Sunday, October 15, 2006

Finance, Economics, and Peace

Congratulations to the pioneering 'microfinance' practitioner, Bangladeshi Dr. Muhammad Yunus, for winning the Nobel Peace Prize on Friday. Dr. Yunus is a PhD in Economics and won the prize for his founding of Grameen Bank, which lends to small entrepreneurs at reasonable rates of interest in order to finance their small businesses.
Certainly he has taken important steps towards helping the poorest people to become self-sufficient and to prevent their being taken advantage of by unscrupulous money lenders.

But the Peace Prize?

At first glance, it is hard to equate philanthropic work or finance innovation with an award for peace. The peace prize after all has historically been awarded to international figures who try to broker peace between warring factions:
The Intl. Atomic Energy Agency last year, and previously activist for women's issues and refugees Shirin Ebadi, the United Nations and Doctors Without Borders.

To make matters more dubious in my eyes, the Nobel Committee specifically introduced the Islam motif in their award speech with the statement "Here we see a Muslim influencing the rest of the world" (presumably they also meant "in a positive way").
In my view the introduction of this religious theme into what should be a nonsectarian recognition of the greatest human effort to promote peace was quite unnecessary. More so when one realizes that Grameen Bank does not have particular claims to Islam - in fact, its basic premise, lending with interest, is completely at odds with the first principles of Islamic finance. (Islamic finance forbids lenders from charging interest).

If raising the quality of life for the poorest sections of the world is a basis for awarding the Peace Prize (and I'm not disagreeing, certainly it is a worthwhile effort that should be recognized, and certainly it does not fit into any of the other Nobel categories)- and Doctors Without Borders, an organization I have immense awe for, could certainly fit under this head - perhaps Bill and Melinda Gates should be contenders. Their Foundation, which is probably the largest of its kind in the world, especially after the recent additions by Warren Buffett, contributing the equivalent of many small countries' fortunes annually to various charitable causes.
In comparison with what they do for the world's underpriveleged, Muhammad Yunus is merely a businessman and economist who started a bank with an innovative lending policy.

"How does corporate governance even matter?" The bottom line..

Suppose the CFO or CEO of a company asks you the above question.
Forget value judgements and moral righteousness.
How would you convince the CFO/CEO that good corporate governance is worth the cost?

The carrots:

1. Corporate governance affects bond ratings
Bhojraj and Sengupta as well as Ashbaugh, Collins and LaFond have made arguments to that effect.

2. And therefore affects cost of capital
See above; as well as Gompers Ishii and Metrick's paper entitled Corporate Governance and the Cost of Equity Capital.

3. Corporate governance affects share price

4. Institutional investors' demand for a stock may depend on governance

5. Better compensation structure may result from stronger governance
Davila and Penalva found that stronger corporate governance is associated with higher proportion of equity in a CEO’s compensation package.

6. Governance may directly affect firm performance
Brown and Caylor found that seven of the metrics utilized by Institutional Shareholder Services (ISS), principally those related to director performance and senior management stock options, had an effect on firm performance. Bebchuk Cohen and Ferrell find that the entrenchment index (developed from six ISS corporate governance variables) improves firm performance.

And the stick:

5. Poor corporate governance can result in executives' employment termination

More on these individual issues (and more links to papers and findings) coming up.

Out of hibernation

Hello readers!
I am back after some prodding by my faithful readers and friends, after a long hiatus.
My bad. No excuses.
Much has happened in the corporate governance news in the meantime. The options backdating issue has snowballed into a scandal of epic proportions. The resultant spotlight has brought various other governance lapses of companies to public view, prominent among which is the H-P directors snafu that resulted in the resignation of chairperson Patricia Dunn. Executive pay continues to be a concern.
Your opinions on these and other events are, as always, welcome.
And mine, as before, will be forthcoming.