! 2 CG Measurement

Journal of Accounting in Emerging Economies
Corporate governance, reporting quality, and firm value: evidence from Indonesia
Ferdinand Siagian, Sylvia V. Siregar, Yan Rahadian,
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JAEE
3,1
Corporate governance,
reporting quality, and firm value:
evidence from Indonesia
4 Ferdinand Siagian
College of Business, Minnesota State University,
Mankato, Minnesota, USA, and
Sylvia V. Siregar and Yan Rahadian
Accounting Department,
University of Indonesia, Jawa Barat, Indonesia
Abstract
Purpose – The purpose of this paper is to investigate whether corporate governance practices and the
quality of reporting are associated with firm value for public firms in Indonesia.
Design/methodology/approach – The authors hypothesize that there are positive associations
between firm value and corporate governance practices and reporting quality. For the authors’ proxies
for corporate governance and reporting quality they develop two new indices. First, they develop
a corporate governance index (the CGI) to measure corporate governance practices by Indonesian
firms. Second, they develop a reporting quality index (the RQI) to measure the firms’ quality of
reporting and disclosures. To examine the associations the authors run multivariate regressions
of their proxies for firm value on the two indices.
Findings – Consistent with the first hypothesis, the paper finds positive associations between
corporate governance and different proxies of firm value. These findings suggest that firms that
implement better corporate governance have higher values. Contrary to the second hypothesis, the
paper finds negative associations between reporting quality and the proxies for firm value. These
findings indicate that lower value firms tend to disclose more information that is consistent with the
P3LKE than higher value firms.
Research limitations/implications – The results suggest that corporate governance practice by
Indonesian public firms is value relevant and therefore, should provide incentives to the firms to
improve their governance. This shows that the Indonesian government’s efforts to promote
corporate governance provide benefits to publicly traded firms. The results also indicate that firms
with low values are more likely to disclose information that is consistent with the P3LKE. This
warrants further research because this finding is inconsistent with the contention that more
disclosures should result in higher value.
Practical implications – The authority needs to put more efforts in promoting good corporate
governance implementations and making sure that public firms improve their disclosures and
reporting quality in order to provide benefits to the users of financial information.
Originality/value – Corporate governance index for public firms is not readily available in
Indonesia. Therefore, the authors develop an index to measure corporate governance implementations
by Indonesian public firms. To the authors’ knowledge, this is the first paper that develops an index
to measure adherence to the P3LKE, which is a comprehensive measure of the quality of reporting.
Keywords Corporate governance, Disclosure, Reporting, Firm value, Quality, Performance,
Performance management, Indonesia
Paper type Research paper
Journal of Accounting in Emerging
Economies
Vol. 3 No. 1, 2013
1. Introduction
pp. 4-20 This paper investigates whether corporate governance and the quality of reporting
r Emerald Group Publishing Limited
2042-1168
are associated with firm value. Specifically, we test the association between firms
DOI 10.1108/20440831311287673 corporate governance index (CGI) scores and their values that we measure using
price-to-book value (PBV), Tobin’s Q, and return on assets (ROA). We also investigate Corporate
the association between firms reporting quality index (RQI) scores and their values. governance
After the financial crisis in 1997 and 1998, the Indonesian Government initiated
several efforts to improve corporate governance and reporting quality. For example,
the government through the capital market authority (BAPEPAM) promotes corporate
governance by requiring independent board members and an audit committee that is
chaired by an independent director (Siagian and Tresnaningsih, 2011). In 2002, the 5
BAPEPAM issued the P3LKE that provides guidance about what to report and
disclose in the financial statements for firms that are publicly traded in the JSX
(BAPEPAM, 2002). The objectives are to improve firm performance and the quality of
financial statements reported to the public.
Separation of ownership and control creates agency problems within the firms
( Jensen and Meckling, 1976; Fama and Jensen, 1983). As a result, managers may take
actions that are not for the best interest of the shareholders. Because the shareholders
are usually dispersed and do not have the capabilities to directly monitor and control
managers’ actions, performance of the firm may be harmed. Moreover, the managers
have better information about the firm than the shareholders. This asymmetry of
information costs the shareholders because they cannot make informed decisions.
A set of governance mechanisms can be implemented to mitigate the agency
problems. The purpose of the corporate governance is to make sure that managers will
act for the best interests of the shareholders. In addition, it can force the managers to
disclose important information so that the information asymmetry between the
managers and shareholders can be minimized. We hypothesize that firms that
implement good corporate governance and have more disclosures will have less agency
problems and will have higher values.
To test our hypothesis we develop two indices in this study. The first index is the
CGI that we use to measure corporate governance implementations in a public firm.
This index is divided into five parts: rights of shareholders, equal treatment of
shareholders, role of stakeholders, disclosure and transparency, and board
responsibilities. The second index is a reporting and disclosure index (the RQI)
that we develop to measure firm’s adherence to the Financial Reporting and
Disclosure Guidance (the P3LKE) issued by the Indonesian Capital Market
Regulatory Body (the BAPEPAM). We consider firms that adhere to the P3LKE as
firms with high-quality report.
Using a sample of 125 firms that were traded in the JSX we find that corporate
governance is positively associated with firm value suggesting that firms with higher
CGI score have higher value. The results are consistent for all three proxies of firm
value that we use in our tests. In our sensitivity test, we use weighted CGI by putting
different weights on corporate governance practices according to their importance.
We find that the results are consistent with our main test using the non-weighted scores.
We find that RQI score is negatively associated with all proxies for firm value.
These findings do not support our hypothesis that predicts positive association
between reporting quality and firm value. One possible explanation is that firms
with low values disclose more information that is consistent with the P3LKE because
they try to improve their values by emitting more information to the market. This
inconsistent finding warrants further research to examine why high-value firms
disclose less information that is consistent with the P3LKE.
We make two contributions to the literature. First, we contribute to the literature by
showing that corporate governance is positively associated with firm value for public
JAEE firms in Indonesia. The use of CGI in Indonesia is still rare because such index for public
3,1 firms is not readily available. By developing a CGI for public firms we are able to
measure corporate governance implementations by Indonesian firms. Second, to our
knowledge, compliance to the P3LKE has not been studied before and we are the first
to develop a checklist to measure firm adherence to the guidance. This index allows us to
comprehensively evaluate the quality of reporting for our sample firms. Other studies
6 use other proxies for reporting quality such as earnings management or discretionary
accruals (Xie et al., 2003), conservatism (Mayangsari, 2003), and restatement of financial
reports (Agrawal and Chadha, 2004). Different from those studies, we use a
comprehensive reporting index issued by the capital market authority. We provide
new evidence that the guidance is more likely to be followed by firms with low value that
is shown by a negative association between the RQI score and firm value.
The remainder of the paper is organized as follows. We draw the theories about the
subjects and develop the hypotheses in Section 2. Section 3 describes the research
method, sample selection procedure, and descriptive statistics. We present the results
of the tests in Section 4 and conclude the study in Section 5.
2. Literature review and hypotheses development

