Is There (a Methodology to Measure) a Corporate Governance Risk Premium into the Corporate Cost of Capital?
29 Pages Posted: 29 Dec 2013 Last revised: 31 Aug 2014
Date Written: August 28, 2014
The paper proposes to intend the firm as a nexus of stakeholder, each bearing return-to-risk expectations on the overall corporate performance. All stakeholders must achieve their own satisfaction by bargaining contracts that must be sustainable, i.e. keep alive in the long term both the firm and its stakeholders-network. Governance is intended as the mechanism that gives solution to the above puzzle. When market and contracts are complete, optimal solution can be easily found out. But when incompleteness emerges, governance can misallocate the firm performance between the stakeholders. Accordingly, the stakeholders will negotiate the visible-only arguments of contracts, and, this way, they bind even the invisible ones (i.e. those impacting anyway on their ex-post performance). This being the case, a Governance Risk Premium (GRP) emerges and incentivize a governance repackage. Such a GRP depends both on the actual grade of incompleteness of the financial markets but even on the one of the contracts as per their capability to allocate risk and growth through time. A framework to detect GRP is even proposed here. Its affordability is proved through an application to the Italian case which is characterized by 142bp GRP inside the cost of equity capital
Keywords: corporate governance, corporate risk, incomplete markets, incomplete contracts
JEL Classification: G34, G35, M10, M21, M51
Suggested Citation: Suggested Citation