Corporate governance: from compliance obligation to business imperative.(INTERNATIONAL CORPORATE GOVERNANCE)

Will corporate governance become more important in the future and, if so, why? Are the drivers shifting? Is corporate governance primarily limited to a handful of developed markets, or is it global? What are the essential building blocks of good corporate governance--the top issues and most fundamental concerns? In what ways do corporate governance perceptions differ across markets and among types of investors? What are the key corporate governance challenges facing investors, and how are they addressing those challenges?

The 2006 ISS Global Institutional Investor Study seeks to answer these questions from the perspective of institutional investors, who have such a large stake in the future of corporate governance. Over the past year, we conducted in-depth conversations with more than 320 institutional investors in 18 countries: the US, Canada, the UK, and nations in continental Europe, Australia, New Zealand, Japan, and China. These investors represent an aggregate $10.5 trillion in equity assets owned or managed. We met in person with nearly eight of every 10 study participants, all of them executives up to and including chief executive officers.

Our study finds investors voicing five major themes that underscore the value of corporate governance. After reviewing these themes, we offer a special report on China and conclude with implications for investors and corporations.

Corporate Governance Has Shifted from a Compliance Obligation to a Business Imperative

Compliance with regulatory requirements provided the catalyst for the increased importance of corporate governance in recent years, with 94 percent of investors globally saying that corporate governance is important to their firms. Yet investors are now seeing corporate governance in a new light, recognizing that it is not just an externally imposed obligation, but an ownership responsibility, or "the right thing to do" in their words. Increasingly, investors are also transforming corporate governance issues and activities into competitive and portfolio advantages. Some are using their corporate governance focus as a competitive advantage to differentiate their firms or funds, while others call corporate governance a competitive necessity "just to get in the game."

Investors also are leveraging corporate governance to build portfolio value by enhancing long-term investment returns, mitigating risks, and providing a better picture of portfolio companies. And far from subsiding, 63 percent of investors globally believe corporate governance will become even more important over the next three years.

But the reasons are shifting. Scandals have receded as a driver of future growth, while other business-related factors have grown. In this new era of higher standards, compliance remains the top driver of future growth in the importance of corporate governance. But it's no longer a question just of compliance. Our study finds that investors view corporate governance as delivering value in terms of business needs and client demand, enhanced returns, mitigated risks, and a better understanding of portfolio companies (Exhibit 1).

The shift in perceptions came out most dramatically when we asked institutional investors to characterize the role corporate governance will play in their institutional investing over the next three years. Two-thirds said that corporate governance "offers value but it's hard to quantify," while an additional 28 percent said that "corporate governance offers competitive advantage for my fund in its equity investments." A mere 3 percent said that "corporate governance has little or no value beyond compliance."

Corporate Governance Is a Global Imperative

"Global capital markets have become more integrated. Corporate governance becomes a common theme in the global investment community. It can serve as a screening tool to nail down the portfolio candidates. Moreover, it can also serve as a benchmark for our investment …