Emerging Markets Review 5 (2004) 409 426

www.elsevier.com/locate/econbase

Corporate governance and dividend policy in

emerging markets
Todd Mitton*
Marriott School Brigham Young University, 684 TNRB, Provo, UT 84602, United States
Received 29 January 2004; received in revised form 6 May 2004; accepted 31 May 2004
Available online 2 November 2004

Abstract
In a sample of 365 firms from 19 countries, I show that firms with stronger corporate governance
have higher dividend payouts, consistent with agency models of dividends. In addition, the negative
relationship between dividend payouts and growth opportunities is stronger among firms with better
governance. I also show that firms with stronger governance are more profitable, but that greater
profitability explains only part of the higher dividend payouts. The positive relationship between
corporate governance and dividend payouts is limited primarily to countries with strong investor
protection, suggesting that firm-level corporate governance and country-level investor protection are
complements rather than substitutes.
D 2004 Published by Elsevier B.V.
JEL classification: G35; G34
Keywords: Dividend policy; Corporate governance; Emerging markets

1. Introduction
In the United States, the debate surrounding dividend policy has traditionally centered
on the question of why firms pay dividends, given that the tax disadvantage of dividends
appears to be large. But in countries where investor protection is weak, a more
* Tel.: +1 801 422 1763.
E-mail address: todd.mitton@byu.edu.
1566-0141/$ - see front matter D 2004 Published by Elsevier B.V.
doi:10.1016/j.ememar.2004.05.003

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T. Mitton / Emerging Markets Review 5 (2004) 409426

fundamental question regarding dividend policy might be more relevant: How can
shareholders hope to extract dividends from firms, given that the legal environment of the
country and the governance mechanisms of individual firms offer investors relatively few
protections? Agency theory suggests that outside shareholders have a preference for
dividends over retained earnings because insiders might squander cash retained within the
firm (see, e.g., Easterbrook, 1984, Jensen, 1986, Myers, 2000). This preference for
dividends may be even stronger in emerging markets with weak investor protection if
shareholders perceive a greater risk of expropriation by insiders in such countries.1 La
Porta et al. (2000) show that dividend payouts are higher, on average, in countries with
stronger legal protection of minority shareholders. This finding lends support to what La
Porta et al. (2000) call the boutcomeQ agency model of dividends, which hypothesizes that
dividends result from minority shareholders using their power to extract dividends from
the firm.
If protection of minority shareholders does have a positive impact on dividend payouts,
then shareholder protection should help explain not just country-level differences in
dividend payouts, but also firm-level differences in dividend payouts within countries.
Indeed, while country-level investor protection is an important factor in preventing
expropriation, firm-level corporate governance could carry equal or greater importance.
And corporate governance practices can vary widely even among firms in the same
country operating under the same legal regime. This paper uses firm-specific corporate
governance ratings developed by Credit Lyonnais Securities Asia (CLSA) for 365 firms
from 19 emerging markets to study the impact of firm-level corporate governance on
dividend payouts. It is important to note, as do La Porta et al. (2000), that the outcome
model does not hinge on investors holding specific rights to dividends. Rather, what is
important is that the countrys lawsor the companys governance practicesallow
minority shareholders more rights in general, which rights may then be used to influence
dividend policy. For example, observers have noted that Russian firms are more
commonly electing independent directors to their boards, despite a legal system that does
little to define or enforce board independence (Nicholson, 2003). Mark Mobius, elected as
an independent director to the board of Russias LUKoil in 2002, later acted on behalf of
shareholders to propose a minimum-dividend policy that LUKoils board approved in
2003 (Investor Protection Association, 2003).
Using the CLSA data, I first show that firms with higher corporate governance
ratings have higher dividend payouts. The effect appears to be economically meaningful
as well as statistically significant; regression results imply that a one-standard deviation
increase in a firms corporate governance rating is associated with an average 4% point
increase in dividend payouts (the average payout ratio is about 30%). A move from the
worst governance (in this dataset, Indonesias Indocement) to the best governance (in
this dataset, Hong Kongs HSBC) would imply, on average, a higher dividend payout
ratio of some 22% points. This result is consistent with the hypothesis of the outcome
agency model that investors that are afforded stronger rights use those rights to extract

In a recent paper, Brav et al. (2003) find limited evidence for the agency theory of dividends in the U.S., at
least from the perspective of corporate executives.

T. Mitton / Emerging Markets Review 5 (2004) 409426

411

dividends from the firm. This result is also complementary to the findings of Faccio et
al. (2001). Interpreting dividends as a means for limiting expropriation, they study East
Asian and Western European firms and find that dividend payouts are significantly
impacted by the vulnerability of a firms minority shareholders to expropriation by
controlling shareholders.2
Even when shareholders are well protected, however, they may not prefer higher
dividend payouts if they believe the firm has good investment opportunities available for
excess cash. Indeed, La Porta et al. (2000) find that, in countries with strong investor
protection, there is a stronger negative relationship between growth opportunities and
dividend payouts. That is, it appears that, when shareholders perceive that their rights are
well protected, they are more willing to let firms with good growth opportunities retain
cash, being confident that they will share in the payoff from good projects later on. In
contrast, if shareholders know that investor protection is poor, they may be more
haphazard in their desire for dividends, trying to extract whatever value they can
regardless of the firms growth opportunitiesbefore being expropriated. Complementary
to the country-level finding of La Porta et al. (2000), I find at the firm level that firms with
stronger corporate governance also show a stronger negative relationship between
dividends and growth opportunities. In other words, the pattern of dividend payouts
seems to make more sense among firms with good corporate governance.
I next examine how dividend policy is impacted by the interplay of country-level
investor protection and firm-level corporate governance. I find, first of all, that across all
countries, both country-level investor protection and firm-level corporate governance have
explanatory power for dividend payouts. Of the two, the country-level measures have
perhaps greater explanatory power. Next, I find that firm-level corporate governance is
positively associated with dividend payouts primarily in countries that offer strong
investor protection (as measured by legal origin or antidirector rights). This suggests that
firm-level corporate governance and country-level investor protection work as complements rather than substitutes. Firm-level improvements in corporate governance may be
most effective when the legal regime of the country also offers a higher level of protection
for shareholders.
The findings of the paper are robust to many different specifications (although I find
some specifications where they are not). The results hold when controlling for financial
variables that have been shown previously to be correlated with dividend payouts, namely
growth, size, and profitability (see Fama and French, 2001). I show separately that firms
with stronger governance have higher profitability, but improved profitability explains
only part of the connection between governance and dividends. The results also hold when
controlling for industry- and country-fixed effects. In addition, I show that the results hold
with or without financial firms, with or without mandatory-dividend countries, and when
controlling for the tax advantage of dividends. Nevertheless, as will be discussed further in
Section 4, because I lack a suitable instrument for firm-level corporate governance, these

