LEVEL OF COMPLIANCE WITH BEST CORPORATE GOVERNANCE PRACTICES AND COMPANY VALUE: EVIDENCE FROM RUSSIAN PUBLIC COMPANIES
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Introduction 6
Chapter 1. Best corporate governance practices and company value 9
1.1. Corporate governance 9
1.1.1 Agency problem and corporate governance mechanisms 9
1.1.2 Corporate governance in Russia 12
1.1.3 Main principles of the Code of Corporate Governance 14
Implementation of the Code in Russian public companies 19
1.2 Corporate governance and company value: literature review 20
1.3 Corporate governance index construction 28
Chapter 2. Empirical study of the relationship between the level of compliance with best corporate governance practices and company value 32
2.1 Hypothesis statement and methodology 32
2.1.1 Model description 32
2.1.2 Variables description 33
2.1.3 Corporate Governance Index (CGI) construction 34
2.1.4 Sample description 36
2.1.5 Descriptive statistics 37
2.1.6 Results of regression analysis 43
Conclusion 45
References 47
Appendix
Chapter 1. Best corporate governance practices and company value 9
1.1. Corporate governance 9
1.1.1 Agency problem and corporate governance mechanisms 9
1.1.2 Corporate governance in Russia 12
1.1.3 Main principles of the Code of Corporate Governance 14
Implementation of the Code in Russian public companies 19
1.2 Corporate governance and company value: literature review 20
1.3 Corporate governance index construction 28
Chapter 2. Empirical study of the relationship between the level of compliance with best corporate governance practices and company value 32
2.1 Hypothesis statement and methodology 32
2.1.1 Model description 32
2.1.2 Variables description 33
2.1.3 Corporate Governance Index (CGI) construction 34
2.1.4 Sample description 36
2.1.5 Descriptive statistics 37
2.1.6 Results of regression analysis 43
Conclusion 45
References 47
Appendix
The study is devoted to the investigation of the relationship between the level of compliance with best corporate governance practices and firm market value for Russian public companies.
Today the issue of corporate governance in Russia is becoming more and more crucial. In comparison with other emerging markets, shares of Russian public companies are proved to be undervalued, which is one of the consequences of poor corporate governance. In order to be efficient in terms of corporate governance, companies need some guidelines or standards based on best international and Russian practices. The main purpose of introducing those standards is to protect the rights of shareholders, thus making investing in Russian companies more attractive. As for today, the main source of best corporate governance practices in Russia is the Corporate Governance Code issued in 2014, which not only provides the best standards of shareholders rights observance and contributes to their implementation in practice, but is also a good manual for effective company management and long-term sustainable company development. The adoption of the Code is caused by the accumulated knowledge in corporate governance, changes in legislation and lessons learned from the recent financial crisis. The document contains recommendations, which are mainly addressed to public companies and big state-owned enterprises.
The importance of the research is supported by the new requirements in terms of corporate governance from the side of the government. Firstly, some provisions of the Code are obligatory for companies to be included in the first and second quotation levels. Secondly, the government made compliance with the Code mandatory for 13 state-owned companies in 2014. Finally, starting from December, 2014 every public company has to include the information on compliance with the Code in its annual report.
As the Corporate Governance Code is supposed to significantly improve corporate governance in Russian public companies, it is necessary to define whether compliance with the Code recommendations contributes to increase of company value. Moreover, since the Code provides recommendations, but not requirements, companies do not necessary have to follow all the provisions and might have doubts whether the compliance with the Code is beneficial for them.
Therefore, the goal of the research is to investigate the relationship between the level of compliance with best corporate governance practices and firm market value for Russian public companies. The relevance of the paper is supported by the absence of prior research on the topic due to the Code recent issuance. Based on the research goal, it is possible to formulate the research question: “Is there any relationship between the level of compliance with best corporate governance practices and firm market value for Russian public companies?”
In order to achieve the goal of the research and define the relationship between the level of compliance with best corporate governance practices and company value the following research objectives were identified:
1. To analyze best practices of corporate governance in Russia
2. To provide a review of both Russian and foreign literature dedicated to corporate governance and its relationship with company value
3. To conduct the empirical analysis aimed at the identification of the relationship between the level of compliance with best corporate governance practices and company value
4. To analyze the results of empirical analysis, come up with conclusions and give recommendations to companies
The paper is organized in a way, so that research objectives are successively accomplished. The first chapter provides broad analysis of theory on corporate governance and overview of best corporate governance practices in Russia. Besides, the chapter presents literature review of the most relevant sources studying the relationship between different mechanisms of corporate governance and company market value. The second chapter is devoted to methodology description and regression analysis results discussion. Conclusion part includes summarized findings and corresponding managerial implications.
The empirical analysis was conducted using Stata program. The sample comprises companies traded at the Moscow Stock Exchange in 2014 and included in the broad market index. After excluding financial companies and those with insufficient information on the compliance with the Code, 62 companies were retained in the sample. The time period accounts for 2 years (2014 and 2015), since many companies have not published their annual reports for 2016 yet.
