Does Governance Travel around the World? Evidence from Institutional Investors

We examine whether institutional investors affect corporate governance by analyzing institutional holdings in companies from 23 countries in 2003-2008. We find that firm-level governance is positively associated with international institutional investment. Changes in institutional ownership over time positively affect subsequent changes in firm-level governance, but the reverse is not true. Foreign institutions drive governance improvements outside of the U.S., while domestic institutions play a predominant role in the U.S. The origin of the institution matters, as institutions domiciled in countries with strong shareholder protection are more effective in promoting good governance than institutions from countries with weak shareholder protection. The shareholder protection of the country where the firm is located also matters, with foreign institutions playing a crucial role in countries with weak shareholder protection. Institutional investors affect not only which corporate governance mechanisms are in place, but also outcomes. Firms with higher institutional ownership are more likely to terminate poorly performing CEOs and exhibit improvements in valuation over time. Our results suggest that institutional investors promote good corporate governance practices around the world.