Ownership structure and Firm performance: evidence from GCC countries - Essay Example

This research aims to establish whether ownership structure has any impact on firm performance in Gulf Corporation Council (GCC) countries. The data that is utilized in this study includes 366 non-financial listed firms during the period of 2006-2011. Panel data is used to analyse the impact of ownership structure on firm performance. Ordinary least square (OLS) with fixed effects panel models are employed. The analysis is done using two measures of performance including return on assets (ROA) and Tobin’s Q.

The impact of firm specific variables such as leverage, GDP growth and firm size, as well as corporate governance variables such as board size, number of executive directors on the board and number of independent directors on the board are controlled for. The different types of ownership structure that are included in the study are: managerial ownership, family ownership, government ownership, institution ownership, foreign ownership and concentrated ownership. Our findings show that when the Tobin’s Q is used as a measure of performance, the evidence shows that some of the ownership structure variables have a positive impact on firm performance.

For example, managerial ownership, Chairman own share, institutional investors, corporate total own, institutional owner domestic and corporate foreign all have positive effects on firm performance. On the contrary, When Return on Assets (ROA) is used as a measure of performance; the evidence shows that government ownership has negative effects on firm performance in GCC countries.In the last 4 decades, researchers have believed that there is a connection between the firm performance and the ownership structure.

In this regards, there has been publications of many studies on different markets to inspect this relationship. This connection between performance and ownership structure dates back to empirical study of Mean and Berle in the year 1932 that got that the weakness of shareholding in a negative way influence the performance of a firm via an inverse relationship. Generally, the number of well developed policies and the present legal systems are poorly developed in the markets that are emerging.

These new markets, according to most analysis studies, lack protection for their creditors and shareholders (La Porta, 1998). 1. Introduction1.1 Background and Problem StatementThe issue as to whether ownership structure matters for the performance of firms has been an important subject of debate in the finance literature. Empirical evidence suggests that privately held firms tend to be more efficient and more profitable than publicly held firms. This shows that ownership structure matters. The question now is how does it affect firm performance?

This question is very important because it is based on a research agenda that has been strongly promoted by La Porta et al. (1998; 1999; 2000). According to these studies, failure of the legislative framework to provide sufficient protection for external investors, entrepreneurs and founding investors of a company tend will maintain large positions in their firms thus resulting in a concentrated ownership structure. This finding is interesting because it implies that ownership structure can affect the performance of the firm in one way or the other.

It is indisputable; the lack of regulations in corporate governance gives managers who intend to mishandle the flow of cash for their own personal interest a low control level. The empirical results from the past studies of impacts of ownership structure on performance of corporate have been inconclusive and mixed up (Turki, 2012).This paper aims at looking at whether ownership structure has an impact on firm performance in Gulf Corporation Council (GCC) countries. This region has witnessed significant economic growth over the last few decades.

The region is also facing turbulent times with respect to corporate governance practices, resulting in poor firm performance. Corporate governance issues are not limited to the Gulf region. From a global point of view, corporate governance has witnessed significant transformations over the last decade (Gomez and Korine, 2005). As a result, there has been an interest in the research attention accorded to corporate governance. The credibility of current corporate governance structures has come under scrutiny owing to recent corporate failures and low corporate performance across the world.

In response to corporate governance issues and their impact on corporate performance, Shleifer and Vishny (1997); and Jensen (2000) have suggested the need for improved corporate governance structures so as to enhance transparency, accountability and responsibility. Corporate governance reform and the introduction of innovative methods to limit abuse of power by top management have been justified by recent large scale accounting and corporate failures such as Enron, HealthSouth, Tyco International, Adelphia, Global Crossing, WorldCom, Cendant and the recent global financial crisis.

According to Monks and Minow (1996) numerous corporate failures suggest that existing corporate governance structures are not working effectively. Corporate failures and accounting scandals initially appear to a U.S phenomenon, resulting from excessive greed by investors, overheated equity markets, and a winner-take-all mindset of the U.S society. However, the last decade has shown that irregularities in accounting, managerial greed, abuse of power, are global phenomenon that cannot be limited to the U.S. Many non-U.

