High Investor Protection Research Articles

Capital structure and corporate litigation

This paper selects the data of A-share listed companies in Shanghai and Shenzhen from 2011 to 2022 as a sample to explore the relationship between capital structure and corporate litigation and finds that an unreasonable capital structure increases the litigation risk of enterprises. A reasonable capital structure not only helps enterprises maintain a sound financial position and efficient decision-making mechanism in litigation but also reduces their legal risks and improves their competitiveness; the role of capital structure on corporate litigation risk is more significant in regions with low rule of law than in areas with high rule of law. Firms may be more inclined to choose a robust capital structure to reduce litigation risk in areas with a strict legal environment and high investor protection. On the contrary, in regions with relatively lax legal environments and low levels of investor protection, firms may be more inclined to choose risky capital structures in pursuit of higher returns, but this also increases their exposure to litigation risk; financing constraints play a mediating role in the relationship between capital structure and corporate litigation.

Credit default swaps, investor protection, and audit cost: international evidence

PurposeCredit Default Swap (CDS) trading alters equilibrium interactive monitoring of external corporate monitors due to a possible change in private lenders' incentive to monitor client firms. This study explores how audit fees change in response to CDS trade initiation on client firms and how this effect is moderated by investor protection.Design/methodology/approachWith 6,052 cross-country firm observations, the author conducts estimations in the systems dynamic general methods of moments framework.FindingsThe author documents that audit fees rise on average after CDS trade initiations with and/or without investor protection. Meanwhile, change in auditors' risk perception result in increased audit costs when CDS trade initiation and investor protection interact. The effect of CDS trading on audit fees remain after controlling for firm, audit, and auditor features are robust to different proxies of audit cost.Practical implicationsThe need for firms in high investor protection jurisdictions to initiate CDS trade to implement policies in order to maximize their gains from investor protection activities to lessen the overall impact of any increased audit cost that may arise. Furthermore, CDS regulation may be strategically targeted to lessen the effect of increased audit costs on firms after initiation. This would ensure that the resulting increase in audit cost may not materially impact the cash or profitability position of such firms.Originality/valueThis study is distinct from previous ones by focusing on variation in private lenders incentive to monitor after CDS trade initiation after controlling for possible monitoring by short-term creditors. Given that monitoring is not costless for private lenders and CDS trading on their borrowers causes a change in this cost structure, the author documents how auditors react to such changes in incentive to monitor.

CEOs' early-life disaster experience and corporate earnings quality: Focusing on the Great Chinese Famine.

This paper aims to examine the impact of CEOs' early-life disaster experiences on corporate earnings quality. We proxy the disaster experience with whether CEOs lived through the Great Chinese Famine and the famine intensity they experienced. The results indicate that CEOs' early-life famine experience is significantly positively associated with corporate earnings quality, and the famine effects are more obvious for CEOs who experienced the famine at adolescent ages. Further tests show that the famine experience effects are more pronounced in companies with high investor protection and cross-listing and with CEOs who have a relatively high level of education or background in economic management. The findings suggest CEOs would bear the imprint of an adverse early-life experience, which has risk aversion and learning effects on their decision making in corporate earnings information disclosure.

Legal protection systems, corporate governance and firm performance: a cross-country comparison

PurposeThis paper builds on the “Law and Finance” theory and aims to examine the effect of the legal and institutional environment on the governance–performance relationship in the context of non-US firms. More precisely, it examines whether and how the country’s legal system and the level of investor protection interact with the firm-level corporate governance and affect firm performance.Design/methodology/approachThe authors used the “G-Index” governance score developed by the Governance Metrics International rating for a sample of 12,728 firm-year observations from 23 countries over the 2009–2016 period.FindingsThe results show that the interaction between the country-level institutions and corporate governance system significantly affect the firm performance. In particular, the findings indicate that firms operating in common law countries tend to exhibit a positive valuation effect and higher performance than firms with a comparable corporate governance level operating in civil law countries. More precisely, the authors find that in common law countries, higher investor protection with enhanced corporate governance is associated with better firm performance. However, firms operating in civil law countries with weaker investor protection and a comparable corporate governance level tend to experience a negative valuation effect.Originality/valueThe findings suggest that the institutional and legal environment is crucial and important in determining the value-maximizing level of good governance practices. Managers and regulators should carefully analyze the cost of these initiatives and should coordinate it with the needs of the country’s legal system. The challenge for the company will be how to adjust its corporate governance strategy according to the needs and demands of the country’s legal system in which the company operates to improve its performance. The regulators should ensure a fit between the specifics of the national legal and institutional environment and corporate governance standards and practices.

