Electronic copy available at: http://ssrn.com/abstract=2284814 0 Faculty of Postgraduate Studies and Scientific Research German University in Cairo The Effects of Corporate Governance on Bank Performance A thesis submitted in partial fulfillment of the requirements for the degree of Masters of Business Administration By Ahmed Mohsen Salem Al-Baidhani Supervised by Prof. Dr. Ehab K. A. Mohamed Dr. Mohamed Basuony May 22, 2013
1. Faculty of Postgraduate Studies and Scientific Research
German University in Cairo The Effects of Corporate Governance on
Bank Performance A thesis submitted in partial fulfillment of the
requirements for the degree of Masters of Business Administration
By Ahmed Mohsen Salem Al-Baidhani Supervised by Prof. Dr. Ehab K.
A. Mohamed Dr. Mohamed Basuony May 22, 2013 0 Electronic copy
available at: http://ssrn.com/abstract=2284814
2. Abstract Whereas banks operate under different management,
board of directors, ownership structures, and government
regulations, there is no specific optimal corporate governance
model that may be applied to all banks. This study focuses on
corporate governance and its effects on bank performance, regarding
both conventional and Islamic banks, verifying the relationships
between corporate governance and bank performance and consequent
effects related thereto. The study focuses on internal corporate
governance factors only. It concentrates on investigating the
effects of corporate governance on bank performance in regard to
the respective variables, which included investigating the effects
of ownership structure, board structure, audit function, and other
related variables, such as bank size, age and type, on banks
profitability, measured by each banks ROE, ROA, and Profit Margin;
analyzing it through using the Statistical Package for the Social
Sciences (SPSS) software, in terms of descriptive statistics,
Pearson correlation matrix, and regression analysis. The study
focuses on conventional and Islamic banks operating in the Republic
of Yemen and the six Gulf Cooperation Council (GCC) countries,
namely Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and United Arab
Emirates. The study indicates that there is a significant
relationship between corporate governance and bank performance
through profitability, measured by ROE, ROA, and Profit Margin. It
is found that the two predictors, Age and Number of Board Meetings,
have a positive and significant effect on banks profitability
measured by the outcome ROE; that the two predictors, Board
Independence and Bank Size, have a negative and significant effect
on banks profitability, measured by ROA; and that there are three
corporate governance independent variables, Ownership
Concentration, Age, and Board Committees, of which Age and Board
Committees have positive and significant effects while Ownership
Concentration has a negative and significant effect on banks
profitability, measured by the dependent variable Profit Margin.
These results are consistent with the results of similar studies
referred to hereunder. Keywords: corporate governance, bank
performance, profitability, ROE, ROA, profit margin, banks, Yemen,
GCC countries 1 Electronic copy available at:
http://ssrn.com/abstract=2284814
3. Table of Contents Abstract...1 Table of Contents2 1
Introduction. 4 2 Literature Review.......9 2.1 Corporate
Governance and Bank Performance9 2.2 Corporate Governance
Parties....10 2.2.1 Internal Governance......11 2.2.1.1 Ownership
and Control.....11 2.2.1.2 Role of Management and Board of
Directors.......12 2.2.1.3 Role of the Audit Committee and Internal
Auditor..................13 2.2.2 External Governance.....14
2.2.2.1 Role of External Auditors... 15 2.2.2.2 Accepted Accounting
Practices....16 2.2.2.3 Government Regulations...16 2.2.3 Basel
Accords (Basel Agreements)...17 2.2.4 Role of Other Interested
Stakeholders.......17 3 Research Methodology.................18 3.1
Research Question and Objectives.........18 3.2
Hypotheses.........19 3.3 Method and Procedure...........20 3.4
Sampling and Data Collection...........21 3.5
Variables............22 4 Analysis and Discussion...25 4.1
Descriptive Analysis..........25 4.2 Correlation between
variables.......26 4.3 Regression Analysis..........28 4.3.1 The
Effects on Profitability, measured by ROE..............30 4.3.1.1
Model Summary ROE.........31 4.3.1.2 ANOVA ROE.....31 2 Electronic
copy available at: http://ssrn.com/abstract=2284814
4. 4.3.1.3 Coefficients ROE.........32 4.3.2 The Effects on
Profitability, measured by ROA.......32 4.3.2.1 Model Summary
ROA......34 4.3.2.2 ANOVA ROA......34 4.3.2.3 Coefficients
ROA.........35 4.3.3 The Effects on Profitability, measured by
Profit Margin.35 4.3.3.1 Model Summary Profit Margin....37 4.3.3.2
ANOVA Profit Margin....38 4.3.3.3 Coefficients Profit Margin...38 5
Summary and Conclusion........40 6 Research Limitations...42
References............43 Appendix......51 3
5. 1 Introduction Corporate governance is a system used to
direct and control an organization. It includes relationships
between, and accountability of, the organizations stakeholders, as
well as the laws, policies, procedures, practices, standards, and
principles which may affect the organizations direction and control
(Cadbury Report 1992). It also includes reviewing the organizations
practices and policies in regard to the ethical standards and
principles, as well as the organizations compliance with its own
code of conduct. In order to safeguard their long-term successes,
organizations implement corporate governance to ensure that they
are directed and controlled in a professional, responsible, and
transparent manner (SarbanesOxley Act 2002). There are two types of
corporate governance: first, internal governance, such as
shareholders, board of directors, managers, and internal auditors;
and second, external governance, such as market incentives,
accepted accounting practices, and government regulations. The main
reasons behind the importance of the current corporate governance
are the separation of organizations ownership and management
control, the corporate scandals since the 1990s and until now, and
managements accountability to a continuously increasing number of
stakeholders. The increasing demand on the corporate governance and
accountability related to the board of directors, particularly the
recent lawsuits and investigations made the creation of audit
committees an extremely necessary step. The Committee of Sponsoring
Organizations of the Treadway Commission (COSO), established in the
United States and supported initially by the Institute of
Management Accountants (IMA), the American Accounting Association
(AAA), the American Institute of Certified Public Accountants
(AICPA), the Institute of Internal Auditors (IIA) and Financial
Executives International (FEI) recommended certain oversight
practices for audit committees to follow, providing guidelines
about the audit responsibility in evaluating and strengthening
corporate controls. COSO also provides thought leadership to
executive management and governance entities on critical aspects of
organizational governance, business ethics, internal control,
enterprise risk management, fraud, and financial reporting. 4
6. It has established a common internal control model against
which companies and organizations may assess their control systems.
To emphasize on the need for corporate governance, the U.S.
Securities and Exchange Commission (SEC) confirmed its interest in
such committees by: (a) urging registrants to form audit committees
comprised of outside directors, (b) requiring all publicly held
companies proxies to disclose information about the existence and
composition of their committees, and (c) requiring publicly held
companies to state the number of the committee meetings held
annually and to describe their committees functions. As part of the
corporate governance mechanism, the committee oversees the
organizations management, internal and external auditors to protect
and preserve the shareholders equity and interests; however, the
committees nature and scope of work should be reviewed to make sure
that it is capable of playing its role in this regard
appropriately, especially after being recently criticized for its
shortcomings in achieving the corporate governance objectives. In
1987, the National Committee on Fraudulent Financial Reporting (the
Treadway Commission) was created to identify factors that can lead
to fraudulent financial reporting and recommend procedures to
reduce fraud incidences. The 1987 Treadway report identified the
committees as effective means for corporate governance and
suggested a list of objectives for these committees to consider.
