Corporate Governance, and the Returns on Investment Klaus Gugler, - PowerPoint PPT Presentation

Corporate Governance, and the Returns on Investment Klaus Gugler, Dennis C. Mueller and B. Burcin Yurtoglu University of Vienna, Department of Economics BWZ, Bruennerstr. 72, A-1210, Vienna CBR Summit: 29-30 March 2006 Innovation and Governance 1

Considerable interest recently in differences in corporate governance systems. Ten years ago -- German and Japanese systems were thought to be better. Today, many think US & UK (Anglo-Saxon systems better. CBR Summit: 29-30 March 2006 Innovation and Governance 2

Focal point of literature has been on the extent to which corporate governance institutions align the interests of managers and shareholders. Weak corporate governance systems allow managers to pursue their own goals. Much of the literature has emphasized the importance of growth or empire building as a managerial goal. CBR Summit: 29-30 March 2006 Innovation and Governance 3

In our empirical work we measure a firm’s average return on investment ( r ) as a ratio to its cost of capital ( i ) a ratio that we define as qm , qm = r / i . Since the average return on capital should be greater or equal to the marginal return on capital, we predict for a firm, which maximizes shareholder wealth, qm ≥ 1 . CBR Summit: 29-30 March 2006 Innovation and Governance 4

Main Hypotheses (1) Legal Institutions and Returns on Investment A strong corporate governance system aligns managerial and shareholder interests. Managerial and shareholder interests are more likely to be aligned in countries in which it is easy for shareholders to monitor managers, and initiate proxy fights or hostile takeovers. CBR Summit: 29-30 March 2006 Innovation and Governance 5

(2) Legal Institutions, Ownership Structures and Returns on Investment We define five ownership categories: • Family-controlled • Firm-controlled, • Finance-controlled • State-controlled • Dispersed ownership CBR Summit: 29-30 March 2006 Innovation and Governance 6

Estimated qm s by Legal Origin Legal System t-value English Origin 1.02 111.34 Scandinavian Origin 0.78 13.67 German Origin 0.74 35.51 French Origin 0.59 29.23 Transition Countries 0.64 4.30 African Countries 0.77 10.90 n = 112, 590, Adj.R 2 = 0.25 CBR Summit: 29-30 March 2006 Innovation and Governance 7

Estimated qm s by Country Country ( qm ≠ 1) Firms Australia 0.94 0.20 346 Bermuda 0.91 0.27 215 Canada 1.16 0.00 1478 Cayman Islands 0.58 0.02 42 Great Britain 0.85 0.00 1331 Hong Kong 0.78 0.01 127 India 0.80 0.04 246 Ireland 1.10 0.21 63 CBR Summit: 29-30 March 2006 Innovation and Governance 8

Estimated qm s by Country Country ( qm ≠ 1) Firms Israel 1.27 0.18 56 Malaysia 0.86 0.00 381 New Zealand 0.86 0.05 66 Pakistan 0.40 0.00 46 Singapore 0.97 0.75 208 South Africa 1.07 0.72 118 Thailand 0.64 0.00 243 USA 1.05 0.00 8591 CBR Summit: 29-30 March 2006 Innovation and Governance 9

Estimated qm s by Country Scandinavian Origin Country ( qm ≠ 1) Firms Denmark 0.65 0.00 101 Finland 0.96 0.69 79 Norway 1.04 0.63 103 Sweden 0.65 0.00 156 CBR Summit: 29-30 March 2006 Innovation and Governance 10

Estimated qm s by Country German Origin Country ( qm ≠ 1) Firms Austria 0.71 0.02 82 Germany 0.57 0.00 425 Japan 0.86 0.00 2219 South Korea 0.70 0.00 82 Switzerland 0.64 0.00 160 Taiwan 1.26 0.01 126 CBR Summit: 29-30 March 2006 Innovation and Governance 11