2
In a related finding, Gugler and Yurtoglu (in press) show, using data from Germany, that negative reactions
to dividend reductions are stronger among firms where minority shareholders are more susceptible to
expropriation.

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T. Mitton / Emerging Markets Review 5 (2004) 409426

results are subject to typical problems of endogeneity, and, therefore, any interpretations
regarding causality should be made cautiously.
I also use additional data to get a sense as to whether the result holds among a broader
sample of firms. Lacking governance ratings for a broader sample, I use variables that have
been used in previous work as indicators of good governance. These variables (whether or
not a firm is diversified, has a Big Five international auditor, or is cross-listed in the U.S.)
are available for a much larger sample (over 14,000 firms). Although these indicators are
clearly not as refined as the CLSA ratings, they are generally supportive of the results
using the CLSA ratings, suggesting that the findings may be applicable to a broader
sample.
The results presented here add to the current literature in a few ways. These firm-level
findings add confidence to previous country-level findings regarding investor protection
and dividends. Because country-level measures of investor protection can be correlated
with other important variables, some uncertainty remains about which country-level
variables impact dividend policy. Showing that differences in shareholder protection at the
firm level also impact dividend policy helps confirm that investor protection is a
significant factor affecting dividend policy. In addition, the results add to a growing
literature that uses firm-level measures of governance to study the impact of corporate
governance on corporations around the world. Such papers (too numerous to list briefly)
include those that measure firm-level governance with ratings, with various measures of
ownership structure, and with other indicators of governance.3 Finally, the firm-level
findings suggest that individual firms are not entirely trapped by the legal regimes of their
home country. By improving corporate governance at the firm level, firms can demonstrate
a commitment to protecting investors that translates into real economic outcomes.
Section 2 describes the data used in the study. Section 3 presents the empirical results.
Section 4 discusses robustness and alternative interpretations. Section 5 examines the
results with a broader sample using governance indicators. Section 6 concludes.

2. Data and methodology

To measure the strength of corporate governance at the firm level I use corporate
governance ratings developed by Credit Lyonnais Securities Asia (CLSA, 2001). CLSA
analysts assess the performance of emerging market firms on 57 issues in seven areas of
corporate governance.4 These ratings have been used in several other studies5 to examine
the impact of corporate governance on firm performance. In rating the firms, analysts are
required to give only binary (yes/no) responses to each of the issues, in an effort to reduce
subjectivity. Firms are then given a composite rating based on their scores in the areas of
management discipline, transparency, independence, accountability, responsibility, fairness, and social responsibility. The first six areas have a 15% weighting in the composite
3

See Denis and McConnell (2003) for a discussion of many of these papers.
See Durnev and Kim (2002) for a complete listing of all 57 issues addressed in the survey.
5
Examples include Durnev and Kim (2002), Khanna et al. (2002), Klapper and Love (2002), Chen et al.
(2003), and Friedman et al. (2003).
4

T. Mitton / Emerging Markets Review 5 (2004) 409426

413

score, and social responsibility has a 10% weighting. The rating is on a scale of 1 to 100,
with a higher score indicating stronger corporate governance. I adopt CLSAs composite
score as my primary measure of firm-level corporate governance.
A few issues regarding use of the CLSA scores should be addressed. First, it is clear
that there is a selection bias in the set of firms covered. CLSA chooses firms to cover
based on whether the firms are of interest to international investors. Thus, the results
presented should be thought of as applying particularly to larger, more visible, firms.
Second, it is not clear that bsocial responsibilityQ should be included as part of the rating as
it does not relate directly to minority shareholder protection. In addition, the bmanagement
disciplineQ rating is a concern because it includes one issue (out of nine) that is at least
partially related to dividend payouts.6 To avoid discarding useful information and to avoid
tampering with CLSAs rating, I stick with the CLSA composite score as a base case. The
results presented are robust to exclusion of either the social responsibility or management
discipline rating (see Section 4).
I match the firms in the CLSA study with financial data from the Worldscope database.
I use the October 2002 version of Worldscope, in which the latest data reported for most
firms is from 2001, which corresponds with the 2001 date of the CLSA report. The
primary measure of dividends I use from Worldscope is the dividend payout ratio, which is
defined as dividends per share/earnings per share*100. As secondary measures of
dividends I also calculate dividends/cash flow and dividends/sales (as in La Porta et al.,
2000). Because dividend payouts naturally change over the life cycle of a firm, I try to
account for life cycle properties of firms by controlling for firm size and firm growth rates.
To measure size, I take from Worldscope the log of total assets of the firm, measured in
billions of US$. To measure growth I take from Worldscope the one-year growth rate in
total assets, measured in US$. In addition to size and growth, it has been shown that
profitability is positively correlated with dividend payouts (Fama and French, 2001), so I
use profitability as an additional control variable. (In Section 4, I discuss the impact of
profitability in more detail.) Profitability is measured as return on assets and also comes
from Worldscope. To avoid undue influence of outliers, growth and profitability are both
winsorized at the 5th and 95th percentile.
The Worldscope database does not have a match for every firm rated by CLSA. Of the
495 firms from 25 countries included in the CLSA ratings, I am able to match 447 (90%)
of the firms with Worldscope. Of that number, I exclude 45 firms from 4 countries
identified by La Porta et al. (2000) as mandatory dividend countriesBrazil, Chile,
Colombia, and Greece. (The results are robust to including these countries; see Section 4.)
Finally, from this number, I exclude 37 firms that are missing necessary financial data in
Worldscope. The most common missing item is the growth rate, as it requires two years of
available data rather than one. After these adjustments, 365 firms from 19 countries
constitute the base sample.
Table 1 presents descriptive statistics of the data by country. The median corporate
governance rating of all firms in the sample is 55.4. The highest rating in the sample is