Among the numerous recommendations detailed in the report, the
Commission stated that such committees should be informed,
vigilant, and effective overseers of the financial reporting
process and the companys internal controls. In order to improve the
oversight responsibility related to the committee, board of
directors, management, internal auditors, and external auditors, in
1999 the Blue Ribbon Committee (BRC) referred to the role of the
corporate governance, suggesting that the committee report should
be included annually in the organizations proxy statement, stating
whether the committee has reviewed and discussed the financial
statements with the management and 5
7. the internal auditors. As a corporate governance monitor,
the committee should provide the public with correct, accurate,
complete, and reliable information, and it should not leave a gap
for predictions or uninformed expectations. It is very important to
determine and understand the corporate governance oversight and
monitoring functions in order to establish and improve the
credibility and trustworthiness of the relevant committees as a
corporate governance mechanism. The Sarbanes-Oxley Act of 2002,
which was passed mainly to protect investors, has a big impact on
the corporate governance and accountability, as well as on
corporate disclosure. In order to be accepted in most of the Stock
Exchange Markets, an organization should have good corporate
governance. As part of the corporate governance, the above
committees should also examine the non-audit services, referred to
above; Arthur Andersen, for instance, as Enrons external auditors,
was paid US$27 million for non-audit services, in addition to the
US$25 million for auditing services, which created conflict of
interest and affected the auditors independence negatively. It is
expected that the committees will play a broader corporate
governance role in the future, and that the main parties in the
governance field support them strongly; however, observers see that
there should be a clear and written statements showing the
corporate governance mechanism, such as the activities,
responsibilities, and objectives. Recent discussions of corporate
governance are about the principles raised mainly in three
documents: The Cadbury Report (UK 1992), the Principles of
Corporate Governance by Organization for Economic Co-Operation and
Development (OECD Paris 1998 and 2004), and the Sarbanes-Oxley Act
(US Congress 2002). The Cadbury and OECD reports reveal the general
principles around which organizations should operate in order to
assure proper corporate governance. The Sarbanes-Oxley Act,
informally referred to as SOX, is considered a U.S. law issued by
the federal government to legislate several of the principles
recommended in the Cadbury and OECD reports, such as the following:
Shareholders rights and their exercise of these rights should be
respected by their organizations (e.g., organizations should
communicate necessary information to these shareholders and help
them to participate in relevant organizational meetings). 6
8. Other stakeholders, such as customers, suppliers, employees
and local communities, also have legal and social rights and
interests in these organizations which should show respect and due
diligence. The organizations board of directors should have the
necessary competence and skills to enable it to review and monitor
the management activities. It should also be committed and
independent, and should have the proper size and composition. The
organizations should have a written code of conduct focusing on
integrity and business ethics that should be respected and acted
upon by the board of directors, managers, and other officers in the
organization. Such code should also be used in selecting new
officers, managers, or directors for the organization. In order to
meet the disclosure and transparency requirements, the roles,
authorities, and responsibilities of the board of directors and
management should be clear and made public to the relevant
stakeholders to know who is accountable and what his/her
accountability is. Meanwhile, the organizations financial reports
should be clear, true, transparent, and all necessary and material
information should be disclosed. Bank governance was altered
tremendously during the 1990s and early 2000s, principally due to
bank ownership changes, such as mergers and acquisitions (Berger et
al. 2005; and Arouri et al. 2011). The worldwide financial crisis
of 2008, which started in the United States, was attributable to
U.S. banks excessive risk-taking. Consequently, in order to control
such risk and draw peoples attention to the agency problem within
banks, there are statements made by bankers, central bank
officials, and other related authorities, emphasizing the
importance of effective corporate governance in the banking
industry since 2008 and until now (Beltratti and Stulz 2009; and
Peni and Vahamaa 2011). Therefore, any similar crisis occurred or
may occur in the future might be explained as a result of bank
governance failure. 7
9. This study focuses on banks operating in Yemen and the GCC
countries in order to provide empirical evidence on the effects of
corporate governance on bank performance. I used data provided by
reliable and credible resources, such as Bankscope database,
audited financial statements, and respective banks published
reports to examine whether there is a relationship between strong
governance and higher profitability. My relevant hypotheses are
listed hereunder. The study concentrates on investigating the
effects of corporate governance on bank performance in regard to
the respective variables, which included investigating the effects
of ownership structure, board structure, audit function, and other
related variables, such as bank size, age and type, on banks
profitability measuring that by each banks ROE, ROA, and Profit
Margin, analyzing it through using the aforementioned SPSS, in
terms of descriptive statistics, Pearson correlation matrix, and
regression analysis. In addition to this first section, this paper
is organized as follows: the second section describes the roles of
key players in corporate governance, both internal and external;
the third section states the research question, objectives of the
study, relevant hypotheses, method used in collecting and
processing the research data, and definitions of the used
variables; the fourth section shows the study analysis and
discussion including descriptive statistics, correlation between
variables, and regression analysis; the fifth section reveals the
summary and conclusion of the study; and the last section points
out the research limitations. 8
10. 2 Literature Review There have been substantial literature
on corporate governance and its effects on bank performance. The
relevant issues that would be addressed in this regard include
ownership concentration and control, roles and responsibilities of
board of directors and management, roles and responsibilities of
audit committees and auditors (internal and external), accepted
accounting practices, and government regulations. 2.1 Corporate
Governance and Bank Performance Corporate governance standards and
principles are extracted from local and international laws,
regulations, and rules, as well as from the organizations bylaws,
codes of conduct, and resolutions. Corporate governance focuses on
the control systems and structures by which managers are held
accountable to the banks legitimate stakeholders. The benefits that
will be gained by hired managers differ significantly from the
benefits that will be received by managers who are also major
shareholders; the latter will benefit from their salaries as well
as from the bank earnings and stock returns. There are ways that
the shareholders may align their interests with the interests of
hired managers (Van der Elst 2010). Wealth, or ownership
concentration, is another factor which may affect the active
players in a bank and the banks governance (Arouri et al. 2011).
Deposit insurance incentives and regulatory discipline are also
other factors that may influence the governance process at banks
(Beltratti and Stulz 2009). The relevant factors of this literature
include managers and their incentives, directors and their
oversight tasks, shareholders and their ownership concentration in
a bank, deposit insurance incentives, and regulatory discipline, as
well as these factors effects on the governance framework at banks.
Each of these factors may reinforce or replace other factors, or
interact differently in the governance process. 9
11. Much of the empirical findings on corporate governance and
performance in non-financial institutions are also applicable to
financial institutions. However, the optimal designing of bank
governance structure is very complex and important relative to
unregulated, nonfinancial firms for several reasons. They are
prudentially regulated and highly levered compared to other
companies and hence bank governance deserves special attention
(Adams and Mehran 2003). Moreover, the stakeholders interests at
banks extend beyond the shareholders interests since the bank
depositors, creditors, and regulators have stakes in the banks as
well. Governments are also worried about banks reputations, and
consequently regulate their governance, because a banks failure
negatively affects the respective countrys economy, and may even
spread globally, similar to what happened during the 1997 Asian
financial crisis (Pathan et al. 2005) and the 2008 U.S. financial
crisis (Peni and Vahamaa 2011). 2.2 Corporate Governance Parties
Corporate governance parties include internal parties, such as the
organizations shareholders, internal auditors, audit committee,
board of directors, CEOs, CFOs, and other executives and managers;
and include external parties, such as customers, suppliers,
external auditors, stock exchanges, and government authorities.
