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Corporate Governance Quality and a Firm’s Adaptation to Competitive Threats

Jan Kurzeja () and Jiri Novak ()
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Jan Kurzeja: Institute of Economic Studies at the Faculty of Social Sciences, Charles University in Prague

Czech Journal of Economics and Finance (Finance a uver), 2017, vol. 67, issue 1, 53-78

Abstract: This paper shows that regulatory improvements of corporate governance quality mandated by the Sarbanes-Oxley Act (SOX) are associated with a better ability of firms to adapt to product-market competitive threats. We contribute to prior research by using a novel approach of capturing the dynamic forward-looking aspect of competitive intensity based on linguistic comparison of firms’ product descriptions in 10-K filings. Our measure of competitive intensity – the product market fluidity – captures the increase in verbal similarity of rival firms’ product descriptions. Mandated changes to corporate governance are associated with lower future operating profitability and the profitability reductions are more pronounced in firms that experience lower competitive pressure before SOX implementation. However, firms facing competitive threats experience smaller declines in operating performance in the post-SOX period, which suggests that the improved corporate governance mechanisms make firms better able to accommodate competitive pressure. Using a novel approach to capture the dynamic aspect of competitive intensity the paper provides a new perspective on the ‘substitution’ hypothesis between corporate governance and product market competition.

Keywords: corporate governance; competition; product market; fluidity; substitution; profitability (search for similar items in EconPapers)
JEL-codes: D4 G30 (search for similar items in EconPapers)
Date: 2017
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