslow (2006). See the online appendix for a detailed description.

12 For robustness, we repeat the analysis defining as peers the firms in the same four-digit Stan-dard Industrial Classification code as the prosecuted firm. Estimating equation (2) using this alter-native sample of peer firms results in quantitatively similar inferences.


5. Independent Directors’ Losses around Cartel Prosecutions

In this section, we substantiate our argument about independent directors’ in-centives to act around cartel prosecution by studying whether those directors ex-perience negative consequences as a result of their involvement with cartels. That independent directors bear significant personal costs from public indictments would suggest that they are prompted to take actions to mitigate those costs. Un-derstanding these incentives can be particularly useful for prosecutors of cartel activities.

5.1. Loss of Directorships

We first study whether independent directors lose board seats after news about cartel scandals emerges. Although board directors are rarely publicly fired, they are often pressured to leave their seats after corporate misconduct. Previous lit-erature documents that directors are more likely to leave their seats after news of financial irregularities (see Srinivasan 2005; Fich and Shivdasani 2007; Ertimur, Ferri, and Maber 2012).

We refer to the directors serving on the board of our sample of prosecuted firms as cartel directors. For each cartel director, we collect data on whether the director departs from his or her unprosecuted directorships in year t + 1 (t being the year in which there is a prosecution announcement). There are 4,453 director- firm-year observations in this category. The departure frequency is 11.3 percent.

To provide a benchmark for cartel directors’ rate of departure from noncartel directorships, we compare directors’ departure frequency in our treatment group with that in a set of four control groups. First, we compare the treatment group with all director-firm observations with nonmissing data in BoardEx in which neither the firm nor the director is involved in cartel prosecutions during our sample period.

Second, we compare the treatment group with a sample of director-firm pairs

Table 5Effect of Prosecutions on Unprosecuted Competitors

Future Prosecution

Fitted Value

E[Prosecution] −2.35** −.42*(−3.54) (−2.47)

Independent Directors × E[Prosecution] 2.73** .57**(3.30) (2.82)

Independent Directors −.29 1.66*(−1.27) (2.51)

Note. All regressions include Firm Controls, Cartel Controls, and in-dustry and jurisdiction fixed effects; R2 = .01. Values in parentheses are t-statistics. N = 11,898.

* p < .05.** p < .01.


from the universe of public firms in BoardEx obtained using propensity-score matching. For each director-firm observation in the treatment group, we use the Derigs (1988) propensity-score-matching algorithm to find the observation in the BoardEx universe of unprosecuted director-firm observations that is closest in terms of firm and director characteristics. We consider the following firm char-acteristics: Size, BM, Stock Return, ROA, Leverage, and Volatility.13 We consider two characteristics of directors that are likely to be associated with the probability of departure. First, since older directors are more likely to retire, we include the age of the director in a given year (Age). We also include the director’s total num-ber of directorships in a given year (Number Boards), a variable that is a proxy for the director’s reputation (see Masulis and Mobbs 2014) and is included to control for variation in the personal cost of leaving a directorship.

Third, to control for potentially confounding effects of unobserved characteris-tics of directors, we compare the treatment group with directorships in years with no prosecution announcements. That is, this control group includes the same di-rectors as the treatment group (cartel directors) but different directorship-year observations; this is similar to a within-director fixed-effects model.

Fourth, to control for unobserved characteristics of firms, we compare the treatment group with the cartel directors’ codirectors in noncartel directorships. This control group includes directors serving on the same unprosecuted boards as cartel directors in years in which there is a prosecution announcement target-ing one of the cartel director’s directorships. As a result, the treatment and con-trol groups include the same firms but different directors.

Table 6 presents the results from testing the difference in Departure Noncartel (defined as one if the director departs from that directorship in year t + 1 and zero otherwise) between the treatment group and each of the four control groups just described. As shown in Table 6, differences in departure rates are statistically significant in all four tests. The magnitude of the difference varies from 1 to 3 per-cent across control groups. These magnitudes are significant considering that the average departure rate in the BoardEx universe is only 7.9 percent.

5.2. Loss of Voting Support in Director Elections

We next investigate whether cartel directors lose voting support in director elections following cartel-prosecution announcements. A lower level of voting support across directors’ portfolio of directorships suggests that these profession-als face reputational penalties from cartel involvement even when the penalties might not be strong enough to force immediate resignations across other direc-torships. Consistent with the notion that directors care about receiving withhold votes, research shows that losses in voting support at a firm induce directors to take corrective actions (see Cai, Garner, and Walkling 2009). Moreover, losses in voting support are known to have relevant negative implications for directors’ professional standing (Fischer et al. 2009).