S firms such as Parmalat, Addecco, TV Atzeca, Hollinger, Royal Dutch Shell, Vivendi, China Aviation, Barings Bank, etc. have witnessed failures in corporate governance and other forms of corporate mishaps. In addition to corporate governance failures, global standards have declined significantly and unethical and questionable practices have become widely accepted. The net impact has been a reduction in the amount of faith that investors and shareholders have in the efficiency of capital markets.

There is no universally accepted corporate governance model that the interest of shareholders and investors are adequately protected as well as ensuring that enough shareholder wealth is being created (Donaldson and Davis, 2001; Huse, 1995; Frentrop, 2003).Much of the debate on corporate governance has focused on understanding whether the Board of Directors has enough power to ensure that top management is making the right decision. The traditional corporate governance framework often ignores the unique effect that the owners of the firm can have on the board and thus the firm’s top management.

The traditional framework therefore ignores that fact that the owners of the firm can influence the board and thus top management to act of make particular decisions. Corporate governance studies are therefore yet to identify and deal with the complexities that are inherent in corporate governance processes (Jensen, 2000; Shleifer, 2001; Frentrop, 2003; Donaldson and Davis, 2001; Huse, 1995). Investment choices and owner preferences are affected among other things by the extent their degree of risk aversion.

Owners who have economic relations with the firm will be interested in protecting their interests even if it is reasonably evident that such protection will result in poor performance. According to Thomsen and Pedersen (1997) banks that play a dual role as owners and lenders would discourage high risk projects with great profit potential because such projects may hinder the firm from meeting its financial obligations if the project fails to realise its expected cash flows. The government also plays a dual role in that it serves as both an owner and a regulator.

Therefore owners who play a dual role in the firm often face a trade-off between promoting the creation of shareholder value and meeting their other specific objectives (Hill and Jones, 1992).Existing corporate governance frameworks have often ignored these issues. Rather, much of the emphasis has been on the effectiveness of the board in ensuring that top management is working towards meeting the goals of shareholders. Present corporate governance frameworks lack the ability to monitor owners and their influence on top management.

The framework lacks the ability to align the role played by firm owners, board of directors and managers’ interests and actions with the creation of shareholder value and welfare motivation of stakeholders. The risk aversion of the firm can be directly affected by the ownership structure in place. Agency problems occur as a result of divergence in interests between principals (owners) and agents (managers) (Leech and Leahy, 1991). The board of directors is thereby regarded as an intermediary between managers and owners.

The board of directors plays four important roles in the firm. These include monitoring, stewardship, monitoring and reporting. The board of directors monitors and controls the discretion of top management. The board of directors influences managerial discretion in two ways: internal influences which are imposed by the board and external influences which relate to the role played by the market in monitoring and sanctioning managers (Jensen and Meckling, 1976; 2000). GCC countries remain major global economic players because they have the highest oil reserves.

The region accounts for over 40% of global oil reserves and remains important in supplying the global economy with oil in future. As a result, investment spending on oil exploration and development of new oil fields is on the rise (Sturm et al., 2008). Global oil demand is currently on the rise. This growth is driven mainly by emerging market economies, as well as the oil producing Gulf countries themselves. In addition, Europe and the U.S are witnessing depletions in their oil reserves. This means that these regions will become increasingly dependent on the Gulf region for the supply of oil (Sturm et al., 2008). The importance of the Gulf region as a global economic player is therefore expected to increase dramatically in the near future.

The Gulf region has witnessed a tremendous increase in trade over the recent decade. This increase in trade has been driven by rising oil prices with significant differences in oil exports and imports. The region is a net exporter of oil which means that rising oil prices has remained very important for the regions economic prosperity. The Gulf regions main exports consist of oil and oil derivatives while imports consists mainly of machinery and mechanical appliances, vehicles, electrical machinery, equipment and parts.