The exact wording of the question is as follows: bOver the past 5 years, is it true that the company has not
built up cash levels, through retained earnings or cash calls, that has brought down ROE?Q

414

Table 1
Descriptive statistics by country
Country

Observations Corporate
governance rating

ARGENTINA
1
CHINA
12
HONG KONG
39
HUNGARY
1
INDIA
68
INDONESIA
17
KOREA (SOUTH) 22
MALAYSIA
40
MEXICO
7
PAKISTAN
9
PERU
1
PHILIPPINES
20
POLAND
2
RUSSIA
1
SINGAPORE
30
SOUTH AFRICA
29
TAIWAN
40
THAILAND
17
TURKEY
9
Total
365

66.70
45.99
62.46
60.40
56.47
38.39
47.71
56.19
64.50
33.90
75.50
43.87
36.20
15.40
65.78
67.55
54.06
55.15
42.13
55.10

66.70
48.70
67.30
60.40
54.35
36.40
46.50
59.40
67.10
30.70
75.50
38.65
36.20
15.40
64.65
67.40
52.90
54.80
38.40
55.40

Total asset Total assets Profitability Dividends/ Dividends/ Antidirector Legal

growth
(billion US$) (ROA)
cash
sales
rights
origin
(US$; %)
flow (%) (%)

Mean Median S.D.

Mean

Mean

Mean

Mean

Mean

7.34
8.35
0.16
51.74
33.47
8.84
8.44
9.61
10.71
0.49
24.06
1.83
9.29
32.28
6.61
0.55
10.25
4.99
3.48
10.89

6.633
6.861
27.389
4.005
2.493
1.615
17.790
4.370
17.654
0.869
0.540
2.334
6.120
15.673
8.436
5.661
6.689
4.510
4.694
9.916

0.71
5.74
5.73
7.50
8.25
8.29
2.85
6.20
5.33
7.14
11.50
1.85
2.09
18.31
4.36
5.71
5.04
4.23
4.75
5.75

0.00
23.00
39.34
0.00
19.76
28.64
7.15
21.00
8.98
37.66
37.56
12.21
1.86
12.00
30.97
14.92
9.73
16.55
7.19
20.42

0.00
10.50
11.00
0.00
2.83
4.23
1.09
5.10
2.48
6.71
9.13
2.19
0.15
2.94
5.16
7.52
2.62
3.98
1.04
4.76

0.00 0.00
7.66 40.38 45.62
13.20 42.52 43.14
0.00 0.00
10.06 30.25 24.58
11.43 25.25 27.65
6.91 15.76 12.43
14.47 33.49 30.52
8.61 16.68 10.77
14.45 52.06 63.49
21.60 21.60
12.67 17.39 5.29
3.11 6.74 6.74
14.58 14.58
9.24 30.97 28.18
8.55 30.87 30.97
9.20 27.67 32.44
12.22 29.98 28.78
8.33 20.60 0.00
13.87 30.07 28.50

25.00
27.40
22.54
22.60
16.65
25.39
18.29
28.65
20.01
9.53
23.38
28.59
25.68
34.11
37.76
25.95

4
1
5
3
5
2
2
3
1
5
3
3
3
4
5
3
2
2
3.11

civil
civil
common
civil
common
civil
civil
common
civil
common
civil
civil
civil
civil
common
common
civil
civil
civil

The table reports descriptive statistics of variables used in subsequent tables. Corporate governance ratings come from CLSA (2001). Financial data come from
Worldscope. Country-level variables are compiled from La Porta et al. (2000) and Claessens et al. (2000).

T. Mitton / Emerging Markets Review 5 (2004) 409426

Mean Median S.D.

Dividend
payout ratio (%)

T. Mitton / Emerging Markets Review 5 (2004) 409426

415

93.5 (Hong Kongs HSBC Holdings), and the lowest rating in the sample is 13.9
(Indonesias Indocement). The average dividend payout ratio for all firms in the sample is
30.1%. In comparison, the average dividend payout ratio for listed U.S. firms from 1993
98 was 39.3% (Fama and French, 2001). In addition to the financial data described above,
Table 1 also shows measures of country-level investor protection. The two measures
presented are antidirector rights and legal origin. As explained in La Porta et al. (1997,
1998), antidirector rights is a composite measure, on a scale of 1 to 5, where a higher
number indicates that the country offers more legal protections for equity investors. Legal
origin is also important in that common law countries have been shown to offer greater
shareholder protection than civil law countries (La Porta et al., 1997, 1998). I compile the
country-level data from La Porta et al. (2000) and Claessens et al. (2000).
In the results that follow, I estimate the effect of corporate governance on dividend
payouts using ordinary least squares regression. I present specifications with and without
industry-fixed effects and country-fixed effects, but the specification that I ultimately focus
on includes both industry- and country-fixed effects. Because tests detect heteroskedasticity of errors in some specifications, I report heteroskedasticity-adjusted standard errors
(White, 1980) throughout the analysis.