Separation of ownership and control in firms creates agency problems ( Jensen and
Meckling, 1976; Fama and Jensen, 1983). Managers who are involved in firm’s daily
operations have superior information than the shareholders who are usually dispersed.
Because of the dispersion the shareholders do not have the ability to directly observe
the managers. This asymmetry of information creates problems if the managers’
objectives are not aligned with the objectives of the shareholders. There is a potential
moral hazard problem that the managers will pursue their own interests at the expense
of the shareholders. Because of information asymmetry the shareholders cannot
accurately evaluate the actual performance of the managers.
Corporate governance represents a set of mechanisms that are intended to reduce
agency risk that result from information asymmetry (Asbaugh et al., 2004). They state
that corporate governance allows for better monitoring and control so that the
managers are more likely to make decisions that are for the best interest of the
shareholders such as investing in positive NPV projects. It also improves protection to
the shareholders by minimizing opportunistic behavior of the managers that decreases
firm value. Therefore, firms that implement corporate governance are more likely to
have a higher firm value.
Studies find results that support the contention that corporate governance improves
firm value. Durnev and Kim (2005) find firms with higher governance and
transparency rankings are valued higher in stock markets. Asbaugh et al. (2004) find
that firms with better governance have lower cost of equity capital resulting in higher
firm value. Gompers et al. (2003) analyze the empirical relationship of a governance
index with corporate performance and find that corporate governance is strongly
correlated with stock returns during the 1990s. They find that firms with stronger
shareholder rights have higher firm value, higher profits, and higher sales growth.
Mitton (2002) finds that corporate governance positively affects firm performance
during Asian crisis in five East Asian countries. Klapper and Love (2002) use corporate
governance rank data of firms in 14 developing countries and find evidence that
corporate governance is positively related to operating performance and market value.
Consistent with the above studies Alves and Mendes (2004) also find positive impact of
corporate governance on stock returns.
Beiner et al. (2006) find that corporate governance positively affect firm value but Corporate
they also find reverse causality; higher value firms adopt better corporate governance
governance practices. They construct a broad CGI based on the Swiss Code of Best
Practice and find result that supports the hypothesis of a positive relationship
between firm-specific corporate governance and Tobin’s Q. They find a one standard
deviation increase in the CGI causes an increase of the market capitalization by at
least 12 percent of a company’s book asset value. Black et al. (2006) also develop a 7
CGI for all public firms in Korea for year 2001 and find evidence that higher CGI is
associated with higher Tobin’s Q.
The above studies show that corporate governance provides benefits to the
shareholders. It improves the quality and independence of the board of directors
and the committees and puts more monitoring and controls on the managers. As
a result, the managers are more likely to take actions that increase firm value.
We hypothesize the following (in alternative format):
H1. Firms with better corporate governance will have a higher value.
Asymmetry of information creates agency problems and increases the risks faced by the
shareholders. To minimize the asymmetry of information, firms provide information and
disclosure through financial reports that includes financial statements, notes to financial
statements, and management discussion and analysis. In addition, firms release
information through voluntary disclosures and the shareholders can obtain information
about firms through news and information intermediaries such as financial analysts.
Nagar et al. (2003) argue that managers avoid disclosing private information because
such disclosure reduces their private control benefits. This is consistent with the
opportunistic behavior of the managers due to various motives. They further argue that
disclosure problem is an important concern for investors and has a key role in capital
market allocation and corporate governance decisions. Healy and Palepu (2000) state
that corporate disclosure is very important for the functioning of the capital market.
Managers have better information than the shareholders and information differences
give rise to “lemons” problem that can harm the functioning of capital market.
One possible solution to this problem is information intermediaries that provide
information to minimize the asymmetry of information. Another solution is regulation
such as accounting standards. Regulators are concerned about the investors and issue
regulations that allow firms to provide sufficient information to the shareholders.
In 2002, the BAPEPAM issued the P3LKE that provides a list of items that need to
be reported and disclosed by firms that are publicly traded in the JSX. The purpose is
to improve reporting quality that will result in better information for the users of the
financial statements. Agency theory states that managers do not always act in
the best interest of the shareholders. More transparency may mitigate some of the
agency problems faced by the firms. Shareholders will be more informed and
information gap between the shareholders and the managers can be reduced.
Investors will perceive lower investment risk that would lead to a higher firm value.
Better disclosures will also help the board of directors to perform its oversight
function and various board committees can work more effectively. All these benefits
will result in a higher firm value.
Several studies have examined the benefits of disclosures. Botosan (1997) finds that
greater disclosure is associated with a lower cost of equity capital for firms that attract
low analyst following. This suggests that disclosure quality positively affects firm value.
JAEE Lambert et al. (2007) show theoretically that information quality directly influences firms’
3,1 cost of capital and that improvements in information quality unambiguously reduce non-
diversifiable risk. Sengupta (1998) finds lower cost of debt in firms with better disclosures.
Healy et al. (1999) investigate whether firms receive benefit from higher voluntary
disclosure by examining changes in capital market factors associated with increases
in analyst disclosure ratings. They find that the expanded voluntary disclosure is
8 accompanied by improved stock performance, increased institutional ownership, analyst
following, and stock liquidity even after controlling for contemporaneous changes in firm
characteristics including earnings performance, size, and risk. Gelb and Zarowin (2000)
find evidence that disclosure quality provides information benefit to the stock market and
affects stock price positively. They find that enhanced disclosure results in stock prices
that are more informative about future earnings.
Mitton (2002) find that during the Asian Crisis in 1997-1998 firms with high quality
of disclosures show better performance than firms with lower quality. He finds that
firms with higher disclosure quality have significantly better stock price performance.
Baek et al. (2004) also find that during Korean crisis in 1997 firms with high disclosure
quality experienced the lowest stock price decline. These studies support the
contention that disclosure is positively associated with firm value.
Because disclosures help in mitigating various agency problems, reducing investment
risk, and reducing cost of capital, we predict that firms with better disclosures will have
higher value. We hypothesize the following (in alternative format):
H2. Firms with more disclosures will have a higher value.
3. Research design
3.1 Sample selection
Our sample consists of 125 firms that are traded in the JSX in 2003 and 2004 that
submitted a P3LKE report to the BAPEPAM and had available CGI data. We obtain the
financial data from financial reports in the JSX database. We present the sample
selection process in Table I.
From the JSX database we were able to collect 411 firm-year of RQI data and 267
firm-year of CGI data. For the RQI, we collect the data from firms’ financial reports and
evaluate individually the quality of disclosure according to the P3LKE. We also collect
corporate governance data that are only available for some of the listed firms.
The intersection of the two groups of firms results in 248 firm-year. Our data are
not balance panel because not all firms have data for both years. We exclude
observations with negative book value of equity (25 observations), extreme outliers
Total
Firm-year
Total firms or observations with RQI data 411