Other parties who have a stake in the organization may include the
organizations employees, creditors, and the community at large. The
governance chain depends on the size of the organization. In a
small family business, it is very simple, consisting of
shareholders, board of directors, and managers; some of whom may be
family members. In large publicly-held organizations, the chain may
include managers, senior executives, executive directors, board,
investment managers, trustee of funds, and beneficiaries. The
relationship in this governance chain is called Principal-Agent
relationship where the principal pays the agent to act on his/her
behalf (Johnson et al. 2008). 10
12. 2.2.1 Internal Governance The organizations internal
governance has been divided into three main groups, as follows:
2.2.1.1 Ownership and Control As they grow, many organizations move
from private ownership (family business) to a publicly-held
corporation. This decision may be made due to the need for more
equity to finance such growth. Thus, the role of the owners will
change as these family members will become part of a wide group of
shareholders who transfer their control (i.e., decision rights) to
the board of directors, and subsequently to the relevant managers
who should act in the shareholders best interests (Johnson et al.
2008). Consequently, a corporate governance framework should be
established, comprising a control system that helps aligning the
said shareholders interests with the managers and directors
incentives. Even though ownership and control structure indicates
the types and composition of shareholders in the organization, it
should be noted that control is not necessarily an exchangeable
term with ownership because there are other items, such as
ownership pyramids, voting rights, and various kinds of shares that
should be considered in this regard (Johnson et al. 2008). A bank
ownership structure may vary from having just a few owners to
having a wide and diversified group of stockholders. Some banks may
be managed by controlling individuals, while other banks may hire
independent managers to operate such banks. Each of these ownership
and control relationships may have a strong effect on a banks
performance (Johnson et al. 2008). Additionally, ownership
concentration and control are different from one country to
another. For example, in the Anglo-Saxon countries, the
institutional investors own, and consequently control, most of the
large banks shares, while in Japan most of these shares are owned
by financial companies and industrial corporations. These large
investments in the banks give the shareholders the right to control
and monitor the banks management (Lehman and Weigand 2001). 11
13. Although concentrated ownership may result in superior
performance, it may also result, negatively, in extracting the
banks benefits by the controlling stockholders on the account of
the minority stockholders (Spong and Sullivan 2007). Therefore, the
stockholders goal and motivation may affect the bank performance.
According to the financial theory, managers who are also major
stockholders benefit through stock returns if they control costs
and improve bank performance; but hired managers whose ownership
interest is minimal, if any, may not be rewarded in the same manner
for the same improved performance (Johnson et al. 2008). In order
to deal with the aforementioned principal-agent issue related to
hired managers, stockholders and the board should be very careful
in conveying their objectives to these managers. Meanwhile, these
managers performance should be put under scrutiny, and superior
performance should be rewarded (i.e., awarding bonuses, stock
options, etc., to these managers). 2.2.1.2 Role of Management and
Board of Directors The board of directors is typically the
governing body of the organization. Its primary responsibility is
to make sure that the organization achieves the shareholders goal.
Therefore, the board is accountable to these shareholders. The
board of directors has the power to hire, terminate, and compensate
top management (Johnson et al. 2008). Therefore, it safeguards the
organizations assets and invested capital. In addition to setting
the banks objectives (including generating returns to
shareholders), the board of directors and senior management affect
how banks run their daily operations, meet the obligation of
accountability to banks shareholders, and consider the interests of
other recognized stakeholders (Basel Committee 2005). During its
regular meetings, the board identifies, discusses, avoids, and
solves potential problems. Board size and/or composition may affect
the bank performance, as stated hereinafter. Board structures and
boards capabilities to monitor the banks executives and managers
vary from one bank to another (Van der Elst 2010). In order to
provide reasonable 12
14. assurance that the bank is accomplishing its objectives as
regards reliable financial reporting, operating efficiency, and
compliance with laws and regulations, the bank should implement a
reliable internal control system monitored by the board of
directors, audit committee, and the banks top management. The
members of some boards of directors may be selected by the banks
president or CEO, who is also the Chair of the Board, and
consequently cannot be terminated by the shareholders; such
practice is known as duality (Arouri et al. 2011). 2.2.1.3 Role of
the Audit Committee and Internal Auditors The main task of the
banks audit committee and internal auditors is testing the design
and implementation of the banks internal control system and the
fairness and reliability of its financial statements. Listing all
the tasks of the audit committee and internal auditors is beyond
the scope of this paper. However, I would refer to the tasks that
are directly related to the activities of both of them, as follows:
after the U.S. corporate scandals and the collapse of Enron and
WorldCom, as well as Arthur Andersen and others, the internal audit
tasks have been changed, especially pursuant to the issuance of the
aforementioned Sarbanes-Oxley Act of 2002. One of the main
responsibilities of the audit committee is to enhance and maintain
the internal auditors independence in order to enable them to
achieve their duties. The relationship between the audit committee
and internal auditors is important for both parties to fulfill
their job commitments. The internal auditors provide the committee
with the necessary information to which they have direct access,
same as the organizations management, in order to enable the
committee to accomplish its oversight and monitoring mission. On
the other hand, the committee supports the position of the internal
audit function and submits managements irregularities and other
relevant managerial and financial issues to the board of directors,
after discussing such issues with the internal auditors and
relevant other parties (Pathan et al. 2005). 13
15. The committee is concerned with recruiting and terminating
the head of the internal audit, and the frequency and duration of
the meetings with the internal auditors, as well as ensuring that
the internal auditors, especially their head, can communicate
directly with the committee anytime. This committees meetings with
the head of the internal audit enhance the independence of the
internal audit function, supporting the parties discussion about
managements errors, irregularities, violations, and fraud. Whereas
the oversight of financial reporting and the monitoring of the
internal audit performance are two of the main activities of the
audit committee, it is mandatory that the committee members, or at
least one of them, should have the financial or accounting
expertise in order to understand the technical and control issues
related to the internal audit to enable the committee to review the
internal auditors activities and the results they reach to
(Sarbanes-Oxley Act 2002). Consequently, independence and financial
expertise are very critical for this committee to play its
important role and take advantage of the internal auditors
performance. Whenever there are problems or obstacles, the
committee performs the necessary investigations using internal
feedback, its expertise, and external consultations if needed.
Evaluation of the organizations internal control structure and
process should also be one of the basic functions of the audit
committee and internal auditors. The committee also evaluates the
internal auditors effectiveness, their plans and work arrangements,
as well as the resources allocated to them. Additionally, the
internal auditors should be involved in issues related to the
organizations joint ventures, environmental matters, and
international operations. As a corporate governance reform, the
above-mentioned Act increased the audit committees and internal
auditors independence from management. 2.2.2 External Governance
External corporate governance consists of the control that external
stakeholders exercise over the bank, which include the following:
14
16. 2.2.2.1 Role of External Auditors As part of the Audit
Function, the external auditors tasks could be considered as
internal and/or external corporate governance. Listing all the
tasks of the external auditors is beyond the scope of this paper;
however, I would refer to the tasks that are directly related to
the audit committee activities as follows: the committee nominates
and assists in selecting the external auditor (also called
certified public accountants CPA, Chartered Accountants CA, et al.)
to audit and/or review the organizations accounts and issuing
his/her opinion about the correctness and accuracy of the
organizations financial statements, and that these statements
present fairly the financial position of the organization. Changing
the external auditors also requires direct interference by this
committee. In order to protect and preserve the shareholders
interests, the committee oversees the nature and scope of work of
the external auditors, evaluates their effectiveness, and
recommends the proper audit fees that should be paid to them. The
committee also assists in ensuring that the external auditors are
independent, and that there is no conflict of interest which may
weaken the external auditors ability of issuing their opinion about
the organizations financial statements and financial position. The
external auditors submit their reports to the audit committee where
both parties discuss important issues, such as managements errors,
irregularities, and fraud; problems or obstacles in the internal
control process; and problems related to the preparation of
financial statement or financial reporting. The U.S. AICPA requires
that external auditors communicate with the audit committee
formally as a main part of the audit performance. It also requires
that the audit committee receives additional information from the
external auditors that may help it in the oversight of the
financial reporting and disclosure process. Moreover, the AICPA
requires that the external auditors communicate with the committee
regarding errors, irregularities, illegal acts, and internal
control structure. The committee reviews the external auditors
management letter and submits its relevant notes to the board of
directors. This committee also reviews the external auditors plans
and 15
17. arrangements of works, and may ask the external auditors to
report to it about any differences or disputes between them and the
organizations management. Additionally, the committee facilitates
the communications between the external auditors and the
organizations board of directors and attends their relevant
meetings. For independence purposes, the committee may review any
non-audit service agreements with the external auditors to
understand the nature and magnitude of relevant fees paid.