3. Results
I first examine whether firms with stronger governance have higher dividend
payouts. Regressions results are reported in Table 2. In Table 2, the dependent

Table 2
Firms with stronger governance have higher dividend payouts
(1)

(2)

Dependent variable is dividend payout ratio

Corporate governance
0.302***
0.323***
(0.105)
(0.105)
Growth
0.135**
(0.062)
Profitability

(3)
0.261***
(0.098)
0.237***
(0.062)
1.397***
(0.211)

Size
Industry dummies
Country dummies
N
R2

No
No
365
0.026

No
No
365
0.036

No
No
365
0.144

(4)

(5)

(6)

0.245**
(0.097)
0.252***
(0.062)
1.572***
(0.219)
1.558*
(0.853)
No
No
365
0.153

0.271***
(0.104)
0.170***
(0.065)
1.537***
(0.251)
1.147
(1.098)
Yes
No
365
0.292

0.271**
(0.133)
0.129*
(0.068)
1.527***
(0.269)
1.327
(1.313)
Yes
Yes
365
0.352

The table reports regression coefficients of dividend payout ratios on corporate governance ratings and control
variables. Corporate governance ratings come from CLSA (2001). Financial data come from Worldscope. Growth
is the 1-year growth rate in total assets, profitability is return on assets, and size is the log of total assets.
Heteroskedasticityrobust standard errors are reported below coefficients in parentheses.
* 10% level of significance.
** 5% level of significance.
*** 1% level of significance.

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T. Mitton / Emerging Markets Review 5 (2004) 409426

variable is the dividend payout ratio and the independent variable of interest is the
corporate governance rating. Column 1 of Table 2 shows the coefficient on corporate
governance with no control variables. The coefficient is 0.302, meaning that a onepoint increase in the corporate governance rating is associated with an increased
dividend payout ratio of 0.3% points. The coefficient on corporate governance is
significant at the 1% level of confidence.
In subsequent columns of Table 2, I add control variables in turn, adding first growth,
then profitability, size, industry dummies, and country dummies. The magnitude of the
coefficient on corporate governance decreases somewhat as controls are added, but always
remains significant at the 5% level or higher. The largest decrease in the magnitude of the
coefficient comes with the addition of profitability as a control. (The relative impact of
profitability and governance will be discussed further in Section 4.) In the final column,
with all controls included, the coefficient on corporate governance is 0.271 and is
significant at the 5% level. As mentioned earlier, the coefficient suggests that a onestandard deviation increase in corporate governance is associated with a higher dividend
payout of 4% points. In summary, Table 2 demonstrates that stronger corporate
governance is associated with higher dividend payouts, possibly reflecting the increased
ability of shareholders to limit expropriation by insiders.
As will be typical in the tables that follow, in the final column of Table 2, the control
variables also have some explanatory power for dividend payouts, as would be expected.
The coefficient on growth is negative and significant, probably reflecting that firms with
higher growth retain cash for investment. The coefficient on profitability is positive and
highly significant, probably reflecting that profitable firms have more cash available for
dividends, all else equal. Finally, the coefficient on size is positive and marginally
significant in some specifications, indicating that larger firms have higher dividend
payouts.
In Table 3, I turn to the secondary question of how dividends are affected by the
interaction of corporate governance and growth. As put forth by La Porta et al. (2000),
when investors are well protected, we should see a stronger negative relationship between
dividends and growth. La Porta et al. (2000) demonstrate this with country-level variables,
and, in Table 3, we examine the same with variables that vary at the firm level.
Our independent variable of interest in Table 3 is corporate governance interacted with
growth. As in La Porta et al. (2000), I implicitly view past growth rates as a proxy for
future growth opportunities. Column 1 of Table 3 presents the coefficient on this
interaction term along with the main effects on corporate governance and growth and with
no other control variables. The coefficient on corporate governance interacted with growth
is 0.012 and is significant at the 5% level of confidence. The negative coefficient is as
expected and indicates that among firms with stronger corporate governance, the negative
relationship between growth and dividends is stronger.
In subsequent columns, I progressively add control variables as before. In the
intermediate columns the coefficient on the interaction between governance and growth
declines and even loses significance in Columns 3 and 4. However, once all controls are
included in Column 5, the coefficient is again significant at the 5% level with a magnitude
of 0.009. In addition, the separate coefficients on corporate governance and growth
remain significant and of the expected sign when the interaction term is included. In short,

T. Mitton / Emerging Markets Review 5 (2004) 409426

417

Table 3
Stronger governance is associated with a stronger negative relationship between dividends and growth
(1)
Dependent variable is dividend payout ratio
Corporate governance
0.293***
(0.102)
Growth
0.121*
(0.063)
Corporate governancegrowth
0.012**
(0.005)
Profitability

(2)
0.243**
(0.098)
0.225***
(0.063)
0.008*
(0.005)
1.358***
(0.215)

Size
Industry dummies
Country dummies
N
R2

No
No
365
0.049

No
No
365
0.150

(3)

(4)

(5)

0.230**
(0.098)
0.240***
(0.063)
0.007
(0.005)
1.526***
(0.226)
1.457*
(0.863)
No
No
365
0.158

0.258**
(0.104)
0.162**
(0.066)
0.006
(0.005)
1.500***
(0.258)
1.085
(1.104)
Yes
No
365
0.295

0.260**
(0.130)
0.120*
(0.068)
0.009
(0.004)
1.491***
(0.269)
1.443
(1.325)
Yes
Yes
365
0.358

The table reports regression coefficients of dividend payout ratios on the interaction of corporate governance with
growth and control variables. Corporate governance ratings come from CLSA (2001). Financial data come from
Worldscope. Growth is the 1-year growth rate in total assets, profitability is return on assets, and size is the log of
total assets. Heteroskedasticityrobust standard errors are reported below coefficients in parentheses.
* 10% level of significance.
** 5% level of significance.
*** 1% level of significance.