Total firms or observations with CGI data 267
Total firms or observation with both data 248
Total observations with negative book value (25)
Total observations with incomplete financial data (20)
Table I. Total observation that are considered outliers (15)
Sample selection Total firm-year in the final sample 188
(15 observations), and observations with incomplete financial data (20 observations). Corporate
Our final sample includes 188 firm-year of data. governance
3.2 Empirical test
Our first hypothesis predicts that corporate governance is positively associated with
firm value. Our second hypothesis predicts positive association between reporting
quality and firm value. In our main test, we measure firm value using market to book 9
value ratio (PBV)[1]. We regress PBV on CGI score and RQI score while controlling for
variables that may affect firm value.
Miller (2005) argues that PBV ratio is an appropriate measure of company value.
Higher PBV ratio is perceived by the market as an indicator of an ability to give higher
economic profit. We calculate PBV by dividing price per share by book value per share.
The CGI score is calculated based on a CGI that we develop using the corporate
governance checklists from IICD, Num and Lam (2006), Standard & Poor’s and
National University of Singapore (2004) checklist, and the OECD principles[2].
This checklist is completed using secondary data from the financial statements.
The questions are divided into five groups according to the OECD principles: rights of
shareholders, equal treatment of shareholders, role of stakeholders, disclosure and
transparency, and board responsibilities (OECD, 2004). For the main test we do not put
any weight on the group[3].
For the RQI, we follow the guidance issued by the BAPEPAM. The BAPEPAM
issued 13 different guidance based on industry, so we develop 13 different checklists
with approximately 650 items in each checklist depending on the industry, which
makes it a comprehensive proxy to measure quality of reporting[4]. For each item, we
read the notes to financial statements to determine whether an item on the checklist is
reported and disclosed. There are three possible answers to the questions in the
checklist: disclosed, not disclosed, or not applicable (N/A). The score is calculated as
the ratio of the total number of applicable items that are disclosed and the total number
of items that are applicable to that firm (total number of items – N/A) as follows:
disclosed
Score ¼
ð items N =AÞ
For example, if a firm has 500 items and discloses all items and does not have ten items
out of a total of 650 items on the list, it will score 500/(65010) ¼ 0.78. It means the
firms does not disclose a total of 140 items and loses 0.22 disclosure points.
In calculating the RQI score we realize the possibility of bias because of the difficulty in
identifying whether an item that is not disclosed or is not applicable. For example,
P3LKE requires disclosure for prepaid expense. We will not observe any disclosure
about prepaid expense in the financial report of firms that do not have a prepaid
expense account and of firms that do not want to disclose their prepaid expenses. In the
first case, the score would not be negatively affected by not disclosing prepaid expense
because the firm does not have the account. In the second case, the firm should get a
lower score because of the lower numerator.
We include several control variables that may affect firm value in our regressions.
We specifically control for firm size, growth, and leverage. We control for size
because it is expected to be associated with firm value (Yermack, 1996). We include
growth as an explanatory variable because firm value depends on future investment
JAEE opportunities (Myers, 1977; Smith and Watts, 1992; Yermack, 1996). Finally, we also
3,1 control for the amount of leverage because it may have significant impact on firm value
(Ross, 1977). Ross suggests that the value of a firm will increase with leverage because
increasing leverage increases the market’s perception about value. Stulz (1990) argues
that debt can have both positive and negative impact on firm value. We use debt-to-
equity ratio as the proxy for firm leverage.
10 We estimate the following regression to test our hypothesis:
FIRMVALit ¼ a0 þ a1 CGIit þ a2 RQIit þ a3 SIZEit