Estimated qm s by Country French Origin Country ( qm ≠ 1) Firms Argentina 0.78 0.16 24 Belgium 0.51 0.00 79 Brazil 0.25 0.00 133 Chile 1.24 0.29 73 Columbia 0.43 0.00 15 France 0.57 0.00 495 Greece 0.54 0.00 49 CBR Summit: 29-30 March 2006 Innovation and Governance 12

Estimated qm s by Country Country ( qm ≠ 1) Firms Indonesia 0.84 0.06 132 Italy 0.64 0.00 150 Luxembourg 0.70 0.52 12 Mexico 0.50 0.00 81 Netherlands 0.69 0.00 174 Netherl. Antil. 1.19 0.17 19 Panama 1.25 0.23 4 CBR Summit: 29-30 March 2006 Innovation and Governance 13

Estimated qm s by Country Country ( qm ≠ 1) Firms Peru 0.11 0.00 20 Philippines 1.00 0.98 83 Portugal 0.46 0.00 49 Spain 0.54 0.00 117 Turkey 0.52 0.00 29 Venezuela 0.58 0.04 10 China 0.45 0.00 70 CBR Summit: 29-30 March 2006 Innovation and Governance 14

B. The Effects of Ownership Structures English Scandinavian Origin Origin Family 1.082 > 1.019 0.773 ≈ 0.739 Financial 1.002 < 1.061 0.561 ≈ 0.812 Non-Financial 1.058 ≈ 1.041 0.718 ≈ 0.761 Dispersed 1.001 ≈ 1.050 1.145 > 0.683 State 1.014 ≈ 1.045 0.796 ≈ 0.743 CBR Summit: 29-30 March 2006 Innovation and Governance 15

B. The Effects of Ownership Structures European-German Asian-German Origin Origin Family 0.599 ≈ 0.636 0.987 ≈ 0.872 Financial 0.561 ≈ 0.640 0.869 ≈ 0.882 Non-Financial 0.626 ≈ 0.628 0.896 ≈ 0.863 Dispersed 1.358 > 0.601 0.829 ≈ 0.906 State 0.374 < 0.634 1.322 ≈ 0.880 CBR Summit: 29-30 March 2006 Innovation and Governance 16

B. The Effects of Ownership Structures French Origin Family 0.569 ≈ 0.605 Financial 0.692 > 0.579 Non-Financial 0.565 ≈ 0.644 Dispersed 0.543 ≈ 0.605 State 0.952 > 0.588 CBR Summit: 29-30 March 2006 Innovation and Governance 17

Category q mI t-value ( q mI � 1) Obs. Firms R 2 English 1.02 111.32 0.03 82,463 13,553 0.23 Origin Civil Law 0.68 47.51 0.00 30,096 5,457 Developed 0.97 114.84 0.00 101,875 16,327 0.23 Developing 0.77 32.84 0.00 10,684 2,683 CBR Summit: 29-30 March 2006 Innovation and Governance 18

The Impact of Strong Accounting Standards • All developed English-origin countries have strong accounting standards. • In 28/30 comparisons the coefficient for a strong-accounting- system country is larger than the corresponding coefficient for a weak-system country, 13 of the 28 differences are significant (5 percent level, one-tailed test). Only the coefficient on cash flow for all developed countries with strong accounting standards is significantly lower than the corresponding coefficient for a weak-system countries. • There is also some indication that the improvement in investment performance that strong accounting standards cause comes in part at the cost of debt holders. CBR Summit: 29-30 March 2006 Innovation and Governance 19

The Impact of Strong Contract Enforcement • No developed, English-origin country has weak contract enforcement. No developing, civil-law country has strong contract enforcement. • For 21 of the possible 24 comparisons of coefficients on cash flow and new equity, the coefficient is higher where contract enforcement is strong, 13 of these 21 differences are significant. • There is no evidence suggesting that the improved returns on investments financed out of cash flows and new equity issues come at the expense of debt holders. CBR Summit: 29-30 March 2006 Innovation and Governance 20