Does compliance with the German Corporate Governance Code pay off? An investigation of the implied cost of capital

This paper aims to empirically investigate the relationship between the level of compliance with the German Corporate Governance Code’s (GCGC) recommendations and the implied cost of equity capital (ICC). German listed companies are required by law to annually disclose their compliance with the recommendations of the GCGC. Whether the GCGC achieves its aim to promote the trust of stakeholders in the management and supervision is still an open question.

ICC is regressed on a score that captures compliance with the GCGC and several control variables. The dataset covers the period of 2003-2012 with declarations of compliance from 447 companies. ICC is chosen as an outcome variable, as it captures general investment risk as well as risk arising from asymmetric information and mistrust of investors in management.

The results of the empirical analysis demonstrate that a higher level of GCGC compliance is associated with lower ICC.

It is expected that the results of this study will strengthen acceptance of the GCGC and empirically support the work of the government commission that is responsible for it. It has not been analyzed yet whether the firms cite good reasons why they do not adhere to certain items.

This empirical analysis is the first to provide statistically reliable evidence on how compliance with the GCGC affects ICC and whether the work of the government commission reflects good corporate governance as perceived by capital markets.