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Islamic Banking, Accounting And Finance International Conference–
The 9
thiBAF 2020
Large Shareholders Ownership and Firms Financial Performance; Evidence from MENA Countries
Ayat Qasim Almasri
Faculty of Economics and Muamalat, Universiti Sains Islam Malaysia (USIM), Bandar Baru Nilai, 71800 Nilai, Negeri Sembilan Malaysia
Tel: +962-795388454 E-mail: [email protected]
Nathasa Mazna Ramli
Faculty of Economics and Muamalat, Universiti Sains Islam Malaysia (USIM), Bandar Baru Nilai, 71800 Nilai, Negeri Sembilan Malaysia
Tel: +6019-3672000 E-mail: [email protected]
Abstract
This paper aims to investigate whether the large shareholder's ownership influences the firm's financial performance during the year 2018 in the non-financial firms listed in the MENA countries. In this paper large shareholders measured as a percentage of shares held by the top largest shareholder, financial performance was measured using ROA, ROE as an accounting performance measure, and MTBR as a market performance measure. Firm age, firm size, and leverage were used as control variables. This study using all non-financial listed firms in nine MENA countries with 361 total observations. The finding shows a positive significant relationship between large shareholders' ownership and firm financial performance (ROA, ROE, and MTBR). But control variables are a negative significant relationship with large shareholders.
Keywords: : large shareholders, financial performance, audit quality, agency problem, Jordanian manufacturing firms
1. Introduction
The ownership structure of firms is one of the corporate governance mechanisms that is expected to play a crucial role to affect to their financial performance, thus influence their value (Isik & Soykan, 2013; Jameson et al., 2014;
Jebri, 2013; Morshirian et al., 2014). The ownership structures of companies around the world vary, Berle and Means (1932) confirmed that ownership in the Anglo-Saxon countries is widespread and is divided into many owned shares, where the ownership in European and emerging countries is characterized by concentrated in the hands of a few large shareholders. The debate over the separation of ownership and control in companies’ goes back to (Berle.
& Means., 1932) study, which found that firms’ financial performance was adversely affected by dispersed ownership. They also claimed that the control of publicly-held companies is delegated to professional managers because ownership in these companies is spread among a wide range of minority shareholders who are unable to manage and secure their share of the capital effectively. They also assume that managers may seek to achieve their own interests at the expense of minority shareholders when the goals are not compatible between the two parties, thus leading to the agency problem between the shareholders who provide funding in the company and the managers who run the firms and they have the right of authority.
According to Jensen and Meckling (1976), the separation between ownership and control in companies with dispersed ownership leads to incompatibility between shareholders and managers, which is known as the agency problem also termed as the principal-agent problem. Jensen and Meckling (1976) argued that the concentration of ownership in the hands of large shareholders leads to the emergence of another type of agency problems between the
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large (majority) shareholders and the small (minority) shareholders or what is known as the principal- principal problem through the ability of major shareholders to confiscate the minority shareholders and manipulation of the company and achieve their own interests rather than the interests of the company represented by increasing the value. Concentrated ownership is more prevalent in developing and less developed countries than in developed countries such as the Anglo-Saxon countries, because they enjoy less degree of protection for shareholders' rights (La Porta et al., 1999; Shleifer & Vishny, 1997).
Agency theory argued that an agency problem created from the agency relationship when shareholders appoint a manager to act as a control to the firm. As a result of the separation between the ownership and control the manager will not act all-time in the interest of shareholders to maximizing wealth will increase, but they can sometimes act to their own interest. Agency problem according to Jensen and Meckling (1976) arises first from, conflict of interest between principals and agents in the achieving of the desired goal. Second, Information asymmetry, Thomsen and Pedersen (2000) determine two types of information asymmetry a- moral hazard b- adverse selection. Where the moral hazard occurs when the shareholders cannot follow and observe the activity of the manager at all times, and the management usually has more information than shareholders because it is impossible for shareholders to control the management completely, this led to a difference in interest between agent and principals. where Adverse selection usually occurs before assigning a contract between shareholders and management, thus information asymmetry is considered one of the main causes of the agency problem. The third one is the problem of risk sharing that arises when the principal and agent have different attitudes towards risk. The problem here is that the principal and the agent may prefer different actions because of the different risk preferences.