The Gulf regions main trading partner is the EU. Most imports to the Gulf region are from the EU. However, the Gulf regions export destinations are more diverse and include mainly Japan and emerging Asia (Sturm et al., 2008).Significant investments have been made by the Gulf member countries to establish themselves as a regional trade hub. All Gulf member countries are also members of the World Trade Organization (WTO). In addition, there are ongoing negotiations to establish free trade agreements with other regions and countries such as the EU.

These factors will contribute positively to the regions integration into the global economy. Gulf countries are currently working towards diversifying their economies from the oil sector into other sectors. This diversification is expected not only to increase trade among member countries but also to increase the regions trade with other countries and regions (Sturm et al., 2008).Despite its future economic prospects, the Gulf region continues to suffer from corporate governance issues. The development of corporate governance in the region has largely been influenced by religion (Gellis et al., 2002). The rules governing the practice of corporate governance have been significantly influenced by Islamic Sharia.

This reflects the cultural and religious characteristic of the region (Islam and Hussain, 2003). Islamic Sharia specifies a number of core values such as trust, integrity, honesty and justice which are similar to the core values of corporate governance codes in the West. However, a survey of corporate governance in a number of Gulf countries such as Saudi Arabia suggests that the region continues to suffer from corporate governance weaknesses. For example, there is insufficient pre-AGM communication.

In addition, controlling shareholders tend to exhibit a lot of power over non-controlling shareholders and there is often insufficient disclosure of related party transactions (OECD, 2011). Firms in GCC countries are still quite immature. Most businesses are controlled by a few shareholders and family ownership is prevalent. Most large and small businesses are family businesses (Saidi, 2004). The state is also significantly involved in the management of companies (Union of Arab Banks, 2003).This is contrary to the status quo in Western democracies where firms are owned by a diverse group of shareholders which makes ownership to be completely separated from control.

The ownership structure in GCC countries suggests that stewardship and monitoring aspects of non-executive directors (NEDs) is absent in firms based in GCC countries. Ownership concentration has remained high in the region because of practices such as rights issues which enable existing wealthy shareholders, and influential families to subscribe to new shares in Initial Public Offerings (IPOs) (Musa, 2002).According to a study of the corporate governance practices of five countries by the Union of Arab Banks (2003), ownership of corporations is concentrated in the hands of families.

In addition, corporate boards are dominated by controlling shareholders, their relatives and friends (Union of Arab Banks, 2003). There is a no clear separation between control and ownership. Decision making is dominated by shareholders. The number of independent directors in the board is very small and the functions of the CEO and Chairman are carried out by the same person. The high concentration in firm ownership therefore undermines the principles of good corporate governance that are prevalent in western settings (Yasin and Shehab, 2004).

This evidence is consistent with findings by the World Bank (2003) in an investigation of corporate governance practices in the Middle East North Africa (MENA) region which also includes the Gulf region.1.2 Objective of the StudyThe empirical evidence on the impact of ownership structure on firm performance is mixed. Different studies have made use of different samples to arrive at different, contradictory and sometimes difficult to compare conclusions. The literature suggests that there are two main ownership structures in firm including dispersed ownership and concentrated ownership.

With respect to concentrated ownership, most of the empirical evidence suggests that concentrated ownership negatively affects performance (e.g., Johnson et al., 2000; Gugler and Weigand, 2003; Grosfeld, 2006; Holmstrom and Tirole, 1993). Different studies have also focused on how specifically concentrated ownership structures affect firm performance. For example, with respect to government ownership, Jefferson (1998), Stiglitz (1996), and Sun et al. (2002) provide theoretical arguments that government ownership is likely to positively affect firm performance because government ownership can facilitate the resolution of issues regarding the ambiguous property rights.