13 We restrict the pool of potential matches to firms in the same years as the treatment firms.


We analyze changes in voting support after cartel-prosecution announcements by collecting information about shareholder voting on director elections from the Institutional Shareholder Services Voting Analytics database.14 The database includes voting data since 2003 and covers companies included in the Russell 3000 Index. We again contrast changes in voting support between the treatment group of cartel directors’ unprosecuted directorships and various alternative control groups. For each director-firm-year observation, we compute ΔSupport Noncarteld,i,t as the percentage of “for” votes for director d at firm i at the annual meeting in year t minus the percentage of “for” votes for director d at firm i at the annual meeting in year t − 1. The mean value of ΔSupport Noncartel in the treatment group is −1 percent, which implies that cartel directors lose significant voting support after cartel-prosecution news.

Table 7 presents the results. The mean value of ΔSupport Noncartel is −1.04 percent (p-value < .01) in the treatment group and not statistically different from 0 in the four control groups. The standard deviation of ΔSupport Noncartel is 8 percent, which implies that a nontrivial percentage of cartel directors experi-ence a considerable increase in withhold votes.15 These results confirm that, after cartel-prosecution news, directors of cartel firms lose voting support across their portfolio of directorships.

The evidence in Tables 6 and 7 suggests that independent directors are disci-plined by the market in significant ways following news of their involvement with cartel firms. Our findings imply that independent directors have measurable in-

14 Institutional Shareholder Services (ISS) compiles shareholders’ votes for all agenda items at a firm’s shareholder meetings, including director elections. The database provides the identity of the companies holding elections, the shareholder meeting date, the agenda item descriptions, and the voting results.

15 To interpret the magnitude of ΔSupport Noncartel, it is important to consider that the mean (median) voting support at director elections in the ISS Voting Analytics database is 94.8 percent (97.6 percent). The 25th percentile is 94.5 percent, which suggests that an 8 percent decrease in sup-port would place the director in the left tail of the distribution of voting support.

Table 6Ex Post Departures from Unprosecuted Directorships

Control

TreatmentBoardEx

NoncartelPropensity

ScoreCartel

DirectorsNoncartel

CodirectorsDeparture Noncartel .11** .08** .09** .09** .10**

(.001) (.001) (.001) (.001) (.001)Treatment = control: Parametric [.001] [.001] [.001] [.055] Nonparametric [.001] [.002] [.001] [.056]N 4,453 350,436 4,453 23,708 31,574Note. Values are means, with p-values in parentheses. The p-values from parametric (t-test) and nonparametric (Wilcoxon) tests for the difference in the distribution of Departure Noncartel between treatment and control groups are in brackets.

** p < .01.


centives to aid antitrust authorities and corporate investors in correcting wrong-doing. We examine this hypothesis in more depth in turn.

6. Directors’ Actions around Cartel Prosecutions

In this section, we more closely examine the mechanisms through which in-dependent directors play a role in hampering cartel schemes. We focus on two important actions that directors can take in response to cartel prosecutions: ap-plying to leniency programs and dismissing the CEO. Moreover, to further un-derstand the implications of our main results, we explore the dynamics of cartel survival and board composition.

6.1. Leniency Applications

One important action directors can take to mitigate the costs of prosecution is to encourage their firms to cooperate with antitrust authorities under leniency programs. Leniency programs grant amnesty for criminal penalties and reduce future exposure to civil damages claims brought by private parties.16 Leniency ap-plications may reduce reputational damage to the extent that the market inter-prets cooperation with authorities as directors fulfilling their role of corporate monitor.

Under the US DOJ Antitrust Division’s Corporate Leniency Program, compa-nies and individuals can avoid criminal conviction, prison terms, and fines by being the first to confess to participation in a criminal antitrust violation and co-operating with the Antitrust Division. This can be done either before or after an investigation has begun. Under the program, only the first qualifying corporation

16 Leniency programs have been described by legal scholars as “the cornerstone of the Antitrust Division’s cartel enforcement regime [because they create] powerful incentives for self-reporting by wrongdoers, which can have a significant destabilising effect on a conspiracy” (Varney 2013, p. 368).