According to Jensen and Meckling (1976), the problem of inducing the management to behave as if he were maximizing the shareholders' welfare is a general problem exists in all firms, organization, cooperative, mutual companies, universities, and at every level of management. The existence of this problem leads to the creations of agency cost, one of this cost relating to reducing and mitigating the conflict of interest between agents and principals called monitoring cost. Monitoring cost established by shareholders to limit and reduce the aberrant activities of the agent, these cost paid by shareholders according to the proportion of holding in the firm's and gives them the right to monitor the conduct of managers to achieve their interest (Jensen & Meckling, 1976). This means if a shareholder owns a high proportion of the share in the company (majority shareholders) they have more incentive to monitor and control the management and have significant influence over the direction of the company, and thus reduce the agency problem (Shleifer & Vishny, 1997), but when the shareholders own only a small stake (minority shareholders) would not have enough incentive to monitor management to ensure if they are acting in their interest or not. The large ownership of a specific person or entity in the company creates a greater incentive for monitoring, and also allows the large shareholder to review the company's procedures in detail. With the presence of such a shareholder, the company's performance will likely continue to develop and improve its financial position.
The MENA region is an ideal environment for conducting this study. According to Al-Bassam et al., (2015), Habbash et al., (2016), MENA countries have common characteristics in many cultural aspects such as speaking Arabic and following the Islamic religion, where Islamic religion often influences to economic transactions in companies, legal and political matters, it is also distinguished by customs and traditions that are different from those prevalent in developed countries in terms of the nature of commitment and preservation, which affect the practices of companies and the economic environment in the region. MENA countries are faced gaps in corporate governance systems compared to those of its developed counterparts, where the largest companies and institutions in the state are family-owned and government-owned companies, and that dominates the labor market and consumption of production in most industrial areas (Ghassan Omet, 2005). According to Rizvi and Masih (2014), highlighted that the ownership structures as one of the corporate governance mechanisms in emerging countries are still in their initial inefficient stages and have not developed in a similar way in developed countries to meet international standards. The slowdown in the implementation of corporate governance rules in emerging countries, including MENA countries, is due to their dependence on internal capital sources of finance (current shareholders) family, and government. Large firms do not expect any external sources to finance capital requirements or for expansion and growth (Rizvi & Masih, 2014).
As a result of the motives mentioned above and in response to the agency’s problem, this study attempts to answer the basic question of What is the impact of the largest shareholder’s ownership on firm financial performance in the listed companies in MENA countries? Through answers to this question, this study will contribute to the
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literature in several ways. First, providing new empirical evidence on the impact of large shareholders on the financial performance of listed companies in the MENA countries as an emerging market, after being studied largely in the developed countries, especially after the adoption of these countries privatization program and open the gate to investment for foreign investors. Second. This study will help to test the agency theory predictions in the context of emerging markets trends by relying on financial indicators ROA, ROE and MTBR as a measurement for the firm's financial performance
2. Literature Review and Hypotheses Development
This section presents a literature review of the effect large shareholders ownership on the firm's financial performance. Where the largest shareholders provide the company with a range of benefits that affect its performance and value and it has an incentive power to reasonable business control, reducing transaction costs, and signature better contracts with stakeholders.
Isik and Soykan (2013) used 164 non-financial firms listed on the Istanbul Stock Exchange between 2003 and 2010, They asserted that there is a significantly positive relationship between the existence of the large shareholders in the company and its financial performance and that the presence of a large shareholder leads to improve and develop the company's financial performance because its presence prevents managers from making serious decisions such as writing checks more than usual. Their study results also supported the presence of a large shareholder in the company rather than being dispersed among a large number of shareholders because the good financial performance of large companies benefits the state economy better. After all, these companies pay taxes on time and employ a larger number of employees, and able to get foreign currency to the state and bring foreign investment. Soliman (2013), confirmed that there is a positive relationship between high large shareholders and firms listed in Saudi Stock Exchange financial performance, where the existence of large shareholders leads to improve financial performance and increase control over the management.