However, Xu and Wang (1999) and Sun and Tong (2003) provide empirical evidence that government ownership has a negative impact on firm performance. On the contrary, Sun et al. (2002) provide empirical evidence that government ownership has a positive impact on firm performance. It has also been argued that the relationship between government ownership and firm performance is non-linear. Another commonly investigated ownership type and its impact on firm performance is family ownership. Anderson and Reeb (2003), Villanonga and Amit (2006), Maury (2006), Barontini and Caprio (2006), and Pindado et al. (2008) suggest that there is a positive link between family ownership and firm performance.

Despite the positive impact some studies argue that the impact of family ownership is negative (e.g. DeAngelo and DeAngelo, 2000; Fan and Wong, 2002; Schulze et al., 2001; Demsetz, 1983; Fama and Jensen, 1983; Shleifer and Vishny, 1997). The impact of foreign ownership has also been investigated. Most of the evidence suggests that foreign ownership has a positive impact on firm performance (e.g., Arnold and Javorcik, 2005; Petkova, 2008; Girma, 2005; Girma and Georg, 2006; Girma et al., 2007; Chari et al.

, 2011; Mattes, 2008).With respect to managerial ownership, it has been argued that the relationship is likely to be positive (Jensen and Meckling, 1976; Chen et al., 2005; Drobetz et al., 2005). Despite this suggestion Demsetz and Lehn (1985) observe a negative relationship between dispersed ownership and firm performance. Institutional ownership has also been found to have a positive impact on firm performance (e.g. McConnell and Servaes, 1990; Han and Suk, 1998; Tsai and Gu, 2007). Furthermore, some studies suggest that there is no link between insider ownership and performance (e.g., Davies et al.

, 2005; Himmelberg et al., 1999). Very limited studies have been conducted on the impact of ownership structure on firm performance in GCC countries. For example, Arouri et al. (2013) provide evidence that bank performance is affected by family ownership, foreign ownership and institutional ownership and that there is no significant impact of government ownership on bank performance. Zeitun and Al-Kawari (2012) observe a significant positive impact of government ownership on firm performance in the Gulf region.

The pervasive endogeneity of ownership has been cited as a potential reason why it is difficult to disentangle the relationship between ownership structure and firm performance. In addition, the relation may be a function of the type of firm as well as the period of observation in the life of the firm. This study is motivated by the mixed results obtained in previous studies and the limited number of studies that have focused on GCC countries. The objective of the study is to explore in more details the factors that motivate particular types of ownership structure and the potential impact of ownership structure and firm performance in the Gulf region.

The study will be conducted by making use of a panel of firms in GCC countries. The study will aim at meeting the following specific objectives:1. Understand the factors that determine ownership structure;2. Determine how different types of ownership structures affect firm performance;3. Provide recommendations for corporate governance structures to use for different ownership structures.1.3 Research QuestionsThe study will provide answers to the following questions:1. What are the factors that determine different ownership structures in GCC countries?2. How is firm performance affected by ownership structure in GCC countries?3. What is the size and magnitude of the impact of each type of ownership structure on firm performance?1.4 LimitationsThe study is limited only to GCC countries.

This means that the results cannot be generalised to other countries taking into account structural differences in the economies of other countries from those of GCC countries. Availability of ownership information is another major limitations, this information is not readily available and not contained.Chapter 2: Literature ReviewThis chapter provides a review of the literature on the link between firm performance and ownership structure. The chapter is divided into two sections. The first section covers the theories related to ownership structure and firm performance, which are corporate governance theory and transaction cost theory (TCT).

The second section focuses on a review of empirical literature on ownership structure and firm performance.2.1 Theoretical Framework2.1.1 Transaction Cost TheoryThe objective of transaction cost theory (TCT) is to determine the governance mechanisms of various exchange transactions so as to maximise the economies for a given organisation (Williamson, 1991). Agency theory has been widely used as the basis for studying the relationship between ownership structure and performance. However, agency theory has been found to be inconclusive (Saravia and Chen, 2008).

