Does certification of corporate governance compliance pay off? Evidence from a unique regulatory setting

• Published date: 01 July 2024
• Author: Abdus Sobhan,Sudipta Bose,Muhammad Shahin Miah,Rushdi Md. Rezaur Razzaque
• Date: 01 July 2024
• DOI: http://doi.org/10.1111/corg.12563

ORIGINAL ARTICLE

Does certification of corporate governance compliance pay

off? Evidence from a unique regulatory setting

Abdus Sobhan

1

| Sudipta Bose

2

| Muhammad Shahin Miah

3

|

Rushdi Md. Rezaur Razzaque

4

1

Department of Accounting and Financial

Management, Newcastle Business School,

Northumbria University at Newcastle,

Newcastle upon Tyne, UK

2

Discipline of Accounting and Finance,

Newcastle Business School, University of

Newcastle, Sydney, New South Wales,

Australia

3

Department of International Business,

University of Dhaka, Dhaka, Bangladesh

4

Department of Accounting, School of

Business and Entrepreneurship, Independent

University Bangladesh, Dhaka, Bangladesh

Correspondence

Abdus Sobhan, Department of Accounting and

Financial Management, Newcastle Business

School, Northumbria University, Newcastle,

UK.

Email: abdus.sobhan@northumbria.ac.uk

Funding information

No funders are available.

Abstract

Research Questions/Issues: Using insights from agency and signaling theories, we

examine the effect on companies' market-based performance of a unique monitoring

mechanism of compliance with a corporate governance (CG) code, that is, indepen-

dent certification of compliance with a CG code and type of certification provider.

Furthermore, we examine the impact of two boundary conditions, family company

status and company-level information asymmetry, influencing the effect of indepen-

dent CG compliance certification and type of certification provider on the market-

based performance of companies.

Research Findings/Insights: Based on 1110 Bangladeshi company-year observations

from 2006 to 2017, we firstly find that independent CG compliance certification is

positively associated with companies' market-based performance. Secondly, we show

that CG compliance certification by a chartered secretarial firm is related to higher

market-based performance. Thirdly, we document that family companies attenuate

both these associations. Finally, we find that, while company-level information asym-

metry reinforces the association between CG compliance certification and market-

based performance, it weakens the relationship between certification by a chartered

secretarial firm and companies' market-based performance.

Theoretical/Academic Implications: Our findings are consistent with the agency and

signaling theory that independent certification of CG compliance and this certifica-

tion by a chartered secretarial firm reduce information asymmetry between managers

and external investors by signaling enhanced credibility of reported CG compliance

information. However, the roles of CG compliance certification and certification by a

chartered secretarial firm to reduce agency conflict and provide credible signals are

conditional on two boundary conditions: family company status and company-level

information asymmetry.

Practitioner/Policy Implications: This study's findings highlight the economic implica-

tions of a unique mechanism for monitoring compliance with an adopted CG code.

The findings have significant implications for policy makers and regulators in emerg-

ing economies.

Received: 19 February 2023 Revised: 15 September 2023 Accepted: 18 September 2023

DOI: 10.1111/corg.12563

This is an open access article under the terms of the Creative Commons Attribution License, which permits use, distribution and reproduction in any medium,

provided the original work is properly cited.

© 2023 The Authors. Corporate Governance: An International Review published by John Wiley & Sons Ltd.

670 Corp Govern Int Rev. 2024;32:670–702.

wileyonlinelibrary.com/journal/corg

KEYWORDS

corporate governance, certification of compliance, chartered secretarial firm, market-based

performance of companies, emerging economy

1|INTRODUCTION

Many emerging economies have adopted the Anglo-American-inspired

corporategovernance (CG) model, leavingthe monitoring of companies'

compliance withCG codes to capital markets (Armitage et al., 2017). In

contrast, the regulator in Bangladesh, the Bangladesh Securities and

Exchange Commission (BSEC),in its Bangladesh Corporate Governance

Code (BCGC)-2012, mandatedthat listed companies obtaina certificate

of compliance with the BCGC from an external independent profes-

sional firm and publish this certificate in the annual reports, next to a

BCGC-2012compliance checklist(BSEC, 2012). We consider this certif-

icate of compliance requirement to be the most far-reaching provision

of the BCGC-2012,given that it has thepotential to reduce agencycon-

flict between managers and external investors (Carnes et al., 2019;

Cortes, 2021) by lowering a company's tendency to overstate compli-

ance with the BCGC-2012 and to providea credible signal to investors

(Khedmatiet al., 2015; Zhang & Wiersema,2009)regardingacompany's

de facto compliance with the BCGC-2012. Moreover, the BSEC offers

listed companies the flexibility of obtainingthis CG compliance certifica-

tion from either an independent practicing chartered secretarial firm or

a professional accounting firm.Overall, these provisions bring a unique

regulatory framework to the monitoring of compliance with a CG code

by companies in the emerging market context. This study utilizes

Bangladesh's unique regulatory setting to examine whether companies'

market-basedperformance is affectedby the mandatory certification of

compliancewith a CG code and the typeof certification provider.

