There are several levels of corporate governance, and at every level the company bears some costs, and the company can use financial engineering to determine these levels and choose the optimal level of governance that is compatible with the needs of the company, because the application of governance mechanisms at this level allows the company to reduce agency costs and increase the value of the company.
Theoretically it should be the level at which market value of equity and debt is maximized. Drawing from MM Proposition II. We can make it more complex however.
Thanks Paul, you filled in the blanks...
approaching this as the Kuhn-Tucker saddle point the simultaneous maximizing of the enterprise value should also be the minima for the cost of capital [WACC]...
thank u MR Paul Louangrath, the objective is to minimize the costs of governance, by trying to choose just the mechanisms of governance that the firme needs, under the condition of: agency costs > the cost of governance. thus by building a Z score frome a time series data.
your answer was so interesting for me, can u give me ur E-mail for more help.
As it was said, I suggest it would be the level at which the value of the firm's shares and debt is maximized. We can think about a governance index just like the GIM index (Gompers, Ishii Metrick, 2003), or the E index for entrenchment (Bebchuk Cohen and Ferrel (2004), or something more intricate. But endogeneity may take place, and it may be difficult to find which way the causality goes: from governance to value or the other way round. Moreover governance results from a dynamic equilibrium, and the level of governance achieved may be non stable even during a short period of time.
Dear Mohamed,
I am suspicious as to whether there can be an optimal level of corporate governance. If you refer to the theory of corporate governance bundles you will see that the differences bewteen failure and success of corporate governance mechanisms in different settings does not depend on the mechanisms itself, but on the environmental factors that shape the firm. From this viewpoint, what may be considered an optimal level for one firm may be by far not as optimal for another. Please find the reseach paper "A Bundle Perspective to Comparative Corporate Governance" by Aguilera, Desender and Kabbach de Castro attached which deals with these questions.
Paul
Very valid question. In places like India, we need to go for highest level of Governance. The cost is offset by savings in borrowing cost & other intangibles.