Consequently, there has been a shift in focus to TCT. TCT provides a basis for understanding corporate governance because it provides researchers with a more robust framework for analysing contracting issues that often occur between shareholders and managers (Saravia and Chen, 2008). Empirical evidence suggests that TCT can help in the analysis of corporate governance and corporate finance issues (Williamson, 1988; 1996). TCT comprises of three key dimensions. These include asset specificity, uncertainty, and frequency.

Asset specificity is regarded as the most important dimension although the other two dimensions also play critical roles (Williamson, 1991). TCT has an effect on the ownership structure that a firm adopts. This implies that the theory can be used to explain the performance on firms. Williamson (1996) suggests that the analysis of corporate governance is concerned with the identification, explanation and mitigation of all forms of hazards and that firm and markets provide alternatives means to govern the firm.

Transaction cost theory calls for both formal and informal corporate governance mechanisms. Corporate governance in the context of TCT is therefore not concerned with the protection of the rights of shareholders. It focuses rather on the effective and efficient execution of transactions by the firm taking into account the cultural and political context of the firm (Williamson, 1996).2.1.2 Corporate Governance TheoryThe principal-agent model is one of the major foundations of corporate governance theory.

According to Williamson’s (1963) “expense-preference” model, managers have two ways in which they can spend discretionary: i) emoluments and (ii) staff expenses. Emoluments include perquisite discretionary profits, which include expenses on staff expansion, physical plant, and equipment. Given that the principal (shareholder) aims at making profit while the agent (manager) aims at making emolument and discretionary profits, conflicts of interest exist between shareholders and managers. The maximisation of emoluments and profit would be aligned if more emoluments result in better management decisions.

However, the management is likely to have a greater preference for emoluments and staff expenses, which mean that the utility maximisation of management preference may be in conflict with the profit maximisation preference of shareholders (Williamson, 1963). Utility maximising management will always incur more expenses on staff than on plant and equipment. This occurs because shareholders find it difficult to monitor the activities of managers. According to the economic principal-agent model, organisations can be regarded as nexus for contracts.

According to Jensen and Meckling (1976), the principal-agent model can be considered as a relationship established by the principal with adequate incentives to motivate the agent to work in the best interest of the principal. However, given that the principal and the agent have different interests and different access to information, the principal often finds it difficult to adequately monitor and evaluate the behaviour of the agent. An economic principal-agent model is therefore about the ability of the principal to design compensation schemes that can motivate the agent to avoid indulging in opportunistic behaviour that will result in losses to the principal.

Assuming rational expectations and self-interested behaviour, Barnea et al. (1981) provide a discussion of three roots of agency problems which include information asymmetry, debt financing, and partial ownership.Information asymmetry arises as a result of market imperfections. As a result, the agent tends to have more information than the principal. This information asymmetry makes it difficult for the principal to adequately monitor and evaluate the behaviour of the agent. With respect to information asymmetry, therefore, managers often take advantage of the fact that shareholders cannot adequately observe that behaviour and as such tend to maximise their personal interests rather than the interests of shareholders.

With respect to debt financing, equity shareholders have limited liability. As a result, equity holders are likely to undertake high risk projects which will result in the transfer of wealth from debtholders to shareholders if the projects are successful. However, the shareholder will just walk away because of limited liability if the projects are unsuccessful. Therefore, there are conflicts of interest between shareholders and debtholders. Shareholders use their advantage of limited liability to maximise their personal interest of profit maximisation while increasing the financial risk faced by debtholders (Myers 1977).

Partial ownership occurs when the majority shareholders manage the business on a day-to-day business while minority shareholders have no control of the business. Under this circumstance, the majority shareholders may decide to pursue non-pecuniary benefits that may be in conflict with the interests of non-controlling or outside shareholders. There are, therefore, two types of conflicts of interests including conflicts of interest between the principal and the agent arising as a result of information asymmetry and conflicts of interest between principals.

