Manuscript Type: Empirical
Research Question/Issue: Prior studies have failed to unequivocally establish a positive relationship between corporate-governance ratings and company performance, although theoretically, we would expect to find one. In this paper, we try to establish whether a positive relationship exists through modeling the relationship more carefully.
Research Findings/Insights: After controlling for selection bias and endogeneity simultaneously, we find a significant positive relationship between corporate-governance ratings and performance. However, the strength of this relationship seems to depend on the quality of the institutional environment. Finally, we find that improvements in corporate-governance ratings over time result in decreasing marginal benefits in terms of performance.
Theoretical/Academic Implications: Our paper contributes to the literature by showing that improved corporate-governance ratings lead to better performance, but that econometric problems might obscure this relationship. We also show that for a sample of developed countries the institutional environment affects the relationship between governance ratings and performance. Finally, this paper contributes to the literature on the impact, regarding compliance and effectiveness, of codes of good governance.
Practitioner/Policy Implications: Our results are relevant for both companies and policy makers. They indicate that companies can improve performance by adhering to good corporate-governance practices. For policy makers, the findings suggest that soft laws and the invisible hand of the market lead to companies improving their corporate governance.