What protects me also makes me behave: The role of directors' and officers' liability insurance on empire-building managers in China

In this paper, we examine the monitoring effect of Directors' and Officers' liability insurance (D&O insurance) on firms' acquisitions in China. We find that firms with managers covered by D&O insurance are less likely to undertake acquisitions and if they do, their acquisitions are associated with smaller bid premium of the acquired targets, higher stock returns upon acquisition announcements, and better operating performance post-acquisition. The deterrence of D&O insurance on acquisition is more pronounced when the insurance providers are more active and when managerial moral hazard is more likely to exist. Further findings suggest that D&O insurance diminishes the effect of CEO's overconfidence and risk-seeking behaviors on their acquisition decisions. Overall, our study suggests that D&O insurance can play an effective monitoring role that deters empire-building acquisitions.