þ a4 GROWTHit þ a5 LEVit þ eit
where FIRMVAL is the firm value that we measure using PBV, CGI, RQI, SIZE,
GROWTH, LEV.
Our hypotheses predict that after controlling for variables that may affect firm
value there is a positive association between CGI score and firm value (a140) and
between RQI score and firm value (a240).
Table II presents the descriptive statistics for the variables that we use in our tests.
Panel A shows that the average of PBV is 1.307 with a high standard deviation (1.157).
This indicates that the PBV of the firms in our sample varies considerably. The average
CGI score is 0.670 with relatively low variation (standard deviations ¼ 0.072). RQI score
is also relatively small with an average of only 0.629 with standard deviation of 0.132.
Panel B of Table II shows an improvement in the average of the CGI score from 0.666 in
2003 to 0.676 in 2004. However, the difference is not statistically significant. We also find
an improvement in the score average of RQI from 0.623 in 2003 to 0.636 in 2004. However,
our mean-difference test shows that the improvement is not statistically significant. We
believe that there is still a room for improvement for both the CGI and RQI scores. Based
on industry, we find improvements in RQI scores from 2003 to 2004 in investment, toll
road, hotels, restaurants, transportation, and farm industries and deteriorations in
manufacturing, construction, trade, real estate, and forestry (not reported).
The average growth in the past three years is 11.3 percent with the average size of
about 71.8 million. The average debt-to-equity ratio is 1.752 that varies significantly
with standard deviation of 2.66.
4. Empirical results
In this section we report the results of our empirical tests. We first report the main
results then we discuss the sensitivity tests using alternative proxies. Table III presents
the Pearson correlation for variables in our main model. First of all, all our proxies for
firm value show significant positive correlations to each other. This suggests that the
three proxies are appropriate to represent firm value.
The correlation table shows that PBV is positively correlated with the CGI score,
firm size, and leverage. This suggests that firms that implement corporate governance,
larger firms, and firms with high debt tend to have higher market value. We find that
RQI and PBV are negatively correlated. This indicates that firms with high RQI scores
tend to be firms with low PBV and vice versa.
We find significant positive correlation between corporate governance and
reporting quality at 10 percent level. This suggests that firms that implement
corporate governance tend to have higher RQI scores. RQI is positively correlated with
firm size suggesting that large firms tend to adhere to the P3LKE more. Corporate
Mean SD Minimum Median Maximum
Panel A: descriptive statistics for all variables for both years