Regulations worldwide require that each banks financial reports
should be audited by independent external auditors who issue a
report that accompanies the banks financial statements. In order to
remove the conflict of interest which jeopardizes the integrity of
the banks financial statements and maintain, as well as increase,
the external auditors independence, the United States Congress
issued the above Sarbanes-Oxley Act to prohibit auditing firms from
providing both auditing and management consulting services to the
same client. Similar laws have been issued in other countries.
2.2.2.2 Accepted Accounting Practices The U.S. GAAP and European
IFRS allow managers various methods to choose from regarding their
recognition of financial reporting elements. In order to make their
bank performance look better than what it really is, the managers
may abuse such choice advantage and thereby increase the
information risk for users through falsification of values,
concealing fraud, or hiding important information that should be
disclosed. 2.2.2.3 Government Regulations Corporate governance has
been reformed by many governments; one of these reforms is the
above Sarbanes-Oxley Act which was issued in 2002 after the U.S.
corporate scandals. Some governments hired consulting firms and
sponsored committees to consult with 16
18. regarding corporate governance issues, which included,
among other things, internal control requirement, external
disclosure of information, audit function and responsibilities, and
the role and effectiveness of directors (Johnson et al. 2008).
2.2.3 Basel Accords (Agreements) Basel Accords issued by the Basel
Committee on Banking Supervision (BCBS) which is located at the
building of the Bank for International Settlements in Basel,
Switzerland. The BCBS, which was formed on June 26, 1974 in
response to the liquidation of Herstatt Bank of Cologne, Germany,
does not enforce its recommendations although most countries
implement them. Three Accords have been published by the BCBS so
far, as follows: Basel I of 1988 regarding the minimum capital
requirements for banks; Basel II of 2004 and its updates during
2005-2009 with respect to capital requirements, supervisory review,
and market discipline; and Basel III which is agreed upon by the
BCBS in 2010-2011 as regards capital adequacy, stress testing, and
market liquidity risk. 2.2.4 Role of Other Interested Stakeholders
There are other stakeholders, such as customers, suppliers,
employees, and local communities to whose rights the organizations
pay very little attention. Organizations should understand that
these stakeholders have contractual and social rights, and that
there is a corporate social responsibility (CSR) imposed on these
organizations towards these stakeholders (Johnson et al. 2008).
17
19. 3 Research Methodology 3.1 Research Question and Objectives
There are lots of writings discussing the effects of corporate
governance on corporate performance in financial and non-financial
institutions. Although many of these writings talk about the
corporate governance effects on bank performance, only a few of
them talk about such effects in the Arab World. In order to answer
the research question What are the effects of corporate governance
on bank performance? there are other questions that need to be
answered; this study focuses on the following questions: A- What
are the effects of ownership structure, board structure, and audit
function on banks profitability? B- What kind of profitability,
higher or lower, will a bank with stronger corporate governance
have? C- Which of the above corporate governance variables is/are
significantly related to banks profitability? The study answers the
research question through investigating the effects of corporate
governance on bank performance in regard to the respective
variables, which included investigating the effects of ownership
structure, board structure, audit function, and other related
variables, such as bank size, age and type, on banks profitability
measuring that by each banks ROE, ROA, and Profit Margin, analyzing
it through using the above-mentioned SPSS, in terms of descriptive
statistics, Pearson correlation matrix, and regression analysis. In
the United States, Europe, and many other countries around the
world, there are bank examination reports that provide much of the
bank governance information, such as the responsibilities of the
bank managers and policymakers, the amount of stock each
shareholder have, the family relationship among the banks
shareholders, directors, 18
20. policymakers and senior managers, as well as the personal
wealth and other relevant matters enjoyed by these bank members.
Such bank reports are not available in the Arab World. However,
Bankscope reports show some financial and non-financial information
about banks, including banks operating in the Arab World. I used
such information and information from other relevant reports and
websites detailed hereunder. 3.2 Hypotheses The following
hypotheses have been tested in previous banking researches. For
instance, (Glassman and Rhoades 1980) compared financial
institutions controlled by their owners with those controlled by
managers and found that the owner-controlled institutions had
higher earnings. (Allen and Cebenoyan 1991) found that bank holding
companies were more likely to make acquisitions that added to firm
value when they had high inside stock ownership and more
concentrated ownership. (Cole and Mehran 1996) discovered higher
stock returns at thrifts that either had a large inside shareholder
or a large outside shareholder. These studies thus offer some
support for the hypothesis that stockholdings provide an incentive
to run a bank better and achieve higher earnings for its
stockholders. In light of the aforementioned and in order to answer
the research questions listed above, the study hypotheses would be
as follows: H1: There is a significant and positive relationship
between corporate governance (ownership structure, board structure,
and audit function) and bank performance H2: Banks profitability is
positively and significantly affected by ownership structure (such
as ownership concentration and foreign ownership), board structure
(such as board independence, board committees, duality, and board
meetings), and audit function (such as 19
21. external audit type), as well as by bank size and age. 3.3
Method and Procedure In order to test the aforementioned
hypotheses, I used quantitative method to investigate the effects
of corporate governance on bank performance in regard to the
respective variables, which included investigating the effects of
ownership structure, board structure, audit function, and other
related variables, such as bank size, age and type, on banks
profitability measuring that by each banks ROE, ROA, and Profit
Margin, analyzing it through using the above-stated SPSS, in terms
of descriptive statistics, Pearson correlation matrix, and
regression analysis. I used Bankscope database to select the
country, Yemen or a GCC country, and selected the top fifty banks
from the above seven countries, as detailed hereunder. I also used
the respective banks websites and other websites to extract the
relevant financial and nonfinancial information about each bank
from its published audited financial statements, annual reports,
and other relevant information. Afterwards, I analyzed the data,
using the aforementioned SPSS. After collecting and measuring the
data, the analysis of data includes, but not limited to, the
following: First, data reduction which involves selecting, coding,
and categorizing the data. Second, data analysis using the above
SPSS, displayed in the form of table or matrix so that the data
could be understood. Third, drawing conclusion based on the
aforementioned analysis. The study focuses on banks, both
conventional and Islamic, operating in Yemen and the GCC countries.
