Corporate governance, regulation and foreign equity ownership: Lessons from Korea

a r t i c l e i n f o Keywords: Corporate governance in emerging markets Foreign equity ownership Regulatory reform South Korea We investigate whether the introduction of a mandated independent director system affected firm ownership structure in South Korea, where the governance system changed significantly after the 1997 financial crisis. Results indicate that foreign investors place considerable value on the appointment of independent directors. An increase in foreign ownership, associated with an improvement in the corporate governance system, occurred after controlling home bias and firm size. Further, the positive effect of an outside director system on foreign ownership was greater for independent firms than it was for conglomerates (chaebols) and their affiliates. The results are robust under a range of endogeneity tests. A dramatic change in corporate governance systems in South Korea (Korea hereafter) following the 1997 financial crisis has drawn the attention of both researchers and policy makers. Previous studies have largely shown the positive effects of corporate governance improvements on among others). While these studies have improved our understanding of the effects of governance mechanisms on shareholder wealth, an equally important aspect is to understand the effect of certain corporate governance mechanisms in attracting foreign investment. Corporate governance mechanisms, including outside directors, reduce investment risk to foreigners by decreasing the costs of monitoring manager's/controlling shareholder's exploitation of minority (foreign) shareholders (Shleifer and Vishny, 1997; Bebchuk and Weisbach, 2010) and business partners (Luo et al., 2009). " In (a shareholder value) environment , independent directors are more valuable than insiders. They are less committed to management and its vision. Independent directors can be more readily mobilized by legal standards to help provide the public goods of more accurate disclosure and better compliance with law. " (Gordon, 2007: 1465) Improving the independence of the board has a subsequent effect of attracting foreign investors. The home bias proposition and transaction cost theory provide further support for this view. They suggest that foreign investors prefer firms that have governance systems similar to those in their own countries (Dahlquist et al. existence of a home bias is to the disadvantage of developing economies as it is consistent with under investment from developed economies and thus inhibits the expansion of globalization. In the context of Korea, we investigate whether a dramatic change in the corporate governance system affected foreign equity ownership. In particular, we investigate whether foreign investors responded positively to …