To measure the link between concentrated ownership and firm financial performance (ROA and ROE ) Abbas et al (2013) used a sample from 100 manufacturing firms listed on Karachi Stock Exchange. They used OLS regression to analysis this relationship and the result has shown a positive significant relationship between the largest shareholders and ROA, ROE. This result may due that the large shareholders is an important part of Pakistani listed firms and a half or more of the half of the registered shares of the Pakistani firms are held by large owners, also may be the result of efficient monitory by large ownership. Kang and Anderson (2017) based on data on Korean Stock Exchange, controlling shareholders are expected to first, increase the value of firms in which there are invested a relatively large amount of capital, and controlling shareholders has great explanatory power for firm value. Second, they found evidence majority shareholders contribute to the effective solution of the agency problem between controlling shareholders and management. By using panel data from more than 2100 France firms Ducassy and Guyot (2017) conduct a study to investigate whether the controlling shareholders affect firms' financial performance. The study covers 10 years, the findings show that a majority shareholder has a positive effect on a firm's performance, they also pointed out that a homogeneity among the large shareholders leads to mitigate of the agency's problem of both types principal/agent and principal/principle problem.
On another hand, La Porta at el.,(2000) argued that dominant shareholders could expropriate and allocate minority shareholders' funds and interests to achieve their own non-directed interests to improve financial performance and develop the company. Khamis., (2015) investigates the relationship between the largest shareholders and firm value in Bahrain Boursa. The study uses 42 firms listed during the period 2007-2011. Largest shareholders were measured as the percentage of shares owned by the largest shareholders, and the result showed a negative significant relationship between the largest shareholders and ROA, Tobin's Q. This is may due to controlling shareholders seek to achieve and protect their own interests at the expense of the company's interest and minority shareholders' interest. Laeven and Levine (2008) use data on 1657 firms across 13 countries in Western Europe (Austria, Belgium, Finland, France, Germany, Ireland, Italy, Norway, Portugal, Spain, Sweden, Switzerland, and the United Kingdom) in 2002, report that the largest shareholders are negatively related with firm value.
Marrakchi Chtourou., (2001) they emphasized that ownership concentration is a fundamental cause of conflict of interest between owners and managers and is increasing to become between majority shareholders and minority shareholders, especially in cases where controlling shareholders take over management roles on the board of directors Djankov at el., (2008) pointed out that majority shareholders have the ability to expropriate the Company's
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resources and minority shareholders' rights to parties outside the Company that related to their own interests that do not conform to the Company's main objectives and interests of minority shareholders. Claessens at el., (2002), La Porta at el., (2002) provided evidence that the concentrated ownership over most countries outside the United States increases the risk of expropriation of minority shareholders' rights and the creation of a principal-agent agency problem. They also noted that controlling shareholders have the power and incentive to influence the decision- makers or make a decision to conceal or divert profits for their own benefit, especially when the participation between the controlling shareholders and the minority shareholders is negligible or almost non-existent. Thus, created a negative relationship between the financial performance of the company and the major shareholders
As evidenced by discussions of previous studies. Most of these studies report that the largest (controlling) shareholder has a positive impact on the financial performance of the company. The MENA corporate sector is categorized as having a high level of ownership concentration in the hand of significant large shareholders. Farooq (2015) indicates that specific individuals control MENA countries companies, and the largest shareholders hold more than a half (60) percent of all listed companies in this region, this is a good indication that the high percentage of holding gives the large shareholders the power and right to control and monitor over the company activities.
Therefore, this study proposes the following hypotheses:
H1: Largest shareholder is positively related to the Firm financial performance 3. Methodology
3.1. Research Philosophy
Inconsistent with this study objective and question, the quantitative paradigm is appropriate for doing this research. The purpose of this study is descriptive and explanatory to test the relationship between the largest shareholders, other control variables, and their effect on the firm's financial performance. SPSS program was typically applied for data statistical analysis.