3.4 Sampling and Data Collection As explained above, my targeted
population is the conventional and Islamic banks operating in Yemen
and the GCC countries. I used the aforementioned Bankscope
database, the respective banks audited financial statements, annual
reports, and other related information published on these banks
websites as well as other relevant reliable websites, to collect
the 20
22. data needed about the selected banks as regards the subject
dependent and independent variables. Table 1 below shows the
population and samples selected per country: Table 1 Population and
samples per country Country Bahrain Population (All Bankscope List)
58 Kuwait 33 10 7 Oman 14 7 7 Qatar 14 7 7 Saudi Arabia 22 12 9
United Arab Emirates 39 19 7 Yemen 13 11 8 193 95 59 Total
Population (Banks only) 29 Sample Size 14 My sample includes
conventional and Islamic banks operating in Yemen and the
aforementioned six GCC countries. I used 2011 since it is the
latest year for which the respective banks should have their
audited financial statements published by now. Consequently, I
excluded from the sample all banks that do not have these audited
financial statements or their annual reports available. I also
excluded banks about which no sufficient data is available. I did
not consider financing, insurance, or non-bank institutions since
they are different from banks with respect to their specific
characteristics, management structures, accounting procedures, and
audit functions. My final sample consists of the largest 50
conventional and Islamic banks operating in Yemen and the six GCC
countries. The process of selecting this sample is based on the
values of these banks total assets and the consequent ranking
stated by Bankscope database. 21
23. Any bank excluded due to any of the above reasons has been
replaced with the next immediate bank in ranking. Table 2 hereunder
summarizes the sample selection: Table 2 - Sample selection Number
of banks selected from Bankscope Database based on its ranking for
2011 and the number of banks in each country 59 No annual reports
available for 2011 (3) No sufficient data about bank (6) Final
sample 50 3.5 Variables For bank performance measurement, the
dependent variables used are the profitability measures ROE, ROA,
and Profit Margin. Meanwhile, the independent variables used in
regard to corporate governance are categorized into four sections,
as follows: 1) Ownership structure which include ownership
concentration, institutional ownership, foreign ownership, and
alignment of interests; 2) Board structure which include board
size, board independence, duality, board committees, number of
board members, number of nonexecutives on board, number of board
meetings per year, existence of remuneration/compensation
committee, and existence of nomination committee; 3) Audit function
including external audit type, existence of audit committee, number
of audit committee members, number of audit committee non-executive
members, and number of audit committee meetings per year; and 4)
Other related variables that include bank type, bank age, bank
size, and existence of corporate governance reports. Table 3
hereunder shows the definition and measurement of these twenty-five
variables: 22
24. Table 3 - Definition and measurement of variables Variable
Symbol Definition Measurement Dependent Variables ROE The amount of
return on banks equity Net Income divided by Average Total Equity
ROA The amount of return on banks assets Net Income divided by
Average Total Assets PROFIT.M Profit Margin Net Income divided by
Revenue TYPE Bank Type Conventional bank = 1; Islamic = 0 AGE Age
of Bank 10 years old or more = 1; less than 10 years old = 0
BNK.SIZE Bank Size Bank assets amounting to US$ 1 Billion or more =
1; less than US$ 1 Billion = 0 OWN.CONC Ownership Concentration
Adding up all share ratios of shareholders of the bank who have 5%
or more (excluding others) INSTITUT Institutional Ownership If
there is/are institutions holding bank shares (i.e., Institutional)
= 1; Non-institutional = 0 FOREIGN Foreign Ownership ALIGN.IN
Alignment of Interests If there is/are Foreign ownerships = 1;
Non-foreign = 0 Owner Manager = 1; Hired Manager = 0 BRD.SIZE Board
Size 5 members or more = 1; less than 5 members = 0 BRD.INDP Board
Independence Number of non-executive members on the board divided
by Total number of board members DUALITY CEO Duality Duality: If
the CEO and Chairman are Not the same person = 1; If otherwise = 0
BRD.COMT Board Committees If there is a Board Committee (Audit,
Compensation, etc.) = 1; If not = 0 Independent Variables 23
25. EXT.AUDT External Audit Type If the external auditor is one
of the Big 4 CPA Firms = 1; Any other = 0 BRD.MBRS Number of Board
Members Total number of board members during 2011 BRD.NONX Number
of NonExecutives on Board Number of non-executive members on the
board during 2011 BRD.MTNG Number of Board Meetings per Year Number
of board meetings held during 2011 CG.RPRT Corporate Governance
Report If Corporate Governance Report exists = 1; If it does not =
0 REM.COMT Remuneration /Compensation Committee If Remuneration /
Compensation Committee exists = 1; If it does not = 0 NOM.COMT
Nomination Committee If Nomination Committee exists = 1; If it does
not = 0 AUD.COMT Audit Committee If Audit Committee exists = 1; If
it does not = 0 AUD.MBRS Number of Audit Committee Members Number
of Audit Committee members during 2011 AUD.NONX Number of Audit
Committee NonExecutive Members Number of the non-executive members
in the Audit Committee during 2011 AUD.MTNG Number of Audit
Committee Meetings per Year Number of audit committee meetings
during 2011 24
26. 4 Analysis and Discussion For statistical analysis, I used
the aforementioned SPSS, as follows: 4.1 Descriptive Analysis Table
4 hereunder provides descriptive statistics of the respective
variables. Bank Age is shown with a mean of 29.74 years and a
median of 30.5 years which indicates that the banks in the region
have an average of 30 years of experience, which ranges from 4 to
75 years. Bank Size with an average of 92% (close to 1 unit)
indicates that most of the respective banks have large amount of
total assets (exceeding US$1 billion). Ownership Concentrations
average exceeds 62% which means that most of the bank shares are
owned by block holders, which also has a significant impact on bank
performance. Board Committees also with on average of 92% indicates
that most of the relevant banks have committees facilitating and
assisting the banks boards of directors in performing their tasks.
Meanwhile, Board Independences average which exceeds 62% indicates
that most of the respective banks boards are independent (consist
mostly of non-executive members). Board Meetings indicates that the
banks boards met approximately 5 times during 2011, with an average
of 4.94, which is a good indication about the monitoring and
supervising the banks operations by the board of directors. The
Profit Margin is shown as a high average of 37.62%, but with a
negative profit margin of -37% as a minimum. The table also shows a
higher Return on Assets with an average of 1.65 times, but with a
negative return of -90% as a minimum. Likewise, Return on Equity is
shown as the highest return with an average of 10.29 times, but
also with a negative return of -7.65 times. 25
27. Table 4 Descriptive statistics Variable ROE ROA PROFIT.M
TYPE AGE BNK.SIZE OWN.CONC FOREIGN ALIGN.IN DUALITY BRD.COMT
EXT.AUDT BRD.MBRS BRD. NONX BRD.INDP BRD.MTNG CG.RPRT REM.COMT
NOM.COMT AUD.COMT AUD. MBRS AUD.NONX Mean Std. Deviation 10.286
6.065221365 1.6474 1.06112149 0.3762 0.219562552 0.78 0.46467017
29.74 15.44814895 0.92 0.274047516 0.6233906 0.28482618 0.6
0.494871659 0.16 0.37032804 0.08 0.274047516 0.92 0.274047516 0.9
0.303045763 9.48 2.224538475 8.46 2.042507463 0.6233906 0.28482618
4.94 1.633951015 0.86 0.350509833 0.74 0.443087498 0.59183673
0.496586991 0.86 0.350509833 3.02 1.477587664 2.78 1.374550019
Minimum -7.65 -0.9 -0.37 0 4 0 0.05 0 0 0 0 0 6 4 0.05 0 0 0 0 0 0
0 Maximum 22.48 4.91 0.75 2 75 1 1 1 1 1 1 1 19 13 1 9 1 1 1 1 6 5
4.2 Correlation between variables For correlation between
independent corporate governance variables among themselves, and
between these independent variables and dependent bank
profitability variables, I used Pearson Correlation Matrix shown
below as Table 5, briefed as follows: The Profitability measures
ROE and Profit Margin are positively and significantly correlated
with Bank Age at the 5% level (2-tailed). ROA shows a significant
negative correlation with Board Independence at the 1% level and
with Bank Size at the 5% level (both 2-tailed). Profit 26
28. Margin also shows a significant negative correlation with
Ownership Concentration at the 1% level, and positive significant
correlation with Board Committees at the 5% level (both 2-tailed).