Table 7Voting Support

Control

TreatmentBoardEx

NoncartelPropensity

ScoreCartel

DirectorsNoncartel

Codirectors∆Support Noncartel −1.04** −.05 −.12 −.15 −.12

(.001) (.352) (.642) (.257) (.291)Treatment = control: Parametric [.001] [.014] [.002] [.001] Nonparametric [.001] [.003] [.001] [.001]N 980 26,318 980 3,419 4,634Note. Values are means, with p-values in parentheses. The p-values from parametric (t-test) and nonparametric (Wilcoxon) tests for the difference in the distribution of ∆Support Noncartel between treatment and control groups are in brackets.

** p < .01.


may be granted full pardon. Leniency programs provide incentives for conspiring firms to self-report illegal price-fixing even at later stages of an investigation.

The identity of leniency applicants is public information in the European Union and other international jurisdictions. While the US leniency program offers confidentiality to applicants, relevant information can be gathered from court disclosures in connection with litigation following prosecution and firms’ voluntary disclosures (see Connor 2009). This allows us to examine whether in-dependent directors play a role in leniency applications.

We use multivariate analysis to study whether there is a positive association between the presence of independent directors and the probability that the firm cooperates with antitrust authorities. Leniency applications are jurisdiction spe-cific, and we consider all jurisdictions in which a sample firm is prosecuted for a given cartel. We estimate the following ordinary least squares (OLS) regression:17

Leniency Independent Directorsi j t i t, , , -= + +b b b0 1 1 2Firm Controlss

i t

i t i j t

, -

, -+ +1

3 1b eCartel Controls , , , (3)

where i indicates the firm, j indicates the jurisdiction, and t indicates the year of the prosecution. The dependent variable Leniency equals one if the company applies for leniency and zero otherwise. The vector Firm Controls includes Size, BM, Stock Return, ROA, Leverage, and the natural logarithm of Volatility. Equa-tion (3) also includes industry and jurisdiction fixed effects. Standard errors are clustered at the cartel level.

Table 8 presents results from estimating equation (3). The coefficient for Inde-pendent Directors is positive and significant across various model specifications. The estimation in column 1 suggests that an increase of 1 standard deviation in Independent Directors is associated with an increase in the probability of apply-ing for leniency of close to 2.5 percent. The unconditional probability is 9.1 per-cent, which suggests that the magnitude of our estimate is substantial. That esti-mate remains the same even after the addition of an exhaustive set of fixed effects to our base specification.

17 Estimating equation (3) using logit or probit models results in quantitatively similar inferences.

Table 8Leniency Applications

(1) (2) (3) (4)

Independent Directors .22* .16* .15+ .15+(2.54) (1.94) (1.78) (1.79)

Cartel Controls No Yes Yes YesIndustry fixed effects No No Yes YesJurisdiction fixed effects No No No YesR2 .12 .18 .22 .24Note. All regressions include Firm Controls. Values in parentheses are t-statistics. N = 585.

+ p < .10.* p < .05.


Our results are consistent with the argument that independent directors fa-vor cooperation with antitrust authorities to mitigate personal costs arising from prosecution. This is an important finding considering the increasing emphasis placed on leniency programs in recently proposed antitrust regulation. Indeed, a recent report to Congress indicates that the number of leniency applications for cartel activity about which the DOJ had no prior knowledge nearly doubled with the passage of ACPERA (see US Government Accountability Office 2011).

6.2. Chief Executive Officers’ Departures following Cartel Prosecutions

The risk of incurring personal costs from cartel prosecution should induce in-dependent directors to take actions that enhance their reputation as monitors committed to punishing fraudulent behavior. An especially important disci-plinary action the board can take is to force the replacement of the CEOs of the prosecuted firm. In this section, we test whether firms with a higher proportion of independent directors are more likely to replace their CEOs after cartel pros-ecutions. As a (high) benchmark for price-fixing CEOs’ departure rate, we com-pare CEOs’ turnover in cartel firms with that in unprosecuted peer firms.

We collect data on CEOs’ departures in the years in which there is news of cartel prosecution for two samples: cartel firms and their unprosecuted industry peers. We estimate the following OLS regression model separately for each sam-ple:18

CEO Departure Independent Directorsi t i t, , -= + +b b b0 1 1 2Firm Controols

i t

i t i t

, -

, -+ +1

3 1b eCartel Controls , , (4)

where i indicates the firm and t indicates the year of the prosecution news. For each firm i, CEO Departure equals one if the CEO leaves the firm within 12 months of the first news of cartel prosecution in year t and zero otherwise. Equa-tion (4) includes the same sets of control variables and fixed effects used in equa-tion (3). Standard errors are clustered at the cartel level.