In order to conduct the empirical research, both data on compliance with the Code as well as financial data were collected. The data on corporate governance was collected from companies’ annual reports and supplements to them, while financial data was obtained from companies’ financial statements and Thomson Reuters database.
As a result of panel data regression analysis a strong positive association was revealed between the level of compliance with best corporate governance practices and company value. The outcomes of the research can be valuable for both academicians and practitioners. The conclusion part of the paper contains recommendations addressed not only to Russian public companies, but also to regulators of the Russian market.
Today the issue of corporate governance in Russia is becoming more and more crucial. In comparison with other emerging markets, shares of Russian public companies are proved to be undervalued, which is one of the consequences of poor corporate governance. In order to be efficient in terms of corporate governance, companies need some guidelines or standards based on best international and Russian practices. The main purpose of introducing those standards is to protect the rights of shareholders, thus making investing in Russian companies more attractive. As for today, the main source of best corporate governance practices in Russia is the Corporate Governance Code issued in 2014, which not only provides the best standards of shareholders rights observance and contributes to their implementation in practice, but is also a good manual for effective company management and long-term sustainable company development. The adoption of the Code is caused by the accumulated knowledge in corporate governance, changes in legislation and lessons learned from the recent financial crisis. The document contains recommendations, which are mainly addressed to public companies and big state-owned enterprises.
The importance of the research is supported by the new requirements in terms of corporate governance from the side of the government. Firstly, some provisions of the Code are obligatory for companies to be included in the first and second quotation levels. Secondly, the government made compliance with the Code mandatory for 13 state-owned companies in 2014. Finally, starting from December, 2014 every public company has to include the information on compliance with the Code in its annual report.
As the Corporate Governance Code is supposed to significantly improve corporate governance in Russian public companies, it is necessary to define whether compliance with the Code recommendations contributes to increase of company value. Moreover, since the Code provides recommendations, but not requirements, companies do not necessary have to follow all the provisions and might have doubts whether the compliance with the Code is beneficial for them.
Therefore, the goal of the research is to investigate the relationship between the level of compliance with best corporate governance practices and firm market value for Russian public companies. The relevance of the paper is supported by the absence of prior research on the topic due to the Code recent issuance. Based on the research goal, it is possible to formulate the research question: “Is there any relationship between the level of compliance with best corporate governance practices and firm market value for Russian public companies?”
In order to achieve the goal of the research and define the relationship between the level of compliance with best corporate governance practices and company value the following research objectives were identified:
1. To analyze best practices of corporate governance in Russia
2. To provide a review of both Russian and foreign literature dedicated to corporate governance and its relationship with company value
3. To conduct the empirical analysis aimed at the identification of the relationship between the level of compliance with best corporate governance practices and company value
4. To analyze the results of empirical analysis, come up with conclusions and give recommendations to companies
The paper is organized in a way, so that research objectives are successively accomplished. The first chapter provides broad analysis of theory on corporate governance and overview of best corporate governance practices in Russia. Besides, the chapter presents literature review of the most relevant sources studying the relationship between different mechanisms of corporate governance and company market value. The second chapter is devoted to methodology description and regression analysis results discussion. Conclusion part includes summarized findings and corresponding managerial implications.
The empirical analysis was conducted using Stata program. The sample comprises companies traded at the Moscow Stock Exchange in 2014 and included in the broad market index. After excluding financial companies and those with insufficient information on the compliance with the Code, 62 companies were retained in the sample. The time period accounts for 2 years (2014 and 2015), since many companies have not published their annual reports for 2016 yet.
In order to conduct the empirical research, both data on compliance with the Code as well as financial data were collected. The data on corporate governance was collected from companies’ annual reports and supplements to them, while financial data was obtained from companies’ financial statements and Thomson Reuters database.
As a result of panel data regression analysis a strong positive association was revealed between the level of compliance with best corporate governance practices and company value. The outcomes of the research can be valuable for both academicians and practitioners. The conclusion part of the paper contains recommendations addressed not only to Russian public companies, but also to regulators of the Russian market.
The goal of this paper was to investigate the relationship between the level of compliance with best corporate governance practices and company market value. In order to achieve this goal, all stated research objectives were fulfilled.
Based on the results of regression analysis, we may conclude that compliance with best corporate governance practices contributes to additional value creation. This finding is in line with previous research papers dedicated to the investigation of the relationship between corporate governance indices and market measures of company value (Gompers, Ishii, Metrick, 2003; Black, Jang, Kim, 2006).
Therefore, the conducted research has several managerial implications. First recommendation is addressed to managers, shareholders and boards of directors of Russian public companies, who are advised to improve the quaity of corporate governance within the company and scrupulously comply with provisions of the Code. This would allow companies to attract new investors, who value companies with advanced corporate governance higher with other things being equal. Moreover, compliance with the Code would contribute to increase in confidence that shareholders and investors put in the company.