3.2. Sample and Data Collection
This study uses a unique set of financial data from all non-financial listed firms for the period 2018, from nine MENA countries stock markets namely, Bahrain Bourse (Bahrain), Kuwait Stock Exchange (Kuwait), Muscat Securities Market (Oman), Qatar Stock Exchange (Qatar), Saudi Stock Exchange or Tadawul (Saudi Arabia), Abu Dhabi Securities Exchange, (United Arab Emirates), Amman Stock Exchange (Jordan), Egyptian Exchange (Egypt) and Casablanca-Bourse (Morocco). the data is gathered from different sources, namely, DataStream, Eikon, and annual financial reports. This sample was selected from nine MENA countries based on several reasons. First, data availability in the DataStream and Eikon database, where many markets in the region suffer from lack of reporting or do not have a database such as Syria and Yemen. Second, a sample was selected that could be generalized the result to MENA countries, through its ability to reflect financial diversity such as the GCC countries, where Saudi Arabia, the UAE, and Qatar enjoy the largest global companies producing and exporting oil and net capital, and the ability to reflect the uniqueness of ownership structures such as Jordan, and Egypt, where the diversity of firms- owned in terms of religion and caste.
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Table 3.1 Sample of Firms from MENA Countries in 2018 MENA countries Total firms listed Number of non-financial firms in the sample selected
(Observation)
Saudi Arabia 179 62
UAE 71 32
Kuwait 175 33
Qatar 46 18
Oman 117 27
Bahrain 44 15
Jordan 193 68
Morocco 75 36
Egypt 269 70
Total 1169 361
3.3. Variables
Return on Assets ROA and Return on Equity ROE are used as accounting-based performance and MTBR as market-based performance to measure firms' financial performance. The large shareholder is measured as the percentage of shares holding by the largest shareholder (LARGEST). Some control variables are included, financial leverage assesses the potential control that creditors may impose to reduce agency cost (King & Santor, 2007), (LEVERAGE) is measured by total debt scaled by total assets. Firm age (AGE) is measured as the natural logarithm of the number of years since the firm's foundation and firm size (SIZE) is the natural logarithm of total assets.
Table 3.1. Summary of Variables Used
Constructs Variable Notation Measurement
DEPENDENT VARIABLES
Firm performance
Return on Assets ROA The ratio of net operating profit after tax to total assets Return on Equity ROE The ratio of net operating profit after tax to total shareholder
equity
Market to Book Ratio MBR the ratio of the market value of equity divided by the book value of equity
INDEPENDENT VARIABLES
Largest shareholders Largest shareholders LARGEST The percentage of shares holding by the largest shareholder CONTROL VARIABLES
Leverage LEVERAGE Ratio total debt to total asset
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Control variable Firm size SIZE Natural logarithm of total asset
Firm age AGE Natural logarithm of the number of the year since the firm
foundation
3.4 Conceptual Framework
The figure below illustrates the relationship of variables of each other, where it assumed the large shareholders as independent variables, while the dependent variable is firm performance as measured by ROA, ROE, and MBR.
Leverage, firm size and firm age are used as control variables.
Fig 3.1 Conceptual Framework of the Study 3.5 Model Specification
Ordinary Least Square (OLS) regression is to examine the effect of large shareholder’s ownership and other control variables on firm financial performance using the below empirical models.
Where
FP: ROA, ROE, and MTBR. LARGEST: Large shareholder’s ownership. SIZE: firm size. AGE: firm age. LEV:
firm leverage.
4. Result and Discussion Descriptive Statistic
The sample descriptive statistic is summarized in Table 4.1 below.
Largest Shareholders Ownership
Firm Financial Performance ROA, ROE, MTBR
Leverage Size Age
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Table 4.1 Descriptive Statistic
Table 4.1 below shown the mean, median, and standard deviation values for each variable. Where the mean for the large shareholder's ownership as independent variables is 4.09 with the standard deviation of 14.28.
