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Corporate Governance and Performance: International Comparisons and The Issue of Innovation
Corporate Governance and Performance: International Comparisons and The Issue of Innovation
Jackie Krafft
Groupe de Recherche en Economie, Droit Economique et Gestion
GREDEG, UMR n°7321
Université de Nice – Sophia Antipolis et CNRS
Background
=> These elements tend to alleviate the cost of capital and generate
higher expected cash flow stream, which in turn create higher firm
valuation and higher performances
Dominant practice today
1. Results so far
3. Where do we go?
1. Results so far
7
True everywhere?
• Until the mid 1990s, most of the work on corporate governance has
been in the context of US firms
• Over the last decade, international comparisons started to develop,
stimulated by the work of La Porta, Lopez de Silvanes, Shleifer and
Vishny (1997, 1998, 2000a, 2000b, 2002)
• Much of this work has focused on differences between countries’
legal systems, and has studied how such differences relate to
differences in how economies and capital markets perform
• A substantial body of research about US firms showed that cross firm
differences in governance have substantial effect on firm value and
performance (Gompers et al., 2003; Bebchuk et al., 2008; Core et al.,
2006)
• However, much less documented is how non US firms are performing
when they adopt the US best practice
Inputs from theory
• Agency theory, transaction costs economics, new property rights theory are based on
different assumptions
• However, they converge to say that good governance is needed to i) realign the
incentives of the manager in the interests of the shareholder, ii) guarantee high cash flow
and low cost of capital, iii) use resources more efficiently and stimulate growth
• They also converge on key attributes of good governance: board of directors, proxy
fights, hostile takeovers, corporate financial structure
• As the US model of corporate governance was elaborated to come up with these issues
then, from these theories, it should spread over the world both in US and non US firms
• Issue of convergence of corporate systems and regulations: convergence here being
understood as the domination of a system of corporate governance identified as
‘superior’ … and not as a gradual interpenetration of rules and practices leading to a mix
of different co-existing systems
Inputs from theory
12
Inputs from theory
• Debate:
(1) Because good governance involves better monitoring, greater
transparency and public disclosure, increase in investor trust,
decrease in manager discretion and rent expropriation, less risk,
more efficient operations, etc.
it should be beneficial to all investments, especially innovative ones
• IRRC data can only examine the effects of the external mechanisms
of corporate governance, because the scores of corporate
governance are indeed very close to a takeover defense index
• IRRC data does not provide a measurement of overall corporate
governance, especially of internal mechanisms at work
• IRRC data is based on the largest US firms
• The way in which corporate governance develops outside the US is
not within the scope of IRRC data
• IRRC data is not published each year
• Important changes in governance occurring in the year where the
report is not published may be ignored
CLSA data
• The Corporate Library was founded in 1999 with the goal to provide to
its clients corporate governance, executive and director compensation
information and analysis
• In 2003, it launched its Board Effectiveness Ratings, now known as The
Corporate Library (TCL) Ratings
• These ratings cover four key components: board structure (50%), CEO
compensation (30%), takeover defenses (10%), and accounting (i.e.,
screens for earnings management 10%).