ROE and Profit Margin also show a significant negative correlation
with Board Independence at the 5% and 1% levels respectively (both
2-tailed). Profit Margin is also positively and significantly
correlated with Audit Committee at the 5% level (2-tailed).
Moreover, there are significant correlations among the dependent
variables and also among the independent variables at the 1% and 5%
levels, such as between ROE, ROA, and Profit Margin; as well as
between Bank Size and Board Committees, between Foreign
shareholders and External Auditors, and between Ownership
Concentration and Board Independence (all at the 1% level).
Regression results and respective explanations regarding the
relationships, and consequent effects, between banks profitability
and relevant corporate governance variables are discussed
hereunder. 27
29. Table 5 Pearson correlation matrix ROE ROE ROA PROFT. M
PROFT.M .804** .611** 0.196 -0.024 BNK.SIZE OWN.CONC FOREIGN
ALIGN.IN DUALITY BRD.COMT EXT.AUDT BRD.MBRS BRD. NONX BRD.INDP
BRD.MTNG CG.REPRT REM.COMT NOM.COMT AUD.COMT BNK.SIZE OWN. CONC
FOREIG N ALIGN. IN DUALITY BRD. COMT EXT. AUDT BRD. MBRS BRD. NONX
BRD. INDP BRD. MTNG CG. REPRT REM.C OMT NOMC OMT AUD. COM T 1
.674** AGE AGE 1 ROA TYPE TYPE 0.123 * .361 -0.205 -.286* 1 0.198 1
0.168 * .324 0.066 1 0.019 0.024 1 -.286 -.453 -.369 0.185 -0.070
0.059 1 -0.102 0.015 -0.005 -0.035 -0.131 0.060 0.022 1 -0.150
-0.007 -0.090 -0.147 -0.032 -0.072 0.097 0.245 -0.087 0.184 0.026
-0.019 0.034 -0.185 0.057 0.241 0.082 0.165 0.179 -0.106 0.107
0.131 -0.029 0.141 * 0.178 ** .313* ** .358* .457** -0.242 ** .676
1 0.129 0.087 0.145 0.098 -0.014 -0.010 -0.053 -0.271 0.024 -0.070
-0.013 0.252 0.096 -0.235 0.139 -0.188 -0.273 0.105 0.251 0.185
-0.070 0.059 0.022 0.097 0.057 0.080 0.020 -0.085 0.011 0.019
-0.093 0.010 0.007 -0.083 -0.207 0.176 0.119 .332* -.286* -.453**
-.369** 0.158 0.045 0.191 0.117 -0.244 0.022 0.070 0.160 -0.068
-0.116 0.068 0.065 0.080 0.113 -0.225 0.016 -0.167 0.014 0.014
0.193 * .298 .314* 0.058 -0.096 -0.203 .393** .306* 0.161 .359* *
.306 -0.230 .361** 1 0.779** -0.020 -0.037 0.100 0.254 -0.196
.408** .376** ** .540 .409** ** .376 .376** .538** .370** 1 .639**
1 -0.003 0.103 -0.042 0.010 -0.242 -0.230 -0.013 -0.273 1 0.070
0.081 0.119 -0.020 1 0.166 0.092 -0.037 0.270 0.191 0.090 0.100
-0.049 -0.073 0.254 -0.069 -0.108 -0.196 * .354 .518** ** .634** **
.497 .562 .359* .406** ** .731 ** .634 1 .692** 1 ** 1 ** .457 .681
.311* .492** ** .413 ** .502 1 .724** ** .549 **. Correlation is
significant at the 0.01 level (2-tailed). *. Correlation is
significant at the 0.05 level (2-tailed). 4.3 Regression Analysis
Since there is more than one independent variable to explain the
variance in each of the three dependent variables, I used the
multiple regression analysis and relevant stepwise method in order
to assess the degree and character of the relationship between the
banks profitability three outcome measures (ROE, ROA, and Profit
Margin) and corporate governance predictors described above. Each
predictor variable has its own coefficient, and 28 1 ** .373 1
30. the outcome variable is predicted from a combination of all
the variables multiplied by their relevant coefficients plus a
residual term, as follows: Regression Equation: y = a + b1x1 +
b2x2bnxn + i where y is the outcome variable; b1 refers to the
coefficient of the first predictor (x1); b2 represents the
coefficient of the second predictor (x2); bn refers to the
coefficient of the nth predictor (xn); and i is the difference
between the predicted and the observed value of y for the ith
participant. The stepwise method relies on the computer selecting
the variables based upon mathematical criteria, under which the
regression equation is constantly being reassessed, removing from
the model any predictor that meets the removal criterion and
reassessing for the remaining predictors. Consequently, we get the
linear combination of predictors that correlate maximally with each
of the aforementioned three outcome variables. The Model Summaries
hereunder show the collapse of the individual correlations between
the independent variables and each dependent variable into a
Multiple R (also called Multiple Correlation Coefficient). R Square
(or R) is the amount of variance explained in the dependent
variable by the predictors. calculates Adjusted R. In addition to
calculating R and R, SPSS also This adjusted value indicates the
loss of predictive power or shrinkage. It tells how much variance
in the dependent variable would be accounted for if the model had
been derived from the population from which the sample was taken.
The Analysis of Variances (ANOVA) examines the significant Mean
differences among more than two groups on an interval or
ratio-scaled dependent variable. Its results show whether or not
the Means of the various groups are significantly different from
one another, as indicated by the F statistic. Regarding the
Coefficients tables, the t-test is used to measure whether or not
the predictors make a significant contribution to the model; and
the b-values refer to the positive or negative relationship between
the predictors and the respective outcome. The smaller the value of
Sig.(and the larger the value of t), the greater the 29
31. contribution to the Model (Field 2009). The 1% error refers
to a 99% level of confidence and the 5% error refers to a 95% level
of confidence. 4.3.1 The Effects on Profitability, measured by ROE
As stated hereunder, the two predictors (Age and Number of Board
Meetings) have positive and significant relationships with, and
consequently positive and significant effects on, the outcome ROE.
Bank Age has a positive and significant impact on ROE due to the
learning curve principle which makes a bank learn from its previous
good and bad experience for correction, improvement and more
development, as long as other corporate governance predictors
remain constant. Older banks have higher ROE than younger banks due
to the interaction between the bank age and the market share, as
well as the longer tradition and good reputation that could have
been built by the passage of time. Therefore, bank age contributed
significantly to the performance measures of ROE. Since they focus
on increasing their market share rather than on improving
profitability, newly established banks are not profitable in their
first years of operations. This result is consistent with the
results of the studies of (Stathopoulos et al. 2004; and
Athanasoglou et al. 2005). The Number of Board Meetings per year
also has a positive and significant effect on ROE. The increase in
the Number of Board Meetings means an increase in monitoring,
follow-up, supervision, direction, and attentiveness by the board
of directors which leads to facilitating the banks operations and
assisting management in achieving the banks objectives through
making the right decision on the right time, taking advantage of
the available opportunities and avoiding the potential threats. The
frequency of board meetings helps the board members to know the
senior management team and to understand the banks operations in
order to perform the board tasks appropriately. This result is
consistent with the results of the studies conducted by (Davidson
et al. 1998; Godard and Shatt 2004; and Bouaziz and Triki 2012).
30
32. 4.3.1.1 Model Summary - ROE The individual correlations
between the independent variables and dependent variables ended up
into the multiple R (or the multiple correlation coefficients).