Table 3 shows that the pattern of dividend payouts makes more sense among firms with
stronger corporate governance.
Table 4 investigates the interaction of investor protection and corporate governance.
First, I investigate whether country-level variables or firm-level variables are more
dominant in their impact on dividend policy. Table 4 addresses this question by simply
including investor protection and corporate governance as right-hand-side variables
simultaneously. Of course, this calls for modified specifications, as country-fixed effects
are now excluded (but industry-fixed effects are retained throughout).
Column 1 of Table 4 presents the coefficient on antidirector rights without corporate
governance. The coefficient on antidirector rights is 3.442 and is significant at the 1%
level. The magnitude of the coefficient implies that firms in countries with a higher score
of one point (the scale is from 1 to 5) have higher dividend payout ratios, on average, of
more than 3% points. This result is essentially a confirmation of the results in La Porta et
al. (2000). In Column 2, corporate governance is also included in the regression. Here, the
coefficient on antidirector rights falls to 2.396, but it remains significant, although now,
only at the 5% level. Meanwhile, the coefficient on corporate governance is 0.282, also
significant at the 5% level. In this case, it does not appear that either effect dominates the
other; both country-level investor protection and industry-level corporate governance have
strong explanatory power for dividend payouts. Columns 3 and 4 repeat the regressions of
Columns 1 and 2 but with profitability included as a control. Here, similar relationships are
seen, but the coefficients on antidirector rights and corporate governance are smaller and
of a lower significance level.

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T. Mitton / Emerging Markets Review 5 (2004) 409426

Table 4
Country-level measures of investor protection and firm-level measures of corporate governance both have
explanatory power for dividend payouts
Antidirector rights
(1)

(2)

Legal origin
(3)

(4)

(5)

(6)

(7)

(8)

Dependent variable is dividend payout ratio

Antidirector rights
3.442*** 2.396** 2.853*** 2.186*
(1.160)
(1.219) (1.050)
(1.123)
Common law
Corporate governance
Growth
Size

0.028
(0.067)
0.663
(1.182)

Profitability
Country dummies
Industry dummies
N
R2

No
Yes
364
0.199

10.672*** 7.551** 9.204*** 7.126**

(3.266)
(3.422) (2.944)
(3.075)
0.282**
0.186*
0.257**
0.175
(0.118)
(0.111)
(0.115)
(0.107)
0.058
0.140** 0.156** 0.039
0.063
0.152** 0.164***
(0.067) (0.063)
(0.065)
(0.066)
(0.066) (0.062)
(0.063)
0.405
1.734
1.521
0.884
0.591
1.847
1.616
(1.157) (1.138)
(1.131)
(1.162)
(1.135) (1.127)
(1.117)
1.624*** 1.558***
1.576*** 1.525***
(0.250)
(0.255)
(0.243)
(0.248)
No
No
No
No
No
No
No
Yes
Yes
Yes
Yes
Yes
Yes
Yes
364
364
364
365
365
365
365
0.215
0.295
0.302
0.205
0.219
0.297
0.303

The table reports regression coefficients of dividend payout ratios on country-level measures of investor
protection, corporate governance ratings, and control variables. Corporate governance ratings come from CLSA
(2001). Financial data come from Worldscope. Growth is the 1-year growth rate in total assets, profitability is
return on assets, and size is the log of total assets. Country-level variables are compiled from La Porta et al. (2000)
and Claessens et al. (2000). Heteroskedasticityrobust standard errors are reported below coefficients in
parentheses.
* 10% level of significance.
** 5% level of significance.
*** 1% level of significance.

Columns 5 through 8 repeat the analysis of Columns 1 through 4, but with legal origin
as the country-level variable. The results are similar, except that, now, legal origin appears
to have stronger explanatory power than corporate governance, to the extent that corporate
governance loses significance in Column 8. On balance then, the evidence suggests that
both country-level investor protection and firm-level corporate governance have
significant explanatory power for dividends, but that the explanatory power of countrylevel investor protection may be somewhat greater.
In Table 5, I turn to the next issue of the interaction of country-level investor
protection and firm-level corporate governance. The question I want to address here is
whether country-level investor protection and firm-level corporate governance act as
complements or substitutes. A priori, it is not obvious which to expect. On the one
hand, investor protection and corporate governance may be substitutes, meaning that,
when investor protection is weak, firms can have a greater impact on strengthening the
rights of their shareholders when they improve corporate governance. On the other
hand, investor protection and corporate governance may be complements, meaning that
the efforts of individual firms to improve corporate governance may have little

T. Mitton / Emerging Markets Review 5 (2004) 409426

419

Table 5
Are country-level investor protection and firm-level corporate governance complements or substitutes?
Legal origin

Antidirector rights

Common law
countries

Civil law
countries

All
countries

Above
median

Below
median

All
countries

(1)

(2)

(3)

(4)

(5)

(6)

Dependent variable is dividend payout ratio

Corporate governance
0.515***
0.226
(0.153)
(0.222)
Corporate governance
Common law
Corporate governance
Antidirector rights
Growth
0.043
0.271
(0.079)
(0.166)
Profitability
1.093***
2.328***
(0.365)
(0.413)
Size
0.975
3.823*
(1.659)
(2.304)
Country dummies
Yes
Yes
Industry dummies
Yes
Yes
N
232
133
R2
0.391
0.549

0.223*
(0.129)
0.583**
(0.256)

0.128*
(0.069)
1.536***
(0.270)
1.395
(1.316)
Yes
Yes
365
0.363

0.451**
(0.227)

0.035
(0.090)
0.868**
(0.427)
1.938
(1.942)
Yes
Yes
176
0.368

0.011
(0.178)

0.213
(0.130)
2.277***
(0.387)
0.203
(2.137)
Yes
Yes
188
0.453

0.260**
(0.130)