PBV 1.307 1.157 0.140 0.875 6.790
TQ 1.110 0.558 0.225 0.957 3.695
ROA 0.043 0.072 0.162 0.030 0.255
CGI 0.670 0.072 0.538 0.665 0.859
RQI 0.629 0.132 0.369 0.600 0.916
SIZE 27.329 1.605 23.874 27.258 31.661
GROWTH 0.113 0.215 (0.696) 0.088 0.913
LEV 1.768 2.661 0.020 1.065 18.490
Panel B: descriptive statistics for CGI and RQI by year
Year ¼ 2003
CGI 0.666 0.068 0.538 0.657 0.858
RQI 0.623 0.133 0.389 0.597 0.916
Year ¼ 2004
CGI 0.676 0.077 0.541 0.675 0.859
RQI 0.636 0.131 0.369 0.627 0.907
Notes: FIRMVAL, firm value that we measure using PBV, Tobin’s Q, and ROA; PBV, price to book value ratio; TQ ¼ Tobin’s Q; ROA, return on assets; CGI,
non-weighted corporate governance index score; RQI, reporting quality index score; SIZE, log total assets; GROWTH, average growth of sales in the last three
years; LEV, debt-to-equity ratio
FIRMVALit ¼ a0 þ a1 CGIit þ a2 RQIit þ a3 SIZEit þ a4 GROWTHit þ a5 LEVit þ eit
variables in the regression

Descriptive statistics of
Corporate
governance
11
Table II.
JAEE governance is also positively correlated with firm size. This finding indicates that large
3,1 firms tend to implement corporate governance.
To test our hypotheses we regress PBV on RQI and CGI while controlling for variables
that are known to affect firm value. We present the regression result in Table IV.
TQ ROA CGI RQI SIZE GROWTH LEV

12
PBV 0.84 0.41 0.28 0.13 0.28 0.08 0.26
(0.00)*** (0.00)*** (0.00)*** (0.08)* (0.00)*** (0.25) (0.00)***
TQ 0.46 0.29 0.14 0.29 0.09 0.01
(0.00)*** (0.00)*** (0.05)* (0.00)*** (0.24) (0.89)
ROA 0.31 0.08 0.18 0.28 0.23
(0.00)*** (0.28) (0.02)** (0.00)*** (0.00)***
CGI 0.12 0.51 0.01 0.02
(0.09)* (0.00)*** (0.88) (0.76)

RQI 0.17 0.07 0.02
(0.02)** (0.36) (0.75)
SIZE 0.00 0.08
(0.94) (0.28)
GROWTH 0.06
(0.44)
Notes: n ¼ 192. FIRMVAL, firm value that we measure using PBV; PBV, price to book value ratio;
RQI, reporting quality index score; CGI, unweighted corporate governance index score; SIZE, log total
assets; GROWTH, average growth of sales in the last three years; LEV, debt-to-equity ratio.
Table III.
***,**,*Correlations significant at 0.01, 0.05, and 0.1 levels, respectively
Correlation of variables
in the model FIRMVALit ¼ a0 þ a1 CGIit þ a2 RQIit þ a3 SIZEit þ a4 GROWTHit þ a5 LEVit þ eit
Variable Predicted sign PBV
n 188
Intercept 3.375
(0.011)**
CGI þ 3.700
(0.003)***
RQI þ 1.735
(0.004)***
SIZE 0.110
(0.050)**
GROWTH 0.619
(0.083)*
LEV 0.115
(0.000)***
R2 0.208
Adjusted R2 0.186
Prob (F-statistic) 0.000***
Table IV. Notes: FIRMVAL, firm value that we measure using PBV, PBV, price to book value ratio; CGI,
Regression results using unweighted corporate governance index score; RQI, reporting quality index score; SIZE, log total
PBV as the dependent assets; GROWTH, average growth of sales in the last three years; LEV, debt-to-equity ratio. *Test
variable and un-weighted variables significant at 10, 5, and 1 percent levels, respectively
CGI as the independent
variable FIRMVALit ¼ a0 þ a1 CGIit þ a2 RQIit þ a3 SIZEit þ a4 GROWTHit þ a5 LEVit þ eit
Consistent with our first hypothesis we find positive association between PBV and Corporate
CGI score. The CGI coefficient (a1) is positive and significant at 1 percent level governance
suggesting that firms that implement better corporate governance are likely to have
a higher value. The magnitude of the slope (3.7) is large, suggesting that an increase in
CGI score is associated with a large increase in firm value.
We find negative association between RQI and firm value. This finding does not
support our second hypothesis that predicts a positive association. It suggests that 13
firms with lower values tend to disclose more information that is consistent with the
P3LKE. One possible explanation is that low-value firms try to improve their values by
disclosing more information that is consistent with the P3LKE. It is possible that when
the BAPEPAM issue the P3LKE, the managers of low-value firms would follow the
guidance in order to influence market perception about the company. On the other
hand, high-value firms may not see this guidance as something important and
therefore, may not follow the guidance in determining what information to disclose.
Consistent with prior studies, we find size, growth, and leverage affect firm value.
The coefficient for SIZE is positive and significant suggesting that larger firms tend to
have higher values. We also find positive and significant coefficient on GROWTH
suggesting that firms with higher growth have higher values. Leverage (LEV) is also
positively associated with firm value suggesting that these firms seem to be able to
benefit from their leverage.
4.1 Sensitivity analysis