Therefore, column R in the following ROE, ROA, and Profit Margin
summary models indicates the values of the multiple correlation
coefficients between the predictors and the outcomes (Field 2009),
as follows: Table 6 refers to the correlation between the two
predictors (Age and Number of Board Meetings) and the dependent
variable ROE. In this model, the R square of 21.4% is the amount of
variance explained in the ROE by the above two predictors. The
difference between R square and the Adjusted R square is 3.4%
(i.e., 21.4% - 18%). This small shrinkage means that if the model
were derived from the population rather than from the sample, it
would account for 3.4% less variance in ROE. Table 6 ROE Model
summary Model R R Square Adjusted R Square Std. Error of the
Estimate ROE .463 .214 .180 5.57592 4.3.1.2 ANOVA ROE ANOVA tests
if the Model is significantly better at predicting the outcome ROE
than using the mean as a best guess. The F-ratio represents the
improvement in prediction that results from fitting the model,
relative to the inaccuracy that still exists in the model. The Mean
Square is then calculated for each term by dividing the SS by the
df. For the ROE ANOVA shown hereunder under Table 7, the F value is
highly significant (at the 1% level) which means that the Model is
a significant fit of the data. 31
33. Table 7 ROE ANOVA Model Sum of Squares df Mean Square F
Sig. Regression 389.509 2 194.755 6.264 .004 Residual 1430.183 46
31.091 Total 1819.692 48 4.3.1.3 Coefficients - ROE The t-test here
is used to measure whether the predictors make a significant
contribution to the model. As regards the ROE measure, Table 8
shows that both predictors (Age and Number of Board Meetings) have
positive b-values which means that there is a positive relationship
between them and the outcome ROE. Consequently, as Age increases,
ROE also increases; and as the Number of Board Meetings increases,
so does the ROE. Age makes a significant and positive contribution
at the 1% level, and Number of Board Meetings also makes a
significant and positive contribution at the 5% level. Table 8 ROE
Coefficients Model (Constant) AGE Unstandardized Coefficients B
Unstandardized Coefficients Std. Error Standardized Coefficients
Beta t Sig . -.652 .177 1.093 3.425 .054 .507 .443 .292 -.190 3.272
2.156 .850 .002 .036 BRD.MTNG 4.3.2 The Effects on Profitability,
measured by ROA Board Independence means that the majority of the
board members are non-executive members indicating that the board
is exercising its powers of directing, controlling, and 32
34. monitoring independent from the executive management. The
study shows that Board Independence has a significant and negative
correlation with, and consequently a significant and negative
effect on, the banks ROA. Although board independence is
traditionally supported for its unbiased monitoring which may lead
to improved performance, the study reveals that the boards of the
banks need to have reasonable number of executive managers
(insiders) who bring different knowledge and skills to the boards.
These insiders may improve the boards decisions with respect to
investment, strategic planning, and other relevant decisions.
Insiders have both knowledge and incentives to do a better job;
they are well-informed about their banks, and they have their human
capital as well as their financial capital (especially if they are
owner managers) committed to their banks. This result is consistent
with the results of other studies of (Baysinger and Butler 1985,
Vancil 1987; Weisbach 1988; Klein 1998, Hall and Liebman 1998;
Bhagat et al. 1999; and Bhagat and Black 2000). In a well-organized
bank, the Bank Size (i.e., with larger amount of total assets)
offers great help to the banks mobility taking advantage of its
financial strength pursuing available business opportunities
effectively, avoiding potential threats, and overcoming its
weaknesses. Through their created economies of scale, larger banks
lower their average costs which affects their banks profitability
positively and enables them to exercise market power through
stronger brand image or implicit regulatory (too big to fail)
protection. However, the positive effect of a growing banks size on
its profitability turns to be negative after a certain limit due to
bureaucratic problems and poor expenses management. In addition to
this cost issue, Bank Size also controls for product and risk
diversification which leads to a negative relationship and effect
between Bank Size and ROA since increased diversification leads to
higher credit risk and consequently to lower returns. Therefore,
the study reveals this negative correlation and effect by Bank Size
on profitability, measured by ROA. Meanwhile, the above-mentioned
larger amount of total assets reduces the ROA ratio to a great
extent which leads to the aforementioned negative correlation and
effect between Bank Size and the outcome ROA. This result is
consistent with the results of studies conducted by (Berger et al.
1987; Boyd and Runkle 1998; Miller and Noulas 1997; 33
35. Eichengreen and Gibson 2001; Pasiouras and Kosmidou 2007;
Kosmidou 2008; and Athanasoglou et al. 2008). 4.3.2.1 Model Summary
- ROA Table 9 reveals the correlation between the independent
variables (Board Independence and Bank Size) and the dependent
variable ROA. In this model, the R square of 27.7% is the amount of
variance explained in the ROA by these two predictors. The
difference between R square and the Adjusted R square is 3.2%
(i.e., 27.7% - 24.5%). This small shrinkage means that if the model
were derived from the population rather than from the sample, it
would account for 3.2% less variance in ROA. Table 9 ROA Model
summary Model R R Square ROA .526 Adjusted R .277 .245 Square Std.
Error of the Estimate .92978 4.3.2.2 ANOVA - ROA Similar to the ROE
ANOVA, the ROA ANOVA shown below under Table 10, indicates that the
value of F is also highly significant (at the 1% level) meaning
that the Model is a significant fit of the data. 34
36. Table 10 ROA ANOVA Model Sum of Squares df Mean Square F
Sig. 8.801 .001 Regression 15.218 2 7.609 Residual 39.767 46 .864
Total 54.984 48 4.3.2.3 Coefficients - ROA Table 11 ROA
Coefficients shows that the two predictors (Board Independence and
Bank Size) make significant contributions to the model. Board
Independence makes a significant and negative contribution at the
1% level, and Bank Size makes a significant and negative
contribution at the 5% level. Table 11 ROA Coefficients Model
Unstandardized Coefficients B Unstandardized Coefficients Std.
Error Standardized Coefficients Beta t Sig . (Constant) BRD.INDP
BNK.SIZE 3.604 - 1.653 - .993 .535 .468 .486 -.443 -.257 6.733 -
3.529 - 2.044 .000 .001 .047 4.3.3 The Effects on Profitability,
measured by Profit Margin Profit Margin is an indication of a
companys pricing strategies and how well it controls costs. It is
found that Ownership Concentration, Age, and Board Committees are
the three corporate governance independent variables which have
significant relationships with the dependent variable, Profit
Margin. 35
37. Ownership Concentration has a significant impact on Profit
Margin. This impact could be positive, helping the banks
decision-making, reducing agency costs, and leading to higher
profit rates, better performance, and better profit margin
(Claessens et al. 1997; and Fuentes and Vergara 2003). However, the
study indicates that Ownership Concentration has a significant and
negative effect on Profit Margin allowing the banks controlling
shareholders to expropriate the banks resources for their own
private benefits by different ways, such as through related-party
transactions (which leads to a negative effect on the growth rate
of the banks net assets), or through transferring the resources
from one entity in which the controlling shareholders own less to
other entities in which they own more. These negative effects lead
to lower profit rates and lower profit margin. This result is
consistent with the results of the studies conducted by (Jensen and
Meckling 1976; Leech and Leahy 1991; Slovin and Sushka 1993;
Shleifer and Vishny 1997; Thomsen and Pedersen 2000; Joh 2003;
Cronquist and Nilsson 2003; and Karaca and Eksi 2012). Similar to
the aforementioned impact on ROE, Bank Age also has a significant
and positive correlation with, and consequently a significant and
positive impact on, Profit Margin due to the learning curve
principle referred to under No. 4.3.1. Longer good reputation and
interaction between the bank age and the market share lead to
higher profit margin. This result conforms to the results of the
studies of (Stathopoulos et al. 2004; and Athanasoglou et al.