4.1 Correlation Analysis
Table 4.2 Correlation Analysis
LSH% ROA ROE MTBR firm age firm size leverage
LSH% 1
ROA 0.283981 1
ROE 0.258725 0.873624 1
MTBR 0.05002 0.186536 0.191938 1
firm age -0.15739 -0.02066 0.021234 0.024514 1
firm size -0.2481 -0.07647 -0.08628 -0.02409 -0.03087 1
leverage -0.00474 0.227563 0.199105 -0.05474 -0.10978 0.284698 1
Table 4.2 above shows that the largest shareholders ownership as an independent variable has a significant relationship with ROA and ROE as accounting performance measure with a correlation value = (.283), (.258) respectively. Also, this study finds that the largest shareholders ownership has a positive significant relationship with MTBR as a market performance measure with a correlation value = .05. Isik and Soykan (2013), Soliman (2013), Abbas et al., (2013), Kang et al., (2017), Ducassy and Guyot (2017), found similar finding in their study., where which concludes that the existence of large shareholders will enhance and improving firms’ financial performance. In contrast and consistent with the negative effect Khamis et al.,(2015), Djankov et al., (2008), found the existence and increase of large shareholders within the firm, the firm performance decrease, and falls. This result may due to the presence of large shareholders in the firms leads to mitigate of the agency problem between shareholders and managers. Also, large shareholders have strong power and control over other shareholders and managers, therefore effect on firms' financial performance.
LSH% ROA ROE MTBR Age Size Leverage
Mean 4.095315924 10.74645258 16.33646796 2.683892614 35.48328267 4.771896657 14.36844073 Standard
Error 0.787313429 1.13923332 1.590465491 0.306919565 1.117877152 0.131493021 0.908283236
Median 0.4181 6.56 10.05 1.27 31 4.6 7.57
Mode 0.51 5.12 -2.83 1.15 21 4.6 0.73
Stad. Dev 14.28057216 20.66382084 28.8484311 5.567016687 20.27645502 2.385067377 16.47476573 Variance 203.9347411 426.9934917 832.2319768 30.9916748 411.1346282 5.688546392 271.4179057 Skewness 4.510654937 8.71273065 7.425326376 7.167722194 1.561322476 6.828966032 1.599569274
Minimum 0.0004 -5.69 -18.6 -1.1 1 0.14 0.01
Maximum 99.13 283.43 388 64 147 35.85 77.86
Observation 329 329 329 329 329 329 329
Largest(2) 90.69 164.61 126.13 50.5 135 9.88 73.65
Smallest(2) 0.0025 -5.26 -12.03 -0.54 2 1.07 0.03
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Table 4.3 Summary of Correlation Analysis Finding
Variable Result
Largest shareholders ownership Positive significant relationship with ROA Largest shareholders ownership Positive significant relationship with ROE Largest shareholders ownership Positive significant relationship with MTBR Largest shareholders ownership Negative significant relationship with Firm Age Largest shareholders ownership Negative significant relationship with Firm Size Largest shareholders ownership Negative significant relationship with Leverage 5. Summary and Conclusion
This study investigates whether the large shareholder's ownership influences the firm's financial performance during the year 2018 in the non-financial firms listed in the MENA countries. The firm performance used in this study is ROA, ROE, and MTBR, while the control variables used are firm size, firm age, and leverage. This study shows that large shareholders ownership has a positive significant impact on ROA, ROE, and MTBR, but it is a negative significant impact on firm size, age, and leverage. This result may due to the existence of large shareholders leads to mitigate of the agency's problem of both types of principal/agent and principal/principle problem. The presence of controlling shareholders is sufficient and higher power and control to effect on financial performance, and the concentration of ownership in the hands of a large shareholder allows greater convergence of interests to maximize the firm's value, thereby confirming the agency theory forecasts.
This study facing several limitations such as the study only covers the non-financial sector in MENA countries only for one year. Therefore, further researchers are encouraged to conduct research that covers other sectors and countries for more than one year.
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