Measuring Corporate Governance Quality in Concentrated-Ownership Firms

Abstract

In this paper, I present a corporate governance index adjusted to firms with concentrated ownership. The index consists of 31 components that measure three dimensions of corporate governance quality at the firm level: board independence, board qualifications, and controlcash flow wedge. The index has several advantages over indexes constructed in previous papers: it is based exclusively on mandatorily disclosed data, which are more reliable than the voluntarily disclosed data previously used in some studies; it does not contain components that measure the firm’s corporate social responsibility since this dimension is not relevant to investor protection; it does not contain components that measure outcomes related to a firm’s corporate governance quality, including the number and volume of related-party transactions and disciplinary acts taken against management; it extensively measures board qualifications; and its components are well defined so that the index may be calculated without applying discretion. Based on this index, I calculate corporate governance quality scores for 120 nonfinancial Israeli public firms in the period 2007–2014 and show governance quality to have improved owing to legal reforms that went into effect during those years, as well as to changes voluntarily undertaken by the firms.