4.1.1 Tobin’s Q and ROA for firm value. To test whether our results are sensitive to how
we measure firm value, we also run multivariate regressions using Tobin’s Q and return
on assets as our proxy for firm value. Earlier work on firm performance has used Tobin’s
Q as the measure of firm value (Demsetz and Lehn, 1985; Morck et al., 1988; Yermack,
1996; Gompers et al., 2003). We calculate Tobin’s Q by comparing the market value of a
company’s stock (MVEQ þ BVDEBT) and the value of a company’s equity book value
(BVEQ þ BVDEBT). MVEQ is market value of equity and BVEQ is book value of equity.
We use book value of debt (BVDEBT) for both the numerator and denominator because
market value of debt is not available in Indonesia. Table V shows the regression results
of regressing Tobin’s Q and ROA on CGI, RQI, and the control variables.
The coefficients on CGI are positive and significant for both regressions using Tobin’s
Q and ROA. These results are consistent with the results of using PBV and support our
first hypothesis that there is association between firm value and corporate governance
even when we use different proxies for firm value. Consistent with our main test the
results show significant negative coefficients for RQI suggesting that firms with lower
values tend to disclose more information that are consistent with the P3LKE.
In general, the results of our sensitivity tests support the results of the main test that
finds a negative association between firm value and RQI and positive association
between firm value and CGI. Our results also show that the independent variables
in our models explain the variation in ROA better than variation in PBV or Tobin’s Q.
The R2 for ROA regression is 0.244, which is higher than that for PBV (R2 ¼ 0.208) and
for Tobin’s Q (R2 ¼ 0.159).
4.1.2 Weighted CGI. In our main test we use the non-weighted CGI. It means that we do
not put any weight on the five groups of items in the index. In this sensitivity analysis, we
follow the IICD recommendation and calculate the weighted CGI based on 20 percent
weight on rights of shareholders, 15 percent weight on equal treatment of shareholders, 15
percent weight on role of stakeholders, 25 percent weight on disclosure and transparency,
JAEE Variable Predicted sign TQ ROA
3,1
n 188 188
Intercept 1.494 0.189
(0.023)** (0.019)**
CGI þ 1.572 0.297
14 (0.012)** (0.000)***
RQI þ 0.884 0.077
(0.003)*** (0.033)**
SIZE 0.076 0.003
(0.007)*** (0.386)
GROWTH 0.265 0.095
(0.136) (0.000)***
LEV 0.003 0.006
(0.862) (0.002)***
R2 0.159 0.243
Adjusted R2 0.136 0.223
Prob (F-statistic) 0.000*** 0.000***
Notes: FIRMVAL, firm value that we measure using TQ and ROA; TQ, Tobin’s Q, ROA, return on
assets; CGI, unweighted corporate governance index score; RQI, reporting quality index score;
Table V. SIZE, log total assets; GROWTH, average growth of sales in the last three years; LEV, debt-to-equity
Regression results using ratio. *Test variables significant at 10, 5, and 1 percent levels, respectively
Tobin’s Q and ROA as
dependent variables FIRMVALit ¼ a0 þ a1 CGIit þ a2 RQIit þ a3 SIZEit þ a4 GROWTHit þ a5 LEVit þ eit
and 25 percent weight on board responsibilities. Table VI shows the result of regressing
various proxies for firm value on the weighted CGI, RQI, and the control variables.
The tests using weighted CGI scores provide consistent results with the main tests
that the CGI is positively associated with firm value and the RQI is negatively
associated with firm value. Consistent with our main tests, our tests using the
weighted CGI also show that the independent variables in our models best explain the
variation in ROA (R2 ¼ 0.238).
5. Conclusions
After the severe crisis in 1997 and 1998, the Indonesian Government initiated some
efforts to improve corporate governance and reporting quality by Indonesian public
firms. One of the efforts by the government is the issuance of reporting and disclosure
guidance by the BAPEPAM in 2002. In this study, we investigate whether corporate
governance and reporting quality are associated with firm value. We predict that the
associations are positive.
To test our hypotheses we use PBV ratio, Tobin’s Q, and ROA as our measures for
firm value. Consistent with our hypothesis we find that corporate governance is
positively associated with firm value and the results are consistent for the different
proxies of firm value. Firms that implement better corporate governance tend to have
higher value. We also find that size, growth, and leverage are positively associated
with firm value suggesting that larger firms, firms with more investment opportunities
or high growth, and firms that have higher leverage are likely to have higher values.
We find negative associations between reporting quality and our various proxies of
firm value. These findings suggest that firms that firms with lower values tend to
disclose more information that adhere to the P3LKE. One possible explanation is that
Variable Predicted sign PBV TQ ROA
Corporate
governance
n 188 188 188
Intercept 3.239 1.437 0.178
(0.015)** (0.029)** (0.027)**
CGI þ 3.474 1.370 0.278
(0.005)*** (0.025)** (0.000)*** 15
RQI þ 1.710 0.871 0.075
(0.004)*** (0.003)*** (0.038)**
SIZE 0.112 0.079 0.003
(0.048)** (0.005)*** (0.363)
GROWTH 0.625 0.267 0.096
(0.081)* (0.135) (0.000)***
LEV 0.116 0.002 0.006
(0.000)*** (0.866) (0.002)***