The latter two roots of agency costs give rise to conflict of interests between principals. In the second case, the conflict of interest is between shareholders and debt-holders. This conflict of interest arises mainly because shareholders enjoy limited liability. The debt-holder earns fixed interest on the principal amount that has been borrowed to the firm irrespective of the amount of profit that the firm makes. On the contrary, the shareholder’s profit potential is unlimited. The shareholder is therefore motivated to take high risks that will enable him to make much profit.

Taking such risk can cause the company to collapse. In the event of collapse, limited liability enables the shareholder to walk away from the firm leaving the debt-holder to incur all the losses that the firm has incurred. In the third case, one of the shareholder groups is in control of the organisation while the other group has no control over the organisation. In this case, the controlling shareholder group can undertake actions that are in line with maximising its private benefits at the expense of the non-controlling shareholder group.

There are three main agency problems, which call for adequate corporate governance frameworks. These include adverse selection, hold-up and moral hazard. Adverse selection is “an activity undertaken by a firm or individual that conveys information of a negative (or adverse) kind about their product or service” (Moles and Terry, 2012). Adverse selection is the result of information asymmetry (Black et al., 2013). It results in market failure which occurs as a result of difficulties in establishing contracts.

Hold-up occurs when investors become concerned that future profits might be expropriated by managers. This leads to a reduction in the amount of investment investors are willing to make in the firm (Maher and Andersson, 1999). Moral hazard is a “situation in which a person or organisation has no incentive to act honestly or with due prudence” (Law, 2009). Jensen (2000) argues that different forms of corporate control influence firms. One of these forms is the ownership characteristic or structure.

This internal control mechanism can influence the objectives of the firm, the level of discipline of managers and thus the value to shareholders. Agency theory therefore contends that in firms with high ownership concentration, shareholders with control over the operations of the firm are likely to carry out activities that destroy the value of non-controlling shareholders (Francis et al., 2005; Miller et al., 2007; La Porta et al., 1999). Shareholders with control over the firm’s operations are therefore more likely to maximise their personal interests in firms with a greater concentration of voting rights.

Under such circumstances, ownership structure is expected to have a negative effect on the performance of the company.This trend may be exacerbated in the case of family firms because those benefits remain in the controlling family, whereas in non-family firms, they are distributed among a large number of shareholders (Villanonga and Amit, 2006).Agency problems exist between large and small shareholders in firms with high ownership concentration. Controlling and non-controlling shareholders also have conflicts of interests in firms with high ownership concentration (Francis et al.

, 2005; La Porta et al., 1999; Miller et al., 2007). When large shareholders control firms, their policies may lead to the expropriation of non-controlling shareholders. The conflict of interest between large and small shareholders can be numerous, including controlling shareholders enriching themselves by not paying out dividends or embarking on other expropriatory practices. Fan et al. (1999) provide evidence that ownership concentration and market valuation have a negative relationship. The next subsection will focus on empirical studies of the impact of ownership structure on firm performance.

The sub-section below will focus how different types of ownership affect firm performance across different countries. 2.2 Empirical EvidenceThe empirical evidence will focus on how different ownership structures affect firm performance. Firms are often characterised by concentrated and dispersed ownership. Concentrated ownership is expected to have a positive impact on firm performance owning to the increased monitoring that it provides (Grosfeld, 2006). Dispersed ownership has been found to be less frequent than expected.

Empirical evidence suggests that most firms are characterised by various forms of ownership concentration (La Porta et al., 1999). Given this high level of ownership concentration, there has been an increasing concern over the protection of the rights of non-controlling shareholders (Johnson et al., 2000; Gugler and Weigand, 2003). Empirical evidence shows that ownership concentration at best results in poor performance. Concentrated ownership is costly and has the potential of promoting the exploitation of non-controlling shareholders by controlling shareholders (Grosfeld, 2006).