The results in Table 9 reveal a positive association between Independent Di-rectors and CEO Departure for the sample of cartel firms. The coefficient of .16 for cartel firms implies that an increase of 1 standard deviation in Independent Directors is associated with a 2.4 percent increase in the probability of CEO turn-over. Considering that the unconditional probability of CEO departure in the sample firms is 11 percent, one can argue that 2.4 percent is a substantial figure. When using the sample of unprosecuted peer firms to estimate equation (4), in contrast, we find that the coefficient of interest is not statistically different from zero. Notably, the difference in the relevant coefficients is statistically significant. The results in Table 8 show that the positive relationship between the percentage of independent directors and CEO turnover following a cartel indictment holds for the sample of cartel firms but not for the sample of industry peers. In other

18 Estimating equation (4) using logit or probit models results in quantitatively similar inferences.


words, cartel CEOs’ departures seem to be driven by price-fixing indictments and are unlikely to be associated with other industry-wide dynamics.

6.3. Board Independence and Cartels’ Survival

In this section, we gauge the economic significance and regulatory implications of our results by exploring whether the presence of independent directors on the boards of cartel firms translates into shorter cartel duration. Following Leven-stein and Suslow (2011), we estimate a hazard model of the number of years until a cartel is discovered as a function of the number of independent directors on the boards of the cartel’s member firms.19 For consistency, we focus our analysis on cartels that were in existence before the start of our sample period (2002).

We first present a univariate analysis of cartel survival rates. Figure 2 plots the survival functions of cartels with below-median percentages of independent di-rectors and those with above-median percentages of independent directors. The horizontal axis indicates the number of years after 2001. The survival function of the latter group exhibits a steeper downward trend, which suggests that car-tels formed by firms with a higher percentage of independent directors on their boards have a significantly lower probability of survival.20

Table 10 presents multivariate analyses of cartel survival. The term Independent Directors is the cartel-level average of cartel firms’ percentage of independent directors. The term Firm Controls is a vector of variables including the cartel- level average of Size, BM, Stock Return, ROA, Leverage, and Volatility. Given the nature of this test, Duration is defined as the number of years between cartel for-mation and the start of the sample period.

The results in Table 10 confirm that cartels formed by firms with a higher pro-portion of independent directors exhibit significantly lower survival rates. The relevant coefficient range implies that a 1-standard-deviation increase in Inde-

19 The survival distribution is assumed to be exponential. Our inferences are unaffected by using alternative assumptions—Weibull, logistic, normal, or gamma—about the survival function.

20 In untabulated analyses, we formally tested for differences in the survival functions of the two groups. Log-rank and Wilcoxon tests and parametric tests of survival probability show statistically significant differences across the groups (as suggested by Figure 2).

Table 9Ex Post Chief Executive Officer Departure

Cartel Firms

Peer Firms

Independent Directors .16* .01(2.35) (.84)

N 520 11,116Note. All regressions include Firm Controls, Cartel Controls, and industry and jurisdiction fixed effects; R2 = .01. Values in parentheses are t-statistics.

* p < .05.


pendent Directors is associated with a decrease of between 8.4 and 12.6 percent in cartel duration.

6.4. The Effect of Prosecution of Cartels on Board Composition

A question that arises from our findings is whether firms adjust board compo-sition bearing in mind the effect of independent directors on cartel prosecution. Firms could anticipate this effect and hire independent directors ex ante (before cartel prosecutions). Alternatively, they could add independent directors ex post (after prosecutions) as a way to avoid recidivism or increase monitoring after the prosecution of an industry peer (since cartel prosecutions often trigger follow-up investigations in the industry).21

Regarding potential ex ante reactions to the effect of independent directors, one must note that antitrust considerations are one of the many issues that affect board composition; other factors, in contrast, may call for a lower proportion of independent directors on boards.22 That said, this is an important issue and one

21 See Farber (2005) for evidence of board changes that are meant to avoid recidivism in other types of corporate misconduct.