R2 0.205 0.153 0.238
Adjusted R2 0.183 0.129 0.217
Probablity (F-statistic) 0.000*** 0.000*** 0.000***
Notes: FIRMVAL, firm value that we measure using PBV, TQ, and ROA, PBV, price to book value
Table VI.
ratio; TQ, Tobin’s Q; ROA, return on assets; CGI, weighted corporate governance index score; RQI,
Regression results using
reporting quality index score; SIZE, log total assets; GROWTH, average growth of sales in the last
weighted CGI score as
three years; LEV, debt-to-equity ratio. *Test variables significant at 10, 5, and 1 percent levels,
independent variable with
respectively
different dependent
FIRMVALit ¼ a0 þ a1 CGIit þ a2 RQIit þ a3 SIZEit þ a4 GROWTHit þ a5 LEVit þ eit variables
firms that have high values may think that adherence to the P3LKE is not important
and they do not follow it when deciding about their disclosures. On the other hand, low-
value firms may see this as an opportunity to gain market value. They have higher
incentives to adhere to in order to improve their value.
We find slight and insignificant improvement in the CGI score from 2003 to 2004.
Similarly, there is insignificant change in RQI score from 2003 to 2004. We believe that
both the CGI and RQI scores can be improved in order to provide benefits to the
shareholders. We recommend that the Indonesian Government continue its efforts in
promoting corporate governance and in improving reporting quality because of the
benefits that they provide. This study should become a trigger for the government to
promote further the importance of high-quality reporting and corporate governance to
Indonesian public firms.
We realize that there is a possibility of bias in calculating the RQI score because of
the difficulties in deciding whether an item is not applicable or is applicable but is not
disclosed. Because in both situations the information is not observable we use
judgment in deciding whether an item is not applicable or not disclosed.
For future research, it is important to investigate why firms with high value do
not disclose information that is required by the P3LKE. It is also important
to examine whether there are improvements in the CGI and RQI scores in the long
run. It is possible that public firms reacted to the issuance of the guidance in
2002 but fail to improve in the following years. Finally, it is also important to see
whether in the following years, the negative association between reporting
quality and firm value change into positive that would suggest that adherence to the
P3LKE is value relevant.
JAEE Notes
3,1 1. For sensitivity test, we also use Tobin’s Q and ROA as our proxies for firm value. We explain
the detail in the sensitivity test section.
2. We report the CGI in Appendix.
3. For sensitivity test we calculate the weighted CGI using different weights for different
groups based on the IICD recommendation. We show the detail calculation and the
16 regression results using the weighted CGI in the sensitivity analysis section.
4. We do not report the index in Appendix because of the length of the document even when we
summarize the list. A P3LKE for one industry consists of more than 100 pages.
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Appendix
Rights of shareholders
1. Assess the quality of the notice to call the annual general shareholders’ meeting (RUPS)
in the past one year. Does the notice include:
a) Appointment of directors and commissioners
b) Appointment of auditors
c) Dividend payment
2. Is the decision on the remuneration of the board members (commissioners and directors) approved
by the shareholders annually?
3. Is the remuneration of the board (commissioner and director) presented individually?
4. Do board members hold more than 25% of outstanding shares?
Equitable treatment of shareholders
1. Have there been any cases of insider trading involving the company directors and commissioners
in the past two years?
2. Does the company provide rationale/explanation for related-party transactions affecting the
corporation?
3. Has there been any non-compliance case regarding related-party transaction in the past two years?
4. How many days in advance does the company send out the notice of general shareholders’
meeting?
Role of stakeholders
1. Does the company explicitly mention the safety and welfare of its employees?
2. Does the company explicitly mention the role of key stakeholders such as customers or the
community at large (or creditors or suppliers)
3. Does the company explicitly mention environmental issues in its public communication?
4. Does the company provide an ESOP (Employee Stock Option Plan) or other long-term employee
incentive plan linked to shareholder value creation to employees?
Disclosure and transparency
1. Does the company have dispersed ownership structure?
2. Assess the quality of financial report in each of the following areas:
a) Financial performance
b) Business operations and competitive position
d) Basis of board remuneration
e) Operating risk
3. Is there any statement requesting the directors to report their transactions of company shares?
4. Does the company have an internal audit operation established as a separate unit in the
Table AI. company?
Corporate governance
index (continued)
5. Are there any accounting qualifications in the audited financial statements apart from the Corporate
qualification on uncertainty of situation? governance
6. Does the company offer multiple channels of access to information, include:
a) Company website
b) Analyst briefing
c) Press conference/press briefing
7. Is the financial report disclosed in a timely manner?
8. Does the company have a website disclosing up-to-date information, include: 19
a) Business operation
b) Financial statement
c) Press release
d) Shareholding structure
e) Organization structure
f) Corporate group structure
g) Downloadable annual report
h) Downloadable interim report