Besides this, creditors are also interested in whether the company complies with best corporate governance practices. They should be confident that the company will be able to pay off its debt in future and thus estimate risks associated with the company. Since companies with high level of corporate governance have a strong reputation, creditors would associate them with lower risks and thus provide loans on better terms.
Studying reports on compliance with the Code would also be beneficial for individual investors. Firstly, the fact that the company complies with the Code and therefore observes shreholders’ rights is a signal for the investor that his rights will not be violated. Secondly, companies complying with the Code more probably have conscientious managers and suggest higher return on invested capital. Since investors are interested in maximization of their wealth, they should consider investing in companies with higher level of compliance with the Code.
The paper might also be interesting for regulators. As for today, in order to be included in the first and second quotation levels, companies have to meet certain requirements set by the Moscow Exchange. In order to motivate companies to observe the Code provisions, the Exchange can strengthen its requirements. As compliance with the Code contributes to higher market valuation and companies will try to fulfill its recommendations, regulators are suggested to systematically revise and elaborate the Code by adding new provisions and improving existing ones. This will lead to significant increase in quality of corporate governance in Russian public companies.
All in all, increased interest to corporate governance from the side of investors, shareholders, regulators and creditors will create benefits for companies complying with the Code due to growing investments, decreasing cost of capital and higher liquidity.
As for further opportunities for the research, it would be interesting to assess how much compliance with the Code would cost and reveal in which cases it would be economically beneficial for companies.
Speaking about the limitations of the study, first of them is a relatively small data sample (62 companies) and time period (2 years). The decision to select companies included in the broad market index is supported by high liquidity of their shares, while not all companies from the index report on their compliance with the Code. The relatively small time period was chosen due to the Code recent issuance and companies’ annual reports unavailable for 2016. Secondly, due to specifics of the Russian market, the distribution of companies among industries is unequal with the major part of companies operating in Energy and Metal & Mining industries. Therefore, the results might be potentially inapplicable to companies from other industries. Finally, the research was conducted only for Russian public companies and its results cannot be extended to other countries.
Based on the results of regression analysis, we may conclude that compliance with best corporate governance practices contributes to additional value creation. This finding is in line with previous research papers dedicated to the investigation of the relationship between corporate governance indices and market measures of company value (Gompers, Ishii, Metrick, 2003; Black, Jang, Kim, 2006).
Therefore, the conducted research has several managerial implications. First recommendation is addressed to managers, shareholders and boards of directors of Russian public companies, who are advised to improve the quaity of corporate governance within the company and scrupulously comply with provisions of the Code. This would allow companies to attract new investors, who value companies with advanced corporate governance higher with other things being equal. Moreover, compliance with the Code would contribute to increase in confidence that shareholders and investors put in the company.
Besides this, creditors are also interested in whether the company complies with best corporate governance practices. They should be confident that the company will be able to pay off its debt in future and thus estimate risks associated with the company. Since companies with high level of corporate governance have a strong reputation, creditors would associate them with lower risks and thus provide loans on better terms.
Studying reports on compliance with the Code would also be beneficial for individual investors. Firstly, the fact that the company complies with the Code and therefore observes shreholders’ rights is a signal for the investor that his rights will not be violated. Secondly, companies complying with the Code more probably have conscientious managers and suggest higher return on invested capital. Since investors are interested in maximization of their wealth, they should consider investing in companies with higher level of compliance with the Code.
The paper might also be interesting for regulators. As for today, in order to be included in the first and second quotation levels, companies have to meet certain requirements set by the Moscow Exchange. In order to motivate companies to observe the Code provisions, the Exchange can strengthen its requirements. As compliance with the Code contributes to higher market valuation and companies will try to fulfill its recommendations, regulators are suggested to systematically revise and elaborate the Code by adding new provisions and improving existing ones. This will lead to significant increase in quality of corporate governance in Russian public companies.
All in all, increased interest to corporate governance from the side of investors, shareholders, regulators and creditors will create benefits for companies complying with the Code due to growing investments, decreasing cost of capital and higher liquidity.
As for further opportunities for the research, it would be interesting to assess how much compliance with the Code would cost and reveal in which cases it would be economically beneficial for companies.
Speaking about the limitations of the study, first of them is a relatively small data sample (62 companies) and time period (2 years). The decision to select companies included in the broad market index is supported by high liquidity of their shares, while not all companies from the index report on their compliance with the Code. The relatively small time period was chosen due to the Code recent issuance and companies’ annual reports unavailable for 2016. Secondly, due to specifics of the Russian market, the distribution of companies among industries is unequal with the major part of companies operating in Energy and Metal & Mining industries. Therefore, the results might be potentially inapplicable to companies from other industries. Finally, the research was conducted only for Russian public companies and its results cannot be extended to other countries.