2005). Board Committees, which include Audit,
Remuneration/Compensation, and Nomination Committees, also have
significant and positive relationships with, and consequently
significant and positive impacts on, Profit Margin. They control
the bank managements opportunistic behavior, monitor closely the
bank activities, and reduce the banks risk-taking appetite. They
facilitate the board functions and responsibilities, and hence
board effectiveness. The Committees oversee the banks operations,
focusing on the banks compliance to rules and regulations, and
addressing any financial errors, misstatements, or irregularities.
The Audit Committee helps the board of directors in auditing,
monitoring, supervising, and controlling the financial and
managerial issues of the bank, as well as 36
38. facilitating the boards relationship with internal and
external auditors. It also monitors, verifies, and safeguards the
integrity and credibility of the process of accounting, auditing,
and financial reporting; enhances transparency for banks
stockholders and creditors; and resolves disagreements between
management and external and internal auditors. The Audit Committee
also ensures that the bank has an effective internal control and
reliable financial reporting system, and that it complies with the
regulatory requirements and the banks code of conduct. The
Remuneration/Compensation Committee recommends and monitors the
level and structure of remuneration for banks management and
compensation to the board members properly for their ordinary and
extra-ordinary efforts. The Nomination Committee recommends the
right people to the board and to the banks shareholders. This
result corroborates the results of the studies of (Pincus et al.
1989; Anderson et al. 2004; and Barth et al. 2004). 4.3.3.1 Model
Summary Profit Margin Table 12 indicates the correlation between
the three predictors (Ownership Concentration, Age, and Board
Committees) and the outcome Profit Margin. In this model, the R
square of 32.6% is the amount of variance explained in the Profit
Margin by the above three predictors. The difference between R
square and the Adjusted R square is 4.4% (i.e., 32.6% - 28.2%).
This small shrinkage means that if the model were derived from the
population rather than from the sample, it would account for 4.4%
less variance in Profit Margin. Table 12 Profit Margin Model
summary Model R R Square Adjusted R Square Std. Error of the
Estimate Profit Margin .571 .326 .282 .1860 37
39. 4.3.3.2 ANOVA Profit Margin Similar to the above ROE and
ROA ANOVA, Table 13 regarding the Profit Margin also indicates that
the F value is extremely significant (at 0% level) which means that
this Model is also a significant fit of the data. Table 13 Profit
Margin ANOVA Model Sum of Squares df Mean Square F Sig. .771 3 .257
7.425 .000 Residual 1.591 46 3.460E-02 Total 2.362 49 Regression
4.3.3.3 Coefficients Profit Margin For the Profit Margin
Coefficients , Table 14 shown hereunder indicates that there are
three predictors (Ownership Concentration, Age, and Board
Committees) that make significant contributions to the model. Age
makes a significant and positive contribution at the 1% level;
Board Committees also makes a significant and positive contribution
at the 5% level; and Ownership Concentration makes a significant
and negative contribution at the 5% level. Table 14 Profit Margin
Coefficients Model Unstandardized Coefficients B Unstandardized
Coefficients Std. Error Standardized Coefficients Beta t Sig .
(Constant) OWN.CONC AGE BRD.COMT .117 -.205 4.839E-03 .264 .142
.097 .002 .101 -.265 .304 .330 .822 - 2.117 2.783 2.621 .416 .040
.008 .012 38
40. Table 15 below shows a summary of the aforementioned
regression results in regard to the subject three models. Table 15
- OLS Regression Results Model 1 (Dependent Variable ROE)
Coefficients Constant t- statistics -.652 Coefficients Model 3
(Dependent Variable Profit Margin) 3.604 3.272 -.993 t- statistics
Coefficients 6.733 .117 0.822 0.685 -0.190 .177 AGE Model 2
(Dependent Variable ROA) t- statistics 4.839E-03 2.783 BNK.SIZE
-2.003 OWN.CONC -1.854 . -.205 -2.117 BRD.COMT 0.096 1.712 .264
2.621 BRD.INDP -1.854 2 Adjusted R . 2.156 0.396 1.395 0.277 0.326
0.180 0.245 0.282 6.264 2 R 1.093 -3.529 0.214 BRD.MTNG -1.653
-0.727 -2.044 8.801 7.425 0.004 0.001 0.000 F-statistics p-value
for F- test 39
41. 5 Summary and Conclusion The study was made on a sample of
top fifty conventional and Islamic banks from Yemen and the GCC
countries. I used the aforementioned SPSS which included using
descriptive statistics summarized as mean, standard deviation,
minimum, and maximum in order to have information about the
respective banks practices and characteristics related to the
subject corporate governance and bank performance. Pearson
correlation matrix shows that there is a correlation between many
of the variables. The study investigates the relationship between,
and consequently the effect of, internal corporate governance
(categorized as ownership structure, board structure, audit
function, and other respective variables such as bank size, age,
and type) on banks profitability, measured by ROE, ROA, and Profit
Margin. These bank performance profitability measures were
regressed on twenty two corporate governance predicting variables,
classified into the aforementioned categories. It is found that the
two predictors, Age and Number of Board Meetings, have a positive
and significant effect on banks profitability measured by the
outcome ROE, the result which corroborates the results of the
studies referred to hereinabove. Meanwhile, I found that the two
predictors, Board Independence and Bank Size, have a negative and
significant effect on banks profitability, measured by ROA, the
result which conforms to the results of the studies conducted by
the aforementioned researchers. Finally, it is found that there are
three corporate governance independent variables, Ownership
Concentration, Age, and Board Committees, of which Age and Board
Committees have a positive and significant effect while Ownership
Concentration has a negative and significant effect on banks
profitability, measured by the dependent variable Profit Margin.
This result is also consistent with the results of the studies
indicated above. These result-references are stated under No. 4
Analysis and Discussion. It is also found that the above three
empirical results support the theoretical framework of the study,
and that the study hypotheses are empirically validated about the
banks operating in Yemen and the six GCC countries in accordance
with the above-stated analytical 40
42. methods. Consequently, it is concluded that there is a
significant relationship between corporate governance and banks
profitability; and that banks profitability, measured by ROE, ROA,
and Profit Margin, is significantly affected by ownership
concentration, board meetings, board independence, and board
committees, as well as by bank age and bank size. It is
worth-mentioning that the external auditors reports of Al-Ahli Bank
of Kuwait and all the Saudi banks taken in the sample have been
signed by two of the big four CPA firms simultaneously, which could
mean additional bank governance that has not been taken into
consideration. Results may be of interest to banks stakeholders,
regulators, and policy makers. Future researches could provide
additional views about this relationship between bank performance
and internal corporate governance; as well as relationship between
bank performance and external corporate governance, such as
government regulations. 41
43. 6 Research Limitations It is known that such a case study
cannot be generalized as it is designed to investigate into, and
understand, specific elements. Consequently, the findings of this
study cannot be generalized to all banks since the sample was
limited to banks operating in Yemen and the GCC countries, and
excluded all other banks operating elsewhere. The study will also
be limited to the aforementioned specific elements and variables;
therefore, it cannot be generalized to all other elements and
variables of the banking industry. Additionally, information
confidentiality and unavailability of information are two major
limitations that prevented me from collecting complete, correct,
and accurate data. Moreover, the study concerns the above specific
countries; thus, the findings cannot be generalized to other
countries since each country and/or region has its own
characteristics. Moreover, as stated above, I could not find much
literature talking about the effects of corporate governance on
bank performance in the Arab World, except what is referred to
above. 42
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