Institutional investors and the value of excess cash holdings: empirical evidence from Pakistan

PurposeThis study examines the effects of foreign and domestic institutional investors on the value of excess cash holdings in the context of Pakistan where the institutional setting is broadly considered as non-friendly to outside shareholders due to family control.Design/methodology/approachA panel sample of 220 listed firms on the Pakistan Stock Exchange (PSX) was employed over the period 2007–2018. Data on institutional ownership are collected from the Standard & Poor’s (S&P) Capital IQ Public Ownership database, while the financial data are collected from Compustat Global. The study uses ordinary least squares (OLS) regression with year and firm fixed effects as the main econometric specification. Moreover, the application of models with alternative measures, high-dimensional fixed effects and two-stage least squares (2SLS) regression are also conducted for robustness.FindingsRobust evidence was found that unlike domestic institutional investors, which do not influence the value of excess cash holdings, foreign institutional investors positively affect the contribution of excess cash holdings to firm value. The positive effect on excess cash holdings' value is mainly driven by foreign institutions domiciled in countries with strong governance and high investor protection. Moreover, this effect is stronger in firms that are less likely to have financial constraints.Originality/valueThis study provides novel evidence on the effect of institutional investors on the value of excess cash holdings in an emerging market like Pakistan. It also adds to the literature by revealing that the effect of different groups of institutional investors on the value of excess cash holdings is not homogenous.

The Relation Between Earnings Quality and Cost of Equity and the Role of Ownership Concentration: Evidence from Italy

This study aims to replicate the analysis of the relationship between earnings quality and cost of equity in the Italian context, a context characterized by high ownership concentration and weak investor protection dominated by the type II agency problem. We hypothesize a different intensity of the earnings quality–cost of equity relation between concentrated-held firms and dispersed-held ones. The analysis is based on a sample of 774 firm-year observations from 128 Italian nonfinancial listed firms, from 2011 to 2017. Empirical results confirm the existence of a negative relationship between earnings quality and cost of equity. Moreover, findings show that in Italy, this relation is stronger for firms with concentrated ownership and weaker for firms with more dispersed ownership. Consistent with our hypothesis, this finding suggests that ownership structure affects the sensitivity of the earnings quality–cost of equity relationship.

Investor protection, cross-listing and accounting quality

Using 42,808 firm-year observations from 32 countries around the world, we investigate whether cross-listing in the US is associated with better accounting quality, and whether investor protection moderates the effect of cross-listing on accounting quality. Our main results show firms that are cross-listed in the US exhibit more timely reporting of losses, greater tendency to manage earnings downward, and more value relevance of accounting numbers as compared to their domestic counterparts. Cross-listed firms originating from high investor protection jurisdictions, particularly in high anti-director rights and common law countries, exhibit greater tendency to recognise a more timely reporting of losses and to manage earnings downward but exhibit lower value relevance of earnings as compared to cross-listed firms domiciled in low anti-director rights and non-common law countries. These results suggest that the strength of investor protection in home country plays an important role in determining the quality of accounting numbers of cross-listed firms.

Market Volatility Risk and Stock Returns around the World: Implication for Multinational Corporations*

AbstractWe investigate the pricing of market volatility risk as a risk factor—the innovation risk and as a characteristic risk—the level risk. We find that the pricing of the country‐level (local) market volatility risk factor is not robust across 21 developed markets and that the global market volatility risk factor prices 21 developed market portfolios after controlling for global market, value, and size factors. Capturing various market information, idiosyncratic market volatility as a country‐specific characteristic risk dominates global market, value, size, and market volatility risk factors in predicting returns of market portfolios. Countries with higher investor protection and accounting standards have higher country‐specific market volatility. Market volatility is higher in these countries because corporate managers take higher risks on innovative projects that benefit economic growth.

Taxes, governance, and debt maturity structure: International evidence

We provide a cross-country evidence on the impact of corporate and personal income taxes, and corporate governance systems on debt maturity structures and leverage using a comprehensive sample of 212,642 firm-year observations based on a sample of 19,573 firms from 24 OECD countries over the period 1990–2015. We find longer debt maturities, higher leverage, and, in a dynamic setting, a greater propensity to decrease short-term debt, in countries with high investor protection and where the potentials for debt tax shields and after-tax return of investors are high. Our results imply that when investors are protected, firms tend to have optimal debt maturities to maximise the gains from tax shields and minimise the tax cost of equity. In contrast, in low protection countries, investors prefer their firms to opt for low debt that is mainly short-term to mitigate the risk-shifting and debt overhang problems even if this entails forgoing the debt tax shields. Our results hold for various robustness checks including the hierarchical linear model specification, which corrects for a number of OLS biases.

