After Enron event (2001), WorldCom event (2002), Global Crossing Event, and AOL Time Warner event broke out, many enterprises, which were considered having sound capital structure, unexpectedly went into bankruptcy. As the bankruptcy and expropriation occur, minor shareholders suffer a great deal of capital loss. Investors gradually lose the investment willing and reduce investment in capital market. To reduce the cost of asymmetric information and decrease loss due to corporate financial risk, Corporate Governance starts to play an important role in the investment strategy for shareholders. On the other hand, enterprises around the world also proceed to set Corporate Governance system to enhance shareholders’
confidence in the investment of equity markets. Thus, the issue related to Corporate Governance has become a popular issue in academic and financial markets recently.
The international securities firms have announced many kinds of Corporate Governance Indexes in succession in order to measure the level of disclosure information of each company.
For example, in 2001, Credit Lyonnais Securities Asia (CLSA) established Corporate Governance rankings, which includes 495 companies in 25 emerging markets in Asia and South America. In October 2002, Standard & Poor’s (S&P’s) announced transparency and disclosure rankings (T&D Rankings) for firms included in the S&P’s Global 1200 Index as well as more than 300 companies in S&P/TOPIX emerging markets Indexes. These Indexes not only provide potential insights for future investment strategies for investors but also quantify the level of Corporate Governance of each company. Therefore, the Indexes benefit the academic researches in Corporate Governance.
Because these Indexes have provided a quantified Index for measuring the level of Corporate Governance of a company, some related studies in Corporate Governance have been documented. Patel and Dallas (2002) (12) argue that there is negative relation between
the degree of Corporate Governance and S&P 500 capital market risk, and S&P’s T&D Rankings based on annual reports is positive relative to book-to-market ratio and firm size.
Cheng, Collins and Huang (2003) (4) further discussed the relation between T&D Rankings and market risk, excess return, and earnings response coefficients (ERC) by utilizing Event Study. Durnev and Kim (2003) (6) show that managers opt to disclose more information when they have the plan of outside financing or the concentration of cash-flow rights, especially for firms from countries with poorer investor protection. The results also indicate that there exists the positive relation between Corporate Governance and firm value with model inference.
However, the empirical research of social awareness of CLSA Corporate Governance Index is not directly relative to firm value.
Gompers, Ishii, and Metrick (2003) (9) use the influence of 24 governance rules1, and construct a Governance Index to show the level of shareholder rights in around 1500 large firms during 1990s. The results show that an investment strategy that buys firm shares with the stronger shareholders’ rights and sells firm shares with the weakest rights would have 8.5 percent abnormal returns per year during the sample period by using multi-factors regression.
The results also find that the firms with stronger shareholder rights have higher firm value, higher profits, higher sales growth, lower capital expenditures, making fewer corporate acquisitions. Brown and Caylor (2004) (3) use Gov-Score2 to analyze the relation between Corporate Governance and the firm performance. They relate Gov-Score to firm performance, such as return on asset, Tobin’s Q, and dividend payment and point out board of directors, executive and director compensation are significantly correlated with good performance for three performance measures; nevertheless, the association disappears when they change Gov-Score into G-Index which Ashbaugh, Collins, LaFond (2004) use. Cremers and Nair
1These 24 provisions include 22 firm-level provisions and six state laws (four of the laws are analogous to four of the firm-level provisions).
(2005) (5) investigate how the market for corporate control (external governance) and shareholder activism (internal governance) interact. The results show that a portfolio that buys firms with the highest level of takeover vulnerability and shorts firms with the lowest level of takeover vulnerability generates an annual abnormal return of 10% to 15% only when public pension fund (block holders) ownership is high as well.
We could find that there was different relation between investment performance and Corporate Governance composed of different factors. To the best of our knowledge, there is no research that uses S&P T&D Rankings and CLSA CG Rankings to discuss the relation between Corporate Governance and equity investment performance. Furthermore, most researches that have been published so far utilized static ratio3, and it might result in the inaccuracy because of information delay. Focusing on investors’ viewpoint and constructing long-term portfolio, this research manages to discuss what Corporate Governance means for investors and the effect it causes the investment performance. These are also the main motivation and contribution in this thesis.
The statement in Mickinsey Quarterly Journal in 2002 describes that legal persons would be willing to pay 10% to 12% spread for investing the firms with stronger Corporate Governance in more than 180 samples of 6 emerging markets. However, would it be worthwhile to pay more for external investors? Does Corporate Governance really bring shareholders positive performance? Or, Corporate Governance is just the implement to strengthen investors’ confidence. From the perspective of American investors, this research will discuss the effects upon investment performance and try to answer the queries above by science analysis.
From the perspective of investors, we discuss whether the corporate governance indices provide useful benchmarks for equity Investment. The leading purposes are as follows:
3 Static ratios are the Index cannot change following the time such as return on asset, Tobin’s Q, and so on.
(1) With S&P500 sample firms, this paper analyzes the influence of Corporate Governance system upon investors’ performance in the developed country.
(2) With the sample firms of Asian Pacific countries, the paper discusses if Corporate Governance is positively relative to the performance in emerging markets. In addition, we also add the variable of legal system and investigate how the performance responses to different law-origins.
(3) Finally, this research compares the difference in the results of two samples and the contributions of Corporate Governance system towards the performance.
The rest of this paper is organized as follows. Section 2 explains the methodology adopted. Section 3 describes the data used in this study. Section 4 presents the empirical results, and makes some conclusions in the last section.