OM believes corporate governance risk factors, particularly accounting risk and dilution risk can be meaningful drivers of negative excess returns in portfolios.
OM’s Governance Concerns Index (GCI) is based on a scoring model using seven governance based factors: accounting risk; board quality risk; related party risk; dilution risk; executive pay structure risk; executive pay materiality risk & board independence risk. These scores are produced by OM analysts across the ASX 300 Index. The rankings are based on OM’s knowledge of the entities, experience of engagement with senior management and directors, public disclosures and disclosure, corporate and capital raising practice over time.
The data set is split between the ASX 100 and ASX Small Ords (as each set has different weights applied to each factor). The aim is to identify which entities have features that expose investors to downside risk.
The ASX 100 measures performance by shorting the bottom quartile (weakest governed) companies and taking a long position in the remaining top three quartiles. The ASX 100 was launched in March 2012 and shows the weakest companies for governance performing approximately in line with the top three quartiles since inception (performance measured using quarterly TSR, equally weighted and rebalanced quarterly). The accounting risk factor in the ASX 100 Index is a strong predictor of underperformance, with 4.5% pa underperformance since 2012 (underperformance over the past two, three, five & seven years).
The ASX Small Ords is measured by shorting an equally weighted portfolio of the bottom 15% of companies (weakest governed) and a long position in the ASX Small Ords. The ASX Small Ords data set was launched in Jan 2015 and to date shows the weakest companies for corporate governance underperforming by 8.7%pa since inception (5.75 years track record).