AWSJ: Heard In Asia: Well-Governed Companies Rated Good Buys
Updated: Monday, April 30, 2001 04:30 PM ET
Staff Reporter
SINGAPORE -- Want to buy a mutual fund that avoids companies that make weapons or tobacco products? You can do that. Want to screen out companies involved with genetically modified foods? You can do that too.
How about a fund that picks companies based on whether they act in the interest of all shareholders, even the smallest, and operate in an open and accountable way? Uh, no, sorry. Such a fund doesn't exist.
That's a shame, because it turns out that good governance begets good stock performance. A recent study by CLSA Emerging Markets of 495 emerging market companies found a strong linkage between good corporate governance (CG, news, msgs), earnings and stock values.
The study found that the stock prices of the largest 100 companies covered fell an average 8.7% last year, while the stocks of the 25 companies rated best for CG rose an average 3.3%. The bottom 25 companies saw their stocks fall by an average 24%. According to the study, the correlation between good corporate governance and share performance for the largest companies is "a near perfect fit."
Although fund managers haven't yet jumped on the idea of a corporate governance fund, that doesn't mean you can't profit from the idea yourself. If companies you hold come up badly from a CG perspective, maybe you should think about dropping them in favor of others that do pay attention to corporate governance standards.
The risk to your money if you give it to companies with poor CG standards: "what's going to happen with it is anybody's guess," says David Gerald Jeyasegaram, founder and president of the Securities Investors Association of Singapore.
Some markets have particularly loose standards for corporate governance. South Korea, Thailand, Malaysia, China, the Philippines, Indonesia and Pakistan all scored four or less out of a possible 10 in the CLSA study. Singapore came out on top, followed by Hong Kong.
But investors need to go deeper than that if they want to make sure the companies they pick have upstanding CG performances, or, more importantly, that they aren't holding companies that give little thought to corporate governance. Out of the 37 Hong Kong companies included in the study, for instance, 15 are ranked in the top 100 best CG companies but six are in the 100 worst.
CLSA rated the companies on 57 issues relating to good CG. Here's a quick summary of what to look for:
Companies rated highly are transparent; they give you enough information to know why they do what they do. They are focused on raising the price of their stock, not just enriching the owner at the top, whatever the cost to minority shareholders. They stick to a few core businesses, keep debt under control, and give excess cash back to shareholders.
Companies at the bottom of the scale can be set up so that it isn't clear who owns what, and information on the company's plans and performance is scarce. When they make money, there's often no guarantee that shareholders will see any benefits. Debts are allowed to mount and expansion is undisciplined.
Some of the top companies in the survey include HSBC Holdings and Li & Fung in Hong Kong; Infosys and Wipro in India; Singapore Airlines and Singapore Press Holdings; and TSMC in Taiwan. Some of the worst include Pacific Century CyberWorks, Hutchison Whampoa and CITIC Pacific in Hong Kong; Tenaga in Malaysia; and Samsung Electronics, Shinhan Bank and KT Freetel in Korea.
A note of warning: The top companies won't come cheap, and a good CG rating isn't necessarily a "buy" signal all by itself. Companies rated in the top 25% of the 100 largest companies surveyed trade at an average price to book value that is 54% higher than their market average, while companies in the bottom 25% are priced 43% below the average price to book value of their markets. As the study notes, these companies have done well and their stock prices reflect that.
While some well-run companies may be too expensive, there is often justification for paying some sort of a premium, says Amar Gill, the author of the CLSA study. He compares the stock price premium for good CG companies to insurance, in that the price you pay reflects the protection you receive from a company with good CG. As importantly, looking at a company from a corporate governance perspective means you could be warned away from a "value trap," a company that appears attractive based on its share price, but which might not act in your best interests.
"What this tells investors is that companies with low corporate governance scores and aren't transparent ... it's a warning sign," Mr. Gill says.
For example, a company that pays no attention to CG standards might have a good year and look undervalued based on its share price. But if it takes the profit it makes and uses it to invest in assets of questionable value, or if professional management might be compromised, shareholders would have been better off staying away.
Take Malaysia's state-owned power company Tenaga Nasional. On Monday it reported that profit rose 51% in the six months ended March 1. Its stock price was down more than 22% from the high reached in March this year. A signal to buy?
Not if you look at Tenaga from the point of view of corporate governance: The CLSA study ranks Tenaga last out of all large Asian emerging-market companies and it notes that the company badly needs a tariff increase to give it a firmer foundation. The CLSA report points out that no date has been set for a tariff increase and that Tenaga's debt is "rising at over 2 billion ringgit ($526 million) per year."
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Looking After Shareholders
The best and worst large-cap Asian companies in terms of corporate governance
Top Five
Company Country Score (%)
HSBC Hong Kong 93.5
Infosys India 93.3
Singapore Airlines Singapore 85.7
Li & Fung Hong Kong 84.1
CLP Hong Kong 82.0
Bottom Five
Company Country Score (%)
Tenaga Malaysia 39.9
PCCW Hong Kong 40.6
China Unicom Hong Kong 41.5
Hutchison Hong Kong 42.7
Citic Pacific Hong Kong 43.6
Source: CLSA Emerging Markets
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