Holmstrom and Tirole (1993) argue that concentrated ownership can contribute to poor liquidity, which can in turn negatively affect performance. In addition, high ownership concentration limits the ability of the firm to diversify (Demsetz and Lehn, 1985; Admati et al., 1994). There are various forms of concentrated ownership such as government ownership, family ownership, managerial ownership, institutional ownership and foreign ownership. In the next section, the literature review will focus on how these separate ownership structures affect firm performance. 2.2.

1 Government OwnershipThe impact of government ownership on firm performance has attracted the attention of many researchers because the government accounts for the largest proportion of shares of listed companies in some countries and also because government ownership can be used as an instrument of intervention by the government (Kang and Kim, 2012). Shleifer and Vishny (1997) suggest that government ownership can contribute to poor firm performance because Government Owned enterprises often face political pressure for excessive employment.

In addition, it is often difficult to monitor managers of government owned enterprises and there is often a lack of interest in carrying out business process reengineering (Shleifer and Vishny, 1996; Kang and Kim, 2012). Contrary to Shleifer and Vishny (1997) some economists have argued that government ownership can improve firm performance in less developed and emerging economies in particular. This is because government ownership can facilitate the resolution of issues with respect to ambiguous property rights (Jefferson, 1998; Stiglitz 1996; Sun et al., 2002).The empirical evidence on the impact of state ownership on firm performance is mixed.

For example, Xu and Wang (1999) provide evidence of a negative relationship between state ownership and firm performance based on data for Chinese listed firms over the period 1993-1995. The study, however, fails to find any link between the market-to-book ratio and state ownership (Xu and Wang, 1999). Sun and Tong (2003) employ ownership data from 1994 to 2000 and compares legal person ownership with government ownership. The study provides evidence that government ownership negatively affects firm performance while legal person ownership positively affects firm performance.

This conclusion is based on the market-to-book ratio as the measure of firm performance. However, using return on sales or gross earnings as the measure of firm performance, the study provides evidence that government ownership has no effect on firm performance. Sun et al. (2002) provide contrary evidence from above. Using data over the period 1994-1997, Sun et al. (2002) provide evidence that both legal person ownership and government ownership had a positive effect on firm performance. They explain their results by suggesting that legal person ownership is another form of government ownership.

The above studies treat the relationship between government ownership and firm performance as linear. However it has been argued that the relationship is not linear. The above studies were conducted in response to high ownership of Chinese companies by the state. Government ownership has also been investigated for other countries. For example, Huang and Xiao (2012) provide evidence that government ownership has a negative net effect on performance in transition economies. La Porta et al. (2002) provide evidence across 92 countries that government ownership of banks contributes negatively to bank performance.

The evidence is consistent with Dinc (2005) and Brown and Dinc (2005) who investigate government ownership banks in the U.S. 2.2.2 Family OwnershipFamily ownership is very common in firms that are not listed (Arosa et al., 2010). There is a difference between family ownership and other types of shareholders in that family owners tend to be more interested in the long-term survival of the firm than other types of shareholders. Furthermore, family owners tend to be more concerned about the firms reputation of the firm than other shareholders (Arosa et al., 2010). This is because damage to the firms reputation can also result in damage the familys reputation.

Many studies have investigated the relationship between family ownership and firm performance. They provide evidence of a positive relationship between family ownership and firm performance (e.g. Anderson and Reeb, 2003; Villalonga and Amit, 2006; Maury, 2006; Barontini and Caprio, 2006; Pindado et al., 2008). The positive relationship between family ownership and firm performance can be attributed to a number of factors. For example, Arosa et al. (2010) suggests that family firms long-term goals indicate that this category of firms desire investing over long horizons than other shareholders.

In addition, because there is a significant relationship between the wealth of the family and the value of the family firm, family owners tend to have greater incentives to monitor managers (agents) than other shareholders (Anderson and Reeb, 2003). Furthermore, family owners would be more interested in offering incentives to managers that will make them loyal to the firm (Weber et al., 2003). In addition, there is a substantial long-term presence of families in family firms with strong intentions to preserve the name of the family.

