Which Aspects of Corporate Governance Matter in Emerging Markets: Evidence from Brazil, India, Korea, and Turkey

There is evidence that some “corporate governance indices” predict higher firm values in emerging markets, but little evidence on which specific aspects of governance drive that overall relationship.  Two important challenges are noteworthy in finding such evidence. One is the need to control for other aspects of corporate governance, which many studies in the existing literature have failed to do so. Otherwise, an apparent correlation between, say, disclosure and firm value could simply be reflecting the failure to control for board independence (omitted variable bias). Second, available multi-country indices apply a US-centric view of what constitutes good governance and apply the same governance elements across many countries. Yet what matters in corporate governance may differ across countries.  These indices may poorly fit for any one country (lack of construct validity).

We address these challenges by building country-specific, overall governance indices, largely by hand, across four major emerging markets (Brazil, India, Korea, and Turkey). They are comprised of six sub-indices for board structure, disclosure, ownership, shareholder rights, board procedure, and control of related party transactions (RPTs). These governance indices differ substantially across our four countries, reflecting their local rules and institutions.

We report three main results. First, when firms provide additional disclosure, above each country’s minimum requirements, this predicts higher market value across all four countries.  Within “disclosure,” financial disclosure is a stronger predictor of firm value than non-financial disclosure.  One cannot obtain similar results by using “off-the-shelf” commercial indices; indeed, the best available indices for emerging markets (Thomson-Reuters and Asset4) do not address disclosure. Second, board structure takes a positive coefficient in all countries and is significant in Brazil and Korea. Within “board structure,” board independence predicts market value, but there is weaker evidence that board committees, such as an audit committee, predict value. One core goal of board governance is to address agency conflicts between minority shareholders and insiders. Our results suggest that board independence likely has a greater role than committee structure in addressing those conflicts. Third, once we control for disclosure and board structure, we find no evidence, that other indices (board procedure, shareholder rights, ownership structure, and RPTs) predict firm value, either individually or together.

These results provide evidence that: (i) country-specific indices can outperform broad, one-size-fits-all indices, and (ii) firms, in responding to investor pressure for better governance; and investors, in assessing governance, would do well to focus on disclosure and board structure.