22 The literature on board composition provides several arguments favoring the presence of more insiders on boards. Harris and Raviv’s (2008) theory, for example, stresses that when inside directors have an informational advantage, shareholders are better off having boards heavily populated by insiders. Likewise, Raheja (2005) argues that it is optimal to have a higher proportion of insiders on the board when it is difficult for outsiders to verify projects. Duchin, Matsusaka, and Ozbas (2010)

Figure 2. Cartel survival and percentage of independent directors


that we are able to examine empirically. We do so by comparing the percent-age of independent directors among our sample cartel firms with that of industry peers. For each sample firm, the corresponding industry peer is defined as the firm with the same four-digit Standard Industrial Classification (SIC) code that is closest in size. Untabulated tests reveal that our sample firms do not differ from comparable industry peers in terms of the empirical distribution of Independent Directors. To test this formally, we perform a Kolmogorov-Smirnov test. The result makes it impossible to rule out the hypothesis that the two Independent Directors samples are drawn from the same distribution. Notably, this evidence alleviates endogeneity concerns, as the distribution of Independent Directors is not associated with factors that also affect the probability of cartel prosecution.23

Regarding ex post reactions to the effect of independent directors, we first ex-plore whether firms in industries with a history of cartel behavior have a higher proportion of independent directors on their boards. To do so, we examine the association between the industry average of Independent Directors in year t and the percentage of firms in the industry with prior cartel involvement (firms pros-ecuted for price-fixing between the start of the sample period and year t). In-dustry affiliation is measured using four alternative approaches: the Fama and French 12-industry classification, the Fama and French 48-industry classifica-tion, two-digit SIC codes, and four-digit SIC codes. As shown in Table 11, board independence is greater in industries with higher rates of prior cartel prosecu-tions. The relevant coefficient range implies that a 1-standard-deviation increase in the number of industry firms with prior cartel involvement is associated with a subsequent increase of between 1.6 and 2.7 percent in the average percentage of independent directors on the boards of firms in that industry.

For more direct evidence of board adjustments after cartel prosecution, we ex-

empirically show that in industries in which the cost of information acquisition is high, performance worsens when outsiders are added to the board.

23 Firms could also decrease the number of independent directors in anticipation of collusive be-havior. While possible, in parallel to our previous reasoning we note that this potential effect can easily be offset by other factors favoring a higher proportion of independent directors on boards.

Table 10Cartel Survival

(1) (2) (3) (4)

Independent Directors −1.84* −.91+ −1.08* −.83+(8.69) (2.65) (4.13) (3.43)

Cartel Controls No Yes Yes YesIndustry fixed effects No No Yes YesJurisdiction fixed effects No No No YesLog likelihood −121.66 −99.10 −85.74 −69.68Note. All regressions include Firm Controls. Values in parentheses are χ2-statistics. N = 125.

+ p < .10.* p < .05.


amine whether independent directors are replaced on the boards of cartel firms after those firms are prosecuted.24 Untabulated results show that cartel indict-ments are followed by independent directors’ departures from prosecuted firms. In particular, the coefficient of interest is .03 (t-statistic = 4.84), which implies that a 1-standard-deviation increase in Cartel Involvement is associated with an increase in departure probability of .4 percent. This is a significant figure given the unconditional average probability of directors’ departure in the BoardEx universe. Together with the results in Table 11, these findings show that firms charged with cartel misbehavior subsequently appoint new independent direc-tors. Overall, our study documents the context-specific value of the presence of independent directors on the boards of firms that face antitrust scrutiny. Crit-ically, our results point to corporate governance responses that—in practice— favor higher independence standards following cartel scandals.

7. Concluding Remarks

Price-fixing schemes cost the public billions of dollars every year, and antitrust authorities debate ways to address this problem. Our study sheds light on the de-bate over antitrust policies and governance systems by looking at the role played by corporate officials around cartel prosecution. It does so by focusing on a par-ticular class of professionals in the modern corporation: independent board di-rectors.

We start by analyzing the stock-market reaction to news of cartel indictments. Firms with a higher proportion of independent directors serving on their boards have less negative returns. Notably, our evidence suggests that independent di-rectors who play a role in cartel prosecution are less likely to have been appointed under the scandal-laden CEO’s influence. That is, the degree of directors’ inde-pendence matters for price-fixing investigations. We further explore whether

24 Using the universe of independent directors in BoardEx, we analyze the firm-level determinants of directors’ turnover during the sample period. The dependent variable Departure equals one if the independent director departed from a company in year t + 1 and zero otherwise. On the right-hand side, Cartel Involvement equals one if the firm received a cartel indictment in year t and zero other-wise. The model includes a comprehensive set of controls: Age, Number Boards, Size, BM, Stock Return, ROA, and Leverage.