0.164
(0.107)
0.122*
(0.069)
1.512***
(0.267)
1.402
(1.321)
Yes
Yes
364
0.357

The table reports regression coefficients of dividend payout ratios on corporate governance ratings, the interaction
of governance with country-level measures of investor protection, and control variables. Corporate governance
ratings come from CLSA (2001). Financial data come from Worldscope. Growth is the 1-year growth rate in total
assets, profitability is return on assets, and size is the log of total assets. Country-level variables are compiled from
La Porta et al. (2000) and Claessens et al. (2000). Heteroskedasticityrobust standard errors are reported below
coefficients in parentheses.
* 10% level of significance.
** 5% level of significance.
*** 1% level of significance.

effectiveness if the country does not provide a legal environment that respects
shareholder rights.
I address this question in Table 5 in two ways, by partitioning the sample, and with
interaction terms. First, I split the sample between countries with strong investor protection
and weak investor protection. As discussed previously, I use two measures of investor
protection, legal origin (with common law countries offering better protection), and
antidirector rights (with a higher score indicating better protection). In Columns 1 and 2, I
split the sample between common law countries and civil law countries. Throughout Table
5, I include all control variables. Column 1 shows that, among firms in common law
countries, the coefficient on corporate governance is much greater than it is among all
firms. The coefficient is 0.515 (compared to 0.271 in Table 2), and is significant at the 1%
level. Meanwhile, Column 2 shows that, among firms in common law countries, the
relationship between governance and dividends is actually negative (but not significantly
different from zero). Columns 4 and 5 tell a similar story with antidirector rights. Among
firms in countries with above-median antidirector rights, the coefficient on corporate

420

T. Mitton / Emerging Markets Review 5 (2004) 409426

governance is 0.451, but among firms with below-median antidirector rights, the
coefficient on corporate governance is 0.011. These results strongly suggest that,
regarding dividend policy, country-level investor protection and firm-level corporate
governance are complements rather than substitutes.
The second approach in Table 5 is to create interactions of investor protection and
corporate governance. In Column 3, corporate governance is interacted with a dummy
variable equal to one for common law countries. The coefficient on the interaction term is
positive and significant at the 5% level. Column 6 confirms this results with corporate
governance interacted with antidirector rights. Again the coefficient on the interaction term
is positive, although not significant at standard levels. The coefficients on the interaction
terms confirm what is demonstrated with the partitioned sample, that investor protection
and corporate governance are complements in their impact on dividend policy. This result
stands in contrast to the results of Klapper and Love (2002) and Durnev and Kim (2002)
who find that firm-level corporate governance and country-level investor protection are
substitutes in terms of their impact on firm value.

4. Alternative Interpretations and Robustness

If we interpret the results presented in the previous section in the context of the
outcome agency model of dividends, then the interpretation is as has been discussed
previously. That is, when shareholders are afforded stronger rights by companies that have
stronger corporate governance, shareholders use that power to extract dividends. But other
interpretations of the results are possible. The first alternative to consider is that firms with
stronger governance have improved operating performance which then allows these firms
to pay higher dividends (irrespective of the power or wishes of shareholders). In particular,
if stronger governance leads to greater profitability, then it may be greater profitability that
leads to higher dividend payouts, not the exertion of influence by shareholders. Because a
positive correlation between governance and profitability has not yet been established, I
first address this issue in Table 6.
In Table 6, the dependent variable is profitability. Column 1 shows that corporate
governance does indeed have a positive effect on profitability, with a coefficient of 0.058
which is significant at the 5% level. Controls for growth and size are also highly significant,
and industry dummies are included throughout. The significance of corporate governance
remains if we add either country-fixed effects or indicators of country-level investor
protection. (Neither antidirector rights nor legal origin has significant explanatory power for
profitability.) In sum, Table 6 establishes a positive association between firm-level corporate
governance and profitability. (Again, no causality can be inferred, it could be, for example,
that when firms become more profitable, they have the luxury of improving governance.)
Returning then to the question of whether improved profitability explains the
relationship between governance and dividends, previous tables already demonstrate that
this explanation may have some relevance because the coefficient on corporate governance
declines when profitability is included as a control variable. However, previous tables also
demonstrate that profitability is not the entire explanation, because corporate governance
retains significance even when profitability is included as a control. In sum, both the

T. Mitton / Emerging Markets Review 5 (2004) 409426

421

Table 6
Firms with stronger governance have greater profitability
(1)
Dependent variable is profitability ratio
Corporate governance
0.058**
(0.023)
Antidirector rights

(2)
0.074***
(0.027)

(3)
0.061**
(0.024)
0.135
(0.282)

Common law
Growth
Size
Country dummies
Industry dummies
N
R2

0.066***
(0.020)
0.691***
(0.220)
No
Yes
365
0.387

0.057***
(0.021)
0.703***
(0.273)
Yes
Yes
365
0.422

0.063***
(0.020)
0.716***
(0.223)
No
Yes
364
0.391

(4)
0.054**
(0.026)

0.278
(0.757)
0.066***
(0.020)
0.672***
(0.228)
No
Yes
365
0.388

The table reports regression coefficients of profitability (return on assets) on corporate governance ratings and
control variables. Corporate governance ratings come from CLSA (2001). Financial data come from Worldscope.
Growth is the 1-year growth rate in total assets and size is the log of total assets. Country-level variables are
compiled from La Porta et al. (2000) and Claessens et al. (2000). Heteroskedasticityrobust standard errors are
reported below coefficients in parentheses.
* 10% level of significance.
** 5% level of significance.
*** 1% level of significance.