In the context of emerging markets, a growing body of recent

literature investigates the effects of regulatory changes in CG on

company-level outcomes by focusing on blanket CG reform

(e.g., Dharmapala & Khanna, 2013; Koirala et al., 2020), increased

independent board (e.g., Black & Kim, 2012; Ngo et al., 2018), issuer

recognition program resulting in improved information disclosure

(González et al., 2021), and level of compliance with CG codes

(e.g., Black et al., 2012; Price et al., 2011). While many of these

studies provide convincing evidence that regulatory changes in CG

play roles in reducing agency conflict and providing credible signaling,

hence being valued by external investors (Black & Kim, 2012;

Claessens & Yurtoglu, 2013; González et al., 2021; Koirala

et al., 2020), overall results have been inconclusive (Black et al., 2012;

Price et al., 2011). However, an exploration of the effects of CG com-

pliance certification on the market-based performance of firms in this

literature, to the best of our knowledge, is rare. Moreover, prior stud-

ies find that many companies in emerging markets comply symboli-

cally or overstate their compliance with the provisions of the adopted

CG codes (Sobhan, 2016; Wanyama et al., 2009; Witt et al., 2021).

Hence, examining the effects of mandatory independent certification

of CG compliance and the type of certification provider on companies'

market-based performance in emerging market contexts is very

relevant.

Finally, another stream of existing empirical studies pertinent to

our study has been conducted in the context of the United States

since the enactment of the Sarbanes–Oxley Act of 2002 (SOX). These

studies focus on the effects of SOX, Section 404(b), the requirement

for external auditors to certify the effectiveness of their clients'

internal control over financial reporting (ICFR), with ICFR being an

element of CG, on companies' market-based performance

(e.g., Carnes et al., 2019; Cortes, 2021; Iliev, 2010; Khedmati

et al., 2015). Not only do these studies provide mixed evidence

(e.g., Carnes et al., 2019; Cortes, 2021; Iliev, 2010; Khedmati

et al., 2015), but also the findings of these studies may not sustain in

emerging country contexts as they are characterized by poor investor

protection, weak legal enforcement, and family-dominated companies.

Moreover, given that only external auditors are permitted to certify

the effectiveness of their clients' ICFR under SOX, this prior literature

is unable to shed light on whether investors prefer professional

accounting firms to alternative certification providers.

Prior literature has also shown that the roles of regulatory

changes in CG to reduce agency conflict and provide credible signals

differ based on ownership (e.g., Chen et al., 2020; Koirala et al., 2020)

and opaqueness of the companies (e.g., Carnes et al., 2019;

Hirtle, 2006). Family ownership and control are dominant characteris-

tics of companies in Bangladesh (Farooque et al., 2007;

Sobhan, 2014), as in many other emerging economies (Armitage

et al., 2017; Fan & Wong, 2005). Therefore, our study further exam-

ines the moderating effect of family company status and information

asymmetry on the association of independent certification of compli-

ance with the BCGC-2012 and the type of CG compliance certifica-

tion provider with companies' market-based performance.

Our study's analysis, based on a sample of 1110 Bangladeshi

company-year observations from 2006 to 2017, explores the impact

of the certification of CG compliance mandated by the BCGC-2012

on companies' market-based performance. This certification of CG

compliance is found to be positively associated with companies'

market-based performance. Our study also employed a sample of

639 Bangladeshi company-year observations from 2012 to 2017 to

assess the impact of the type of CG compliance certification provider

on companies' market-based performance. The capital market is found

to attach a significantly higher value to CG compliance certification

obtained from a practicing chartered secretarial firm. Several robust-

ness tests are conducted in our study to address the possible issue of

endogeneity, with these tests comprising reverse causality by using

the system generalized method of moments (GMM) as developed by

Blundell and Bond (1998), Heckman's (1979) two-stage model, and

placebo analysis. All robustness tests support our main findings.

Our study also finds evidence that, in the case of family compa-

nies, external investors place a lower value not only on CG compliance

certification but also on CG compliance certification provided by char-

tered secretarial firms. This evidence suggests that capital market

SOBHAN ET AL.671

participants perceive CG compliance certification, irrespective of the

type of certification provider, as a less credible mechanism in family

companies than in their non-family counterparts for signaling de facto

compliance with the BCGC-2012. Conversely, company-level infor-

mation asymmetry positively moderates the effect of CG compliance

certification on companies' market-based performance. However,

when informationally opaque companies obtain their compliance cer-

tification from practicing chartered secretarial firms, investors appear

to value it less favorably. This evidence suggests that the value inves-

tors place on a CG compliance certificate offered by practicing char-

tered secretarial firms is negatively affected by their relatively weak

audit experience in the case of these companies.

This study contributes to the CG literature in three ways. Firstly,

our evidence of the positive impact of CG compliance certification on

companies'market-based performance is consistentwith the findings of

a growing body of literature that is investigating the effect of regulatory

changes in CG on company-level outcomes in emerging markets

(Black & Kim,2012; Dharmapala & Khanna,2013; González et al., 2021;

Koirala et al., 2020).However, our study differs fromthese earlier stud-

ies as our focusis on certification of compliance with a CG codeand the

type of certification provider, instead of on blanket CG reform, more

independent board, or overall compliance with adopted CG codes. For

instance, Koirala et al. (2020) investigate and find that companies sub-

ject to compliance with stricter CG rules, Clause 49 of the Indian CG

code, take higher risks that maximize shareholder wealth in the post-

reform periodthan is the case with companiesexempt from compliance

with these CG rules.