Large Shareholders and Firm Value: Interaction between Power and Incentive to Expropriate

This study examines the relationship between large shareholders and firm value and how this relation varies with the large shareholders’ power and incentive to expropriate a firm’s wealth. We find this relation is U shaped with the turning point at around 45% and 65% for the largest shareholders and total blockholders, respectively. The higher the power (or higher control right) means the more the expropriation or lower firm value. However, in firms with controlling blockholders (beyond 50% control right approximately), blockholders have enough power to manipulate firm’s activities but their incentive to expropriate decreases due to private benefits being lower. This study also finds that firms in high investor protection countries are associated with higher values than those in low investor protection countries for any blockholding level, but the difference in firm value between weak investor protection countries and strong investor protection countries is highest when expropriation by blockholders is largest.

Taxes, Governance, and Debt Maturity Structure: International Evidence

We provide a cross-country evidence on the impact of corporate and personal income taxes, and corporate governance systems on debt maturity structures and leverage using a comprehensive sample of 212,642 firm-year observations based on a sample of 19,573 firms from 24 OECD countries over the period 1990 to 2015. We find longer debt maturities, higher leverage, and, in a dynamic setting, a greater propensity to decrease short-term debt, in countries with high investor protection and where the potentials for debt tax shields and after-tax return of investors are high. Our results imply that when investors are protected, firms tend to have optimal debt maturities to maximize the gains from tax shields and minimize the tax cost of equity. In contrast, in low protection countries, investors prefer their firms to opt for low debt that is mainly short-term to mitigate the risk-shifting and debt overhang problems even if this entails forgoing the debt tax shields. Our results hold for various robustness checks including the hierarchical linear model specification, which corrects for a number of OLS biases.

CSR Performance, Dividend Payout and Governance Mechanisms

In this article, we study whether Corporate Social Responsibility (CSR) performancehas an influence on dividend payout ratios. We provide evidence that high CSR firmspay more dividends than other firms. We also find that the positive relationshipbetween CSR performance and dividend payout is observed only for firms in highinvestor protection countries, for firms with high insider ownership, and with highanalyst coverage. These findings provide support for the agency view of CSR whichposits that CSR activities may be related to the managerial expropriation of shareholders. Dividend policy seems to be a tool used to mitigate this problem. Hence, inaccordance with the “outcome model” of dividend policies, we highlight that the linkbetween CSR performance and dividend payout is significant only when internal orexternal governance mechanisms are strong. This indicates that dividend policy andgovernance mechanisms are complementary and not substitute mechanisms to limitpotential expropriation linked to CSR policies.

CSR Performance, Dividend Payout and Governance Mechanisms

In this article, we study whether Corporate Social Responsibility (CSR) performancehas an influence on dividend payout ratios. We provide evidence that high CSR firmspay more dividends than other firms. We also find that the positive relationshipbetween CSR performance and dividend payout is observed only for firms in highinvestor protection countries, for firms with high insider ownership, and with highanalyst coverage. These findings provide support for the agency view of CSR whichposits that CSR activities may be related to the managerial expropriation of shareholders. Dividend policy seems to be a tool used to mitigate this problem. Hence, inaccordance with the “outcome model” of dividend policies, we highlight that the linkbetween CSR performance and dividend payout is significant only when internal orexternal governance mechanisms are strong. This indicates that dividend policy andgovernance mechanisms are complementary and not substitute mechanisms to limitpotential expropriation linked to CSR policies.

Wealth effects of delistings announcements in Europe

Using a European dataset of 478 delistings, the authors investigate the role of corporate governance in the short-term performance of European stocks around a delisting decision. In order to achieve this, the authors utilize the event study methodology in multiple contexts and cross-sectional regression analysis. This is particularly evident in high shareholder protection environments in a finding, related with investors’ perception of the security they experience in the particular market, as well as the afterlife of the under delisting stock and the potential of value creation or destruction. In high investor protection environments the delisting event causes negative abnormal returns both for voluntary and involuntary delistings. The authors conjecture that these delistings, whether referring to LBOs, delistings from secondary listings or BOSOs, are strategic decisions, and in this respect pre-delisting shareholders acknowledge that there is life after delisting. Under low investor protection the above holds only for involuntary ones. Companies failing to meet capital market criteria and voluntary delistings appear to have significantly smaller losses than under bankruptcy firms, on average, on the eve of the delisting event. These abnormal returns are basically affected by the firms’ financial soundness and the corporate governance level pertaining in the host market. Cross-sectional regression analysis shows also the inverse relationship between the degree of governance structures and market reaction to delistings announcements.