indirect effect of profitability and the direct effect of governance have explanatory power
for dividend payouts. In subsequent robustness checks, I present results with and without
profitability as a control variable.
An additional alternative interpretation of the results is that causality is reversed or that
both governance and dividends are jointly influenced by an omitted variable. Ideally, I
would like to use standard econometric techniques to deal with potential endogeneity. This
would involve identifying an instrument, that is, a variable that is correlated with the key
independent variable (in this case, the corporate governance rating), but that is otherwise
uncorrelated with the dependent variable (in this case, dividend payout ratios).
Unfortunately, I am unable to identify an appropriate instrument for this situation. This
type of problem is a recurring issue in studies of corporate governance. In one atypical
case, Black et al. (2002) are able to use an instrumental variables approach to establish
causation running from corporate governance to firm value, but their instrument is specific
to institutional details of Korea and is not suited to this cross-country analysis. The bottom
line for this study is that, lacking a suitable instrument for corporate governance, it is not
possible to rule out alternative explanations based on endogeneity.
In Table 7, I turn to some additional regressions to assess the robustness of the main
result along different dimensions. In each case, I present results with and without
profitability as a control variable. In the first two robustness checks I alter the corporate
governance rating to exclude the discipline measure and the social responsibility measure
respectively. The reasons for potentially wanting to omit these variables are discussed in

422

Table 7
Robustness checks
Exclude social
responsibility
measure from rating

Dividends/cash
flow as dependent
variable

Dividends/sales
as dependent
variable

Include mandatory
dividend countries

Exclude financial
firms

Control for countrys

tax advantage of
dividends

(1)

(3)

(5)

(7)

(9)

(11)

(13)

(2)

(4)

(6)

(8)

(10)

(12)

(14)

Dependent variable is dividend payout ratio (except where noted)

Corporate
0.336** 0.247*
0.345*** 0.239*
0.278** 0.172
0.056 0.024
0.337** 0.224*
0.471*** 0.328** 0.456*** 0.339***
governance (0.131) (0.132)
(0.123)
(0.124)
(0.135) (0.133)
(0.035) (0.036)
(0.134) (0.134)
(0.155)
(0.155)
(0.114)
(0.109)
Growth
0.036
0.127*
0.039
0.127*
0.028
0.105*
0.009 0.016
0.037
0.135** 0.028
0.135*
0.069
0.158**
(0.071) (0.068)
(0.071)
(0.068)
(0.057) (0.054)
(0.020) (0.018)
(0.069) (0.066)
(0.079)
(0.076)
(0.072)
(0.069)
Size
0.274
1.364
0.234
1.315
0.012
0.930
0.133 0.175
0.541
0.813
1.025
1.954
0.487
1.499
(1.398) (1.321)
(1.387)
(1.316)
(1.178) (1.153)
(0.632) (0.584)
(1.415) (1.284)
(1.489)
(1.402)
(1.224)
(1.181)
Profitability
1.550***
1.533***
1.350***
0.438***
1.642***
1.539***
1.457***
(0.268)
(0.269)
(0.256)
(0.077)
(0.262)
(0.272)
(0.257)
Dividend tax
7.126
3.190
advantage
(12.186) (11.766)
Country
Yes
Yes
Yes
Yes
Yes
Yes
Yes
Yes
Yes
Yes
Yes
Yes
No
No
dummies
Industry
Yes
Yes
Yes
Yes
Yes
Yes
Yes
Yes
Yes
Yes
Yes
Yes
Yes
Yes
dummies
N
365
365
365
365
359
359
365
365
402
402
278
278
339
339
R2
0.268
0.351
0.271
0.351
0.373
0.436
0.337 0.409
0.259
0.349
0.313
0.408
0.226
0.303
The table reports regression coefficients of measures of dividends on corporate governance ratings and control variables. Corporate governance ratings come from CLSA
(2001). Financial data come from Worldscope. Growth is the 1-year growth rate in total assets, profitability is return on assets, and size is the log of total assets. Mandatory
dividend countries added to the sample include Brazil, Chile, Colombia, and Greece. Financial firms are defined as those with primary SIC in the range 60006999.
Heteroskedasticityrobust standard errors are reported below coefficients in parentheses.
* 10% level of significance.
** 5% level of significance.
*** 1% level of significance.

T. Mitton / Emerging Markets Review 5 (2004) 409426

Exclude discipline
measure from
rating

T. Mitton / Emerging Markets Review 5 (2004) 409426

423

Section 2. Columns 1 through 4 demonstrate that the results are robust to excluding these
measures, as the coefficient on corporate governance retains significance at the 10% level
or higher whether or not profitability is included as a control variable.
In the next two robustness checks, I use alternative definitions of dividend payouts,
dividends/cash flow and dividends/sales. While these are not standard definitions of
dividend payouts, they are used in La Porta et al. (2000) as alternative definitions. These
results are presented in Columns 5 through 8 of Table 7. Here, the robustness of the results
does not fare as well. With dividends/cash flow as the dependent variable, the coefficient
on corporate governance is significant in one specification, but, with dividends/sales as the
dependent variable, the coefficient on corporate governance is not significant, although it
retains the expected sign.
In the next two robustness checks presented, I change the sample in two important ways.
Columns 9 and 10 repeat the basic results but with countries designated as mandatory
dividend countries now included in the regressions. The coefficient on corporate
governance is significant in both of these specifications. Columns 11 and 12 repeat the
analysis with but with financial firms (SICs in the 6000s) excluded. Without financial firms
the results are even stronger than in the full sample. Finally, in Columns 13 and 14, I present
one more robustness check, where I control for a countrys tax advantage of dividends. This
measure is taken from La Porta et al. (2000). The results are robust to inclusion of this
variable, which in itself, has little explanatory power for dividend payouts.