i) Available of both Indonesian and English
9. Does the company disclose fees paid to external auditors?
10. Does the company’s Annual Report include a section devoted to the company’s performance in
implementing corporate governance principles?
11. If the complete list of BOC members is disclosed, is detailed information on each commissioner
disclosed?
12. If the complete list of BOC members is disclosed, does it include details of previous employment?
13. If the complete list of BOC members is disclosed, are educational qualifications of commissioners
disclosed?
14. If the complete list of BOC members is disclosed, are other commissionerships of commissioners
disclosed?
Responsibility of the board
1. Does the company have its own written corporate governance rules that clearly describe its value
system and board responsibility?
2. Does the board of commissioner provide code of ethics or statement of business conduct to all
directors and employees to ensure that they aware of and understand the code?
3. Is there disclosure of company’s guidelines of matters that require approval by the board of
commissioner?
4. Does the annual report include report from board of commissioners?
5. Does the company have a corporate vision/mission?
6. Does the JSX/Bapepam have any evidence of non-compliance of the company with JSX/Bapepam
rules and regulation over the last two years?
7. Have board members participated in corporate governance training?
8. Does the company report board meeting attendance of individual board of commissioner members?
9. How many times board of commissioner meet in the calendar year?
10. Does the company report board meeting attendance of individual board of director members?
11. How many times board of director meet in the calendar year?
12. Among board of commissioners, how many are independent commissioners?
13. Is the board of commissioner chairman an independent commissioner?
14. Does the company state in its annual report the definition of independence?
15. What is the size of board of commissioner?
16. Is individual performance of BOC members evaluated?
17. Is criteria for evaluating board of director performance disclosed?
18. Does the board appoint independent committees with independent members to carry out various
critical responsibilities such as:
a) Audit committee
b) Compensation committee
c) Director or nomination committee
(continued) Table AI.

JAEE 19. Assess the audit committee based on following criteria:
3,1 a) Audit committee size
b) Independent members
c) Financial/accounting background
d) Chairman
20. Is disclosure made of the basis of selection of audit committee members?
21. Does the company disclose audit committee report in the annual report
20 22. Assess the quality of the audit committee report in the annual report, include the following items:
a) Frequency of meetings
b) Internal control
c) Management control
d) Proposed auditors
e) Financial report review
f) Legal compliance
g) Scope, results, and effectiveness of audits
h) Adequacy of internal audit function

i) Conclusion or opinion
23. Is the complete list of audit committee members disclosed?
24. Does the corporate secretary attend all board of directors meetings?
25. Does the company provide contact details for a specific investor relation person?
Table AI. 26. Does/did the company have an option scheme for top management?
Corresponding author
Ferdinand Siagian can be contacted at: fsiagian@maine.edu
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2. Literature review and hypotheses development

We hypothesize the following (in alternative format):

H2. Firms with more disclosures will have a higher value.

Total firms or observations with RQI data 411

FIRMVALit ¼ a0 þ a1 CGIit þ a2 RQIit þ a3 SIZEit

Mean SD Minimum Median Maximum

Panel A: descriptive statistics for all variables for both years

variables in the regression

TQ ROA CGI RQI SIZE GROWTH LEV

(0.09)* (0.00)*** (0.88) (0.76)

Variable Predicted sign PBV

4.1 Sensitivity analysis

(0.000)* (0.866) (0.002)*

Myers, S. (1977), “Determinants of corporate borrowing”, Journal of Financial Economics, Vol. 5

h) Downloadable interim report

(continued) Table AI.

h) Adequacy of internal audit function

To purchase reprints of this article please e-mail: reprints@emeraldinsight.com

5. Md ZainiSyeliya, Syeliya Md Zaini, SamkinGrant, Grant Samkin, SharmaUmesh, Umesh Sharma,

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