Investor Protection and the Long-Run Performance of Activism

This paper investigates the effects of investor protection on hedge-fund activism. Using a parsimonious measure of investor protection constructed from fund organizational characteristics, we document that companies targeted by activists with better investor protection structure outperform those targeted by poor-investor-protection activists by roughly 9% per year. The outperformance is also observed in return-on-assets and valuation ratios. The effect is neither explained by superior target selection ability nor by takeover activity, but rather by increased operational efficiency and reduced agency costs of the target firms. Our findings suggest that higher investor protection is associated with higher valuation, lower agency costs, and more efficient investments.

Estimates of Optimal Audit Firm Tenure Across Different Legal Regimes

Based on a quadratic form of audit tenure in explaining audit quality, we estimate a reference point that is potentially optimal for audit firm rotation for 22 countries across legal regimes with high versus low levels of investor protection. We find that our estimate for the high investor protection regime is longer than that for the low investor protection regime (24 years vs. 14 years for our main measure). However, very few firms from our sample would have been affected if there were a requirement of a mandatory rotation term, suggesting that mandatory audit firm rotation may not be necessary. In additional analyses, we not only evaluate the empirical validity of the quadratic form but also use various measures of our key variables, to conduct several other robustness tests. We continue to find a longer optimal point for countries with stronger investor protection in these robustness tests. Our findings imply that stronger country-level investor protection is a substitute for a shorter term of mandatory audit firm rotation.

Corporate governance, ownership and firm value: Drivers of ownership as a good corporate governance mechanism

This study analyses the role of ownership as a good corporate governance mechanism. We study cross-national differences between companies with different level of investor protection. In addition, we account for the type of owner (young family vs. non-young family businesses) and the owner’s relationship with a second significant shareholder (monitoring vs. collusion). When the main owner has effective control over the firm (i.e., absolute control or less than absolute control but without the control of a second significant shareholder), the relation between ownership concentration and firm value is U-shaped. Our findings also suggest that the conflicts between majority and minority shareholders are weaker for companies with higher investor protection and young family-owned businesses.

Audit quality, investor protection and earnings management during the financial crisis of 2008: An international perspective

This paper investigates the joint effect of global financial crisis of 2008 and investor protection on audit quality and the joint effect of audit quality and investor protection on earnings quality among three clusters based on the country classification of Leuz (2010. Acc. Bus. Res. 40 (3), 229). The results are mixed among clusters and research periods. First, the results show that all measures of audit quality are positively associated with most institutional factors of investor protection in all clusters. Second, audit quality is lower during financial crisis in all clusters and in most of audit quality measures. Third, audit quality is higher (lower) for firms with strong (weak) investor protection and legal enforcement during financial crisis in all clusters. Fourth, we report that earnings quality is stronger (weaker) in countries with strong (weak) investor protection in all clusters before and during the crisis. Fifth, higher (lower) audit quality implies higher (lower) earnings quality in all clusters, irrespective of the financial crisis. Finally, higher (lower) audit quality implies higher (lower) earnings quality in countries with high (low) investor protection in all clusters, irrespective of the financial crisis.

Corporate governance’ impact on research and development

This study examines the effects of legal and investor protection mechanisms on the efficiency of R&D. This study makes two contributions to the literature. First, when a company lists shares in a common law country or one with higher investor protection (i.e., a company has better country-level corporate governance), the R&D investments of companies create more value. Second, companies that issue ADRs generate higher value from their R&D investments than those that do not issue ADRs. For some companies without ADR issues, their R&D investments decrease the market value of the company. The issuance of ADR strengthens the level of supervision, reducing the agency problem and inducing a higher value of their R&D investment. To the best of our knowledge, no previous studies have examined this phenomenon.

Is corporate payout taxation a long run phenomenon? Evidence from international data

This paper examines whether dividend and capital gains taxation influences corporate payout policy using the country level data of 21 countries in panel versions of time series models. We find that dividend relative to capital gains tax penalty is cointegrated with corporate payouts (dividends and share repurchases) i.e. corporate payout taxation may be a long run phenomenon. Further, the cointegrating vector estimates are largely consistent with the traditional view of dividend taxation whereby the tax penalty discourages dividends, while the estimates give limited support to the premise that firms substitute dividends for share repurchases in response to an increase in dividend tax penalty. Long run causality also operates between the tax penalty and payouts in the error correction models. Additionally, dividend tax appears to be more influential than capital gains tax on dividend payout decisions. Lastly, taxation affects dividends more significantly in countries with high investor protection.