5. Tests using a broader sample of firms

As a final test of the robustness of the results, Table 8 presents results using governance
indicators in place of the CLSA ratings. These indicators are rougher measures of
governance than the CLSA ratings, but they have the advantage that they can be examined
for a larger set of firms. The intent from examining this data is to get an indication as to
whether the results presented previously apply to a broader set of firms. An alternative,
and sharper, way of expanding the sample would be to use as the governance measure (or
measure of susceptibility to agency problems) the divergence between cash-flow rights
and control rights, as has been done in a number of papers including Lins (2003), Lemmon
and Lins (2003), Harvey et al. (in press), and Faccio et al. (2001). Lacking this detailed
data, I rely on financial data from Worldscope, but now using indicators that allow the
sample to include over 14,000 firms from 50 countries. I examine three indicators of
governance that are available for the large sample. The first is a dummy variable that
equals one if the firm operates in only one industry, with industries defined at the two-digit
SIC level. A focused firm is used as an indicator of good governance both in the CLSA
study and in previous research (see, e.g., Mitton, 2002 and Friedman et al., 2003). The
second indicator is a dummy variable that equals one if the auditor of the firm is one of the
Big Five international accounting firms.7 Having a Big Five auditor has been used
previously as an indicator of higher disclosure quality (Titman and Trueman, 1986; Reed et

The data come from 2001, prior to the breakup of Arthur Andersen.

424

T. Mitton / Emerging Markets Review 5 (2004) 409426

Table 8
Governance indicators in an expanded sample
(1)
Dependent variable is dividend payout ratio
Focused
0.912 **
(0.443)
Big Five Auditor

(2)

2.113***
(0.542)

Cross-listed
Focusedgrowth

5.451***
(1.047)
0.042***
(0.016)

Big Five Auditorgrowth

0.023
(0.016)

Cross-listedgrowth
Growth
Size
Profitability
N
R2

(3)

0.056***
(0.009)
2.511***
(0.112)
1.487***
(0.034)
14766
0.270

0.057***
(0.009)
2.343***
(0.116)
1.484***
(0.034)
14766
0.271

0.056
(0.041)
0.058***
(0.009)
2.587***
(0.114)
1.489***
(0.034)
14766
0.271

(4)
0.933**
(0.442)
2.144***
(0.542)
5.523***
(1.048)
0.042**
(0.016)
0.022
(0.016)
0.050
(0.041)
0.056***
(0.009)
2.501***
(0.120)
1.483***
(0.034)
14766
0.272

The table reports regression coefficients of dividend payout ratios on corporate governance indicators,
interactions of the indicators with growth, and control variables. Focused means the firm operates in just one
two-digit SIC industry. Big Five Auditor means the name of the firms auditor is one of the Big Five international
firms. Cross-listed means the firms stock is listed in the U.S. (directly or as a Level II or III ADR). Financial data
come from Worldscope. Growth is the 1-year growth rate in total assets, profitability is return on assets, and size
is the log of total assets. Heteroskedasticityrobust standard errors are reported below coefficients in parentheses.
Also estimated but not reported are full sets of industry and country dummy variables.
* 10% level of significance.
** 5% level of significance.
*** 1% level of significance.

al., 2000; Mitton, 2002), which is an important element of corporate governance (see La
Porta et al., 1998). The third indicator is a dummy variable that equals one if the firms stock
is cross-listed on a U.S. exchange, either directly or with a Level II or III depository receipt.
Because such a cross-listing subjects the firm to a higher level of disclosure requirements
and investor scrutiny, it may bond the firm to maintain a higher standard of governance (see
Coffee, 1999; Stulz, 1999 and Reese and Weisbach, 2002 for examples of this view).
Table 8 presents results of regressions of dividend payout ratios on these indicators.
Column 1 shows that focused firms have higher dividend payout ratios than diversified
firms, even after controlling for growth, size, profitability, industry, and country. The
difference does not appear large (focused firms have higher payout ratios of just under one
percentage point) but it is statistically significant at the 5% level. Column 1 also shows that
the negative relationship between growth and dividends is stronger among focused firms,
suggesting that focused firms allocate capital more efficiently. This coefficient is
significant at the 1% level. Column 2 repeats the analysis for the Big Five auditor
indicator. Firms with Big Five auditors have higher payout ratios (by around two

T. Mitton / Emerging Markets Review 5 (2004) 409426

425

percentage points) and this difference is significant at the 1% level. The negative
relationship between growth and dividends is also stronger among firms with Big Five
auditors, although this difference is not significant. Column 3 shows the same results for
the cross-listed indicator. Here, the results are not as expected, as cross-listed firms have
lower dividend payouts. However, the negative relationship between growth and dividends
is still stronger among cross-listed firms (though again not significant). Column 4 shows
that the same results hold with all three indicators included simultaneously. In summary,
although the evidence is mixed for cross-listed firms, on balance, these results seem to
support, in a broader sample, that stronger governance is associated with higher dividend
payouts and a stronger negative relationship between growth and dividends.

6. Conclusion
The ultimate goal of corporate governance is to ensure that suppliers of finance to
corporations receive a return on their investment (Shleifer and Vishny, 1997). While
suppliers of equity can receive a return through dividends or capital gains, agency theory
suggests that shareholders may prefer dividends, particularly when they fear expropriation
by insiders. The outcome agency model tells us that when shareholders have greater rights,
they can use their power to influence dividend policy. Shareholders can receive greater
rights either through a countrys legal protection or through a firms governance practices
that may not be mandated by government. This paper shows that firm-level corporate
governance, in addition to country-level investor protection, is associated with higher
dividend payouts, suggesting that both mechanisms help reduce agency problems. In
addition, stronger corporate governance is shown to be associated with a stronger negative
relationship between growth and dividends, demonstrating that the pattern of dividend
payouts makes more sense among firms with stronger corporate governance. The results
suggest that, when shareholders are well protected, either by governments or by
corporations themselves, capital can be allocated more efficiently.

Acknowledgement
I appreciate the helpful comments of Jim Brau, Simon Johnson, Mike Lemmon, Grant
McQueen, Sendhil Mullainathan, Mike Pinegar, David Scharfstein, and Jeremy Stein on
earlier versions of the paper. All errors are mine.

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