Effect of Corporate Governance on Bond Ratings and Yields: The Role of Institutional Investors and Outside Directors

Abstract

This paper provides evidence linking corporate governance mechanisms to higher bond ratings and lower bond yields. Governance mechanisms can reduce default risk by mitigating agency costs and monitoring managerial performance and by reducing information asymmetry between the firm and the lenders. We find firms that have greater institutional ownership and stronger outside control of the board, enjoy lower bond yields and higher ratings on their new bond issues. However, concentrated institutional ownership has an adverse effect on yields and ratings. These results are robust to a specification that controls for institutional ownership being influenced by bond yields.

Keywords: Yield, rating, corporate governance, institutional ownership, board of directors

JEL Classification: G2