NCPA - National Center for Policy Analysis

Corporate Governance and Shareholder Returns

May 14, 2002

Do a company's governance rules make a big difference in shareholder returns? Some economists who believe it does created a "Governance Index" built out of 24 distinct corporate governance provisions relating to defenses against takeovers of the corporation and shareholders' rights for an average of 1,500 firms from September 1990 to December 1999.

  • They found the most successful model portfolio was one that purchased shares in companies with strongest investor protections, and sold short those firms with the greatest management power.
  • By combining these two techniques, the hypothetical portfolio earned an above average return of 8.5 percent a year.
  • They also found that firms with weaker shareholder rights earned significantly lower returns, were valued lower, had poorer operating performance, and engaged in greater capital expenditure and takeover activity.

Source: Christopher Farrell, "Corporate Governance and Shareholder Returns," NBER Digest, December 2001; based on Paul Gompers, Joy Ishii, and Andrew Metrick, "In Corporate Governance and Equity Prices," NBER Working Paper No. 8449, August 2001, National Bureau of Economic Analysis.

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