• They cover five categories (higher to lower): A, B, C, D, and F
• TCL also provides the following eight sub-ratings: Board Composition,
Shareholder Responsiveness, Litigation and Regulatory Problems,
Strategic Decision-making, CEO Compensation, Takeover Defenses,
Accounting, and Analyst Adjustment
• These sub-ratings also range from A to F
Investors data: GMI
• US data:
- Gompers et al. (2003), Bebchuk et al. (2008), Core et al. (2006): firms
with better governance (higher shareholder rights) have higher
performance in the US
• International comparisons:
- Klapper and Love (2004): better governance is highly correlated with
better operating performance and higher market valuation (14 emerging
countries, 1 year study)
- Black et al. (2006): better governance involves an increase in Tobin’s
Q (1 country, Korea)
- Drobetz et al. (2004): positive relationship between governance
practices and firm valuation (1 country, Germany)
=> Convergence operates: non US firms increasingly adopt US firms’ best
practice in terms of corporate governance
Krafft, Qu, Quatraro, Ravix (2013)
Industrial and Corporate Change
• At the theoretical level, the issue of convergence has to take country
level and firm level differences on board if some progresses are to
be made
• Maybe one way to overcome this theoretical dead-end is to develop
some further empirical results
• But empirical studies should be based on data that explicitly
considers:
- non US firms in several countries
- a long period of study
• We aim at providing an empirical contribution on the adoption of the
US best practice by non US firms (24 countries, more than 2500
firms), over the period 2003-2008
Hypotheses
• Data:
- ISS Risk Metrics, largest corporate governance data provider
• Variables:
- Corporate Governance variable:
CGQ, as score metrics developped by the data provider, based on
55 governance factors which span over 8 attributes of corporate
governance
- Performance variables:
Stock return, Dividend yield, Tobin’s Q, ROA, NPM
- Control variables:
Size, R&D/sales, Sales growth, Market capitalisation, Market to
book value
Methodology
43
- H1: Managerial myopia (Stein, 1988): threat of hostile acquisition
can lead managers to avoid undertaking long term, risky
investments because such projects can lead to a wide divergence
between market and intrinsic values.
Takeover provisions may shield managers from concerns related to
short term performance and permit more long term, value-
maximizing investment strategy that encourages greater innovation
44
• Results:
• Higher levels of 23 takeover provisions are associated with
innovation efforts (R&D expenditures, awarded patents, quality of
patents, number of patents awarded per $ of R&D)
=> Innovation is positively correlated with antitakeover provisions
• Some provisions are more important than others in this positive
correlation (power hypothesis)
• Firm-level provisions are significant in this positive correlation, while
state-level provisions are not significant (visibility hypothesis)
45
O’Connor and Rafferty (2012),
J. of Financial and Quantitative Analysis
• Data:
- IRRC and Compustat, 1719 firms (1990-2005)
- Effect of antitakeover provisions on long term investments
• Hypotheses:
- H1: Managerial myopia (Stein, 1988): positive relation
- H2: Quiet life (Bertrand and Mullainathan, 2003): negative relation
• Models:
- Static models (OLS): negative relationship between corporate
governance index and R&D activity, but not robust
- Dynamic models (GMM): no relation, or only slightly positive
46
Krafft and Ravix (2008)
Louvain Economic Review
• Data:
-Risk Metrics / International Shareholder Services
-2500 firms from 25 Industries, 24 Countries (non US)
-Oct 2003 to Dec. 2008
• FE model
Coefficient on LnCGQ
• LnSPi,t = α + β1 LnCGQi,t +
β2LnMVi,t + β3LnDYi,t + υi,t
(1) (2) (3) No.Obs
• Positive and significant
Agro-
0.0791 0.0083 0.0142 relationship in Agro-Food and
Food 42646 ICT
*** *** ***
• The impact of a variation in
0.0367 0.0333 0.0701
ICT
34081 CGQ on performance is much
*** *** *** more important in ICT
Control compared to Agro-food
Variabl None MV MV DY
e
*** Significant at 1%
… and the CGQ itself is more instable in ICT industries
than in Agro-Food
• Innovative versus non-innovative sectors have an impact
- Good governance principles have a stronger impact on stock
market performance in innovative industries compared to more
traditional ones
- Increasing volatility may be the outcome, especially in a context
where variations of CGQ are much more important in innovative
industries than in more traditional ones
• Suggests that the adoption of the best practice is amplifying the ups
and downs of industrial development, especially of innovative
industries
Summary
Multiple Takeover Country Firms Results CG on
attributes defenses Innovation
Driver and X UK 91 Negative
Guedes
(2012)
Lhuillery X F 110 Not significant
(2011)
Becker- X US 600 Positive
Blease
(2011)
O’Connor X US 1719 No relation: slightly
and Rafferty positive with GMM,
(2012) negative but not
robust with OLS
Krafft and X Non US 2500 Positive, potentially
Ravix amplifying ups and
(2008) downs
51
Where do we go?
International comparisons
53
Innovation