Table 11Board Independence in Cartel Industries

Fama and French 12

(1)

Fama and French 48

(2)

2-Digit SIC Code

(3)

4-Digit SIC Code

(4)Firms with prior involvement (%) .30**

(5.73).28**

(9.16).30**

(11.48).18**

(15.47)N 132 539 752 4,329R2 .11 .11 .09 .05Note. Values in parentheses are t-statistics. SIC = Standard Industrial Classification.

** p < .01.


reputational losses at outside directorships provide incentives for directors to deviate from cartel schemes by examining the ex post effect of cartel prosecu-tion on their unprosecuted directorships. Our evidence shows that directors of prosecuted firms lose board positions and voting support across their portfolio of directorships.

To better understand the association between returns after cartel- busting news announcements and the proportion of independent directors, we examine direc-tors’ actions following cartel prosecutions. Firms with a higher proportion of in-dependent directors are more likely to apply for leniency. Moreover, after news of prosecution, there is a higher frequency of CEO departure among firms with a higher proportion of independent directors.

Our results are consistent with the argument that independent directors’ rep-utational incentives play a role in cartel prosecution efforts. The analysis we present contributes to the debate on antitrust policies by providing evidence of measurable, significant market sanctions on individuals involved in price-fixing schemes. Critically, those officials’ incentives and actions reduce the prosecution costs borne by shareholders and the stability of cartel schemes. We believe that the results of our study are relevant to regulators designing and enforcing anti-trust policies and to market participants seeking to understand the role of corpo-rate governance and antitrust regulation on firms’ value and corporate behavior.

We conclude with three caveats about the interpretation of our results. First, while our evidence suggests that there exist individual market penalties associated with cartel involvement, our results do not necessarily mean that these penalties are large enough to stop the formation of price-fixing schemes among firms. Sec-ond, we offer a caveat against interpreting the results we report as supportive of the view that independent directors enhance firm value unconditionally. While our study documents one specific, contextual benefit of the presence of indepen-dent directors, our tests do not address the net wealth effect of independent di-rectors on firms’ wealth. Finally, we note that conclusions about the net effect of independent directors’ actions on shareholders’ or consumers’ wealth should be drawn with caution. With regard to shareholders’ wealth, one could argue that shareholders of cartel firms would have been better off (would enjoy higher profits) if the cartel’s activity had been kept secret at the risk of more severe pen-alties if discovered. With regard to consumers’ wealth, the caveat is that indepen-dent directors could somehow also play a role in facilitating the firm to engage in cartel activity. Although we find no evidence that firms with more independent directors are more likely to participate in cartels, our inferences are limited by the possibility that some cartels are never discovered.


Appendix

Definitions of Variables

A1. Firm Controls

MV. Equity market value (in millions of dollars) of the firm.Size. Natural logarithm of MV.BM. Book-to-market ratio or the book value of equity scaled by MV.Stock Return. Stock return compounded over the fiscal year.ROA. Return on assets (operating income scaled by total assets) over the fis-

cal year.Leverage. Total liabilities divided by total assets.Volatility. Stock-return volatility, computed as the standard deviation of

daily returns over 365 days prior to fiscal year end.

A2. Governance Controls

Independent Directors. Percentage of independent directors on the board.Independent Appointments. Percentage of independent directors on the

board appointed under the following circumstances: he or she was appointed in 2002, the year in which the Sarbanes-Oxley Act was passed; he or she was ap-pointed before the arrival of the indicted CEO; the firm was subject to share-holder litigation during the 12 months before his or her appointment; and indus-try returns over the 12 months before his or her appointment were negative.

A3. Cartel Controls

Number Participants. Number of firms involved in the cartel.Duration. Number of years from the beginning to the end of the cartel’s ac-

tivities.Cartel Sales. Total revenues of the cartel firms during the collusive period (in

millions of dollars).Fines Cartel. Total fines imposed on the cartel firms (in millions of dollars).

A4. Director Controls

Age. Natural logarithm of 1 plus the age of the director.Number Boards. Natural logarithm of 1 plus the number of directorships

held by the director in a given year.

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Documents

Whistle-Blowers on the Board? The Role of Independent ...awa2018.concurrences.com/IMG/pdf/cartel_prosecutions.pdf · penalties for engaging in price fixing. The design of these policies