1

Moreover, our findings contributeto the ongoing

debate on whether the certification of a CG element by an independent

professionalfirm affects companies' market-based performance (Carnes

et al., 2019; Chang et al., 2006; Cortes, 2021;Iliev,2010; Khedmati

et al., 2015; Litvak, 2007; Zhang & Wiersema, 2009) in an emerging

economy characterized by poorinvestor protection, weak legalenforce-

ment, and family-dominatedcompanies.

Secondly, our unique research context offers the opportunity to

identify practicing chartered secretarial firms as experts in CG subject

matter using prior literature on statutory audit (Ahn et al., 2020;

Christensen et al., 2015;Gal-Oretal.,2022; Kanagaretnam et al., 2009)

and corporate social responsibility (CSR) assurance (Casey &

Grenier, 2015; Clarksonet al., 2019). Our study shows thatthe value of

compliancecertification with a CG code is,on average, higher in magni-

tude when this certification is obtained from practicingchartered secre-

tarial firms rather than professional accounting firms. This evidence is

consistentwith recent statutoryaudit literature on theimpact of subject

matter expertise of auditors on company-level outcome variables (Ahn

et al., 2020; Christensen et al., 2015; Gal-Oret al., 2022; Kanagaretnam

et al., 2009).Our findings suggest thatin the case of CG compliancecer-

tification within emerging economies, the subject matter expertise of

certification providersprovides a positive extrinsiccue to the stock mar-

kets aboutCG compliance certification.

Thirdly, we contribute to prior literature that documents the

varying effects of the certification of a CG element on a company's

market-based performance depending on the company's characteris-

tics (Carnes et al., 2019; Chen et al., 2020; Hirtle, 2006; Wilkinson &

Clements, 2006) by identifying and testing two boundary conditions.

Given the existing evidence that family companies in Bangladesh are

reputed to circumvent CG reform by different means (Ahmed &

Uddin, 2018,2022; Sobhan, 2016), our study contributes to the

literature by showing that family companies negatively moderate the

association of compliance certification with the BCGC-2012 and prac-

ticing chartered secretarial firms as CG compliance certification pro-

viders with companies' market-based performance. Similarly, the main

role of certification is to reduce information asymmetry (Kausar

et al., 2016; Zhou et al., 2019), with this role varying based on

company-level information asymmetry (Choi & Lee, 2014). Our study

adds to this literature by demonstrating the moderating effect of

company-level information asymmetry on the association of CG com-

pliance certification and the type of certification provider with compa-

nies' market-based performance. Finally, the findings of this study

have significant implications for regulators, international financial

institutions, investor associations, and company insiders that strive for

excellence in CG in emerging economies.

The rest of this paper is structured as follows. Section 2provides

a brief overview of the study's context. Section 3presents the

theoretical framework and develops our hypotheses, followed by a

discussion of the research method in Section 4. Section 5examines

the study's empirical results, while Section 6concludes the paper.

2|INSTITUTIONAL BACKGROUND

Bangladesh is an emerging economy characterized by a poor legal

environment and weak investor protection, with companies owned

and controlled by sponsor families (Farooque et al., 2007;

Sobhan, 2014). However, as the country has experienced impressive

economic growth in recent years, it has felt the need to enhance

foreign and domestic investors' confidence in the stock market by

improving the transparency and accountability of managers and direc-

tors (Khan et al., 2013). Thus, the BSEC has carried out a succession

of reforms to its CG codes based on the Anglo-American-inspired

model (Sobhan & Bose, 2019). The BSEC implemented its first CG

reform in 2006 with the adoption of the BCGC-2006 after the stock

market crash in 1996 (Siddiqui, 2010).

The BCGC-2006was a code based on the “comply orexplain”prin-

ciple and included CG recommendations remarkably similar to the Prin-

ciples of Corporate Governanceof 1999 as set out by the Organisation

for Economic Co-operation and Development (OECD) (Sobhan &

Bose, 2019; Uddin & Choudhury, 2008). The Dhaka Stock Exchange

(DSE) and the Chittagong Stock Exchange (CSE) later included the

BCGC-2006 in their listing rules. Since the BCGC-2006's adoption,

research based on compliance disclosed in annual reports found a high

level of compliance (World Bank, 2009). However, studies using inter-

view and survey data show that the traditionalist culture and cognitive

institutional framework mediate CG's rationalist/legalist framework in

Bangladesh;therefore, companies,in reality, are not complyingwith the

BCGC-2006provisions (Sobhan,20 16; Uddin& Choudhury, 2008).

In 2012, the BSEC revised the BCGC-2006 to a “comply”-based

code and, in the BCGC-2012, introduced the requirement for compli-

ance certification by an independent practicing chartered secretarial

672 SOBHAN ET AL.