A Importância da Governança Corporativa para os Mercados Emergentes Renato de L. Grandmont Head, Global Corporate Governance Research

2 Contents 1Background 2Corporate Governance and its Implications for GEMs 3Global Trends in Corporate Governance 4Conclusion

3 What Is Corporate Governance? Corporation –Weak board of directors –lack of independence –lack of accountability –Unfair shareholder treatment –One share one vote –Tag along rights –Lack of information disclosure –Off balance sheet operations –Accounting standards –Business practices –Cross group subsidies through transfer pricing –Old habits are hard to change (mindset of controlling families) Country –Legal system does not work (can’t sue) –Weak enforcement of laws and regulations –Outdated laws and regulations –Lack of transparency in fiscal matters –Structural problems: –Different share classes –Deficient capital structure (voting - non- voting) –Ownership structures Corporate Governance is a measurement of risk Examples of Corporate Governance Problems

4 Why Corporate Governance Is Key For GEMs One of the causes of the GEMs’ Valuation Discount Investors’ perception about GEMs must change for valuations to increase Corporate Governance is a key ingredient to change that perception –Laws –Regulations –Corporate Action - Be a Global Player! Viability of asset class is at risk –Companies and entire countries are being black listed!

5 Exemplary Emerging Companies Can Access A New Investor Base Fund Flows Into Emerging Markets: From 26% to 6% of an International Portfolio Fund Flows Into Latin America: From 23% to 7% of an Emerging Market Portfolio

6 For How Long Will The Asset Class Remain “Undervalued”? GEMs - Valuations and Estimates

7 Is Texas Another Emerging Market? Enron - Corporate Governance Wake Up Call for the US Some of the Issues: –Lack of transparency –Complicated accounting system - insufficient disclosure - off-balance sheet financing –Lack of board independence (consultants, charitable donations) Enron is leading to: –Legal and regulatory changes –An overhaul of US accounting standards –Review of the role of auditors and of US GAAP –Stock exchange listing requirements could change –Institutional investors also reacting Corporate governance is a global issue, present in all developed markets as well

8 Valuation Analysis: It Pays To Be Good Premium of Top Performers versus Bottom Performers: Quintile

9 Performance Analysis: It Pays to Hold the Good Latin America: Corporate governance appears to be a contributing factor to price performance (5 Years, U$ indexed, rebased)

10 Performance Analysis: It Pays to Hold the Good EEMEASouth Africa Corporate governance appears to be a contributing factor to price performance (5 Years, U$ indexed, rebased)

11 Implications of Better Corporate Governance Corporation –Attract global investors –Increase in value –Reduction of cost of capital –Enhances capital efficiency –Protection of all shareholders attracts more shareholders Economy –Reduces the “country risk” - micro efforts –Accelerates the development of capital market –Induces stable long term foreign capital inflows –Increases national competitiveness –Helps achieve sustainable growth –Helps increase transparency in both private and public sectors, which helps reduce corruption

12 Global Trends in Corporate Governance Increased Fiduciary Responsibilities Corporate Failures will help the US work to improve corporate governance –Legal and regulatory implications for all that trade in US markets Awareness is being raised about corporate governance issues Institutional Investors and Analysts Corporates and Lenders Regulators and Stock Exchanges –are trying to improve corporate governance in order to boost their equity markets Governments concerned about reducing: –want to reduce the “country risk” and the cost of capital for their companies Codes of Corporate Governance being adopted

13 Increased Fiduciary Responsibilities - The Role of Corporate Governance New Law in the US (Sarbanes-Oxley Act) regulations to follow, key issues: CEO/CFO certification (criminal offense) Audit Committee (independent directors) Accounting standards (disclosure & move towards principles based accounting?) New Environment has Implications for: Securities Exchange Regulators Board Members, specially Independent Directors Institutional Investors Investment Banks (research independence) Stock Exchanges (adopt new measures to protect investors) Governments (reduce investment risk to attract more capital)

14 Conclusion - CG Has Direct Implications for Investment Decisions GEMs are undervalued and the viability of the asset class depends on investors returning to the region to stay –requires both macro and micro reforms Companies want to attract global investors and so need to improve their standards Corporate governance impacts equity valuation and stock price performance –Countries/Companies want to attract global investors and so need to improve their standards –Valuation re-rating is possible through better Corporate Governance –But the opposite is also true Increased fiduciary responsibilities for board members and investors –Legislative/regulatory changes taking place in many countries –Corporate governance is a measurement of risk