These family members are therefore more likely to forego short-term financial rewards so as to enable future generations take over the business and protect the familys reputation (Wang, 2006). In addition, family ownership has positive economic consequences on the business. There are strong control structures that can motivate family members to communicate effectively with other shareholders and creditors using higher quality financial reporting with the resulting effect being a reduction in the cost of financing the business (Anderson et al., 2003). Furthermore, families are interested in the long-term survival of the firm and family, which reduces the opportunistic behaviour of family members with regard to the distribution of earnings and allocation of management positions (Anderson & Reeb, 2003; Panunzi and Shleifer, 2003).

Despite the positive impact of family ownership on firm performance, it has been argued that family ownership promotes high ownership concentration, which in turn creates corporate governance problems. In addition, high ownership concentration results in other types of costs (Arosa et al., 2010). As earlier mentioned, La Porta et al. (1999) and Vollalonga and Amit (2006) argue that controlling shareholders are likely to undertake activities that will give them gain unfair advantage over non-controlling shareholders.

For example, family firms may be unwilling to pay dividends (DeAngelo and DeAngelo, 2000; Fan and Wong, 2002). Another reason why family ownership can have a negative impact on firm performance is that controlling family shareholders can easily favour their own interests at the expense of non-controlling shareholders by running the company as a family employment service. Under such circumstances, management positions will be limited to family members and extraordinary dividends will be paid to family shareholders (Demsetz, 1983; Fama and Jensen, 1983; Shleifer and Vishny, 1997).

Agency costs may arise because of dividend payments and management entrenchment (DeAngelo and DeAngelo, 2000; Francis et al., 2005). Families may also have their own interests and concerns that may not be in line with the concerns and interests of other investor groups (Shleifer and Vishny, 1997). Schulze et al. (2001) provide a discussion, which suggests that the impact of family ownership on firm performance can be a function of the generation. For example, noting that agency costs often arise as a result of the separation of ownership from control, they argue that first generation family firms tend to have limited agency problems because the management and supervision decisions are made by the same individual.

As such agency costs are reduced because the separation of ownership and control has been completely eliminated. Given that there is no separation of ownership and control in the first generation family firm, the firm relationship between family ownership and performance is likely to be positive (Miller and Le-Breton-Miller, 2006). As the firm enters second and third generations, the family property becomes shared by an increasingly large number of family members with diverse interests. Conflict of interests sets in and the relationship between family ownership and performance starts turning negative (Chrisman et al.

, 2005; Sharma et al., 2007). Furthermore, agency problems arise from family relations because family members with control over the firm’s resources are more likely to be generous to their children and other relatives (Schulze et al., 2001). To summarise, the relationship between family ownership and firm performance may be non-linear. This means that the relationship is likely to be positive and negative at the same time. To support this contention, a number of studies have observed a non-linear relationship between family ownership and firm performance (e.g. Anderson and Reeb, 2003; Maury, 2006).

This means that when ownership is less concentrated, family ownership is likely to have a positive impact on firm performance. As the family ownership concentration increases, minority shareholders tend to be exploited by family owners and thus the impact of family ownership on firm performance tends negative.2.2.3 Institutional OwnershipInstitutional ownership can be regarded as the situation where most of the shares of a firm are owned by another institution. Taylor (1990) observes that US equity held by institutional owners witnessed an increase from 8% in 1950 to 45% in 1990.

Institutional ownership has gained increased importance in equity markets and has also attracted a lot of attention from researchers. Empirical evidence suggests that institutional ownership has a positive impact on firm performance (e.g. McConnell and Servaes, 1990; Han and Suk, 1998; Tsai and Gu, 2007).This positive impact has been attributed to the active monitoring argument. Accordingly, institutional investors have better monitoring techniques than retail investors. Institutional investors are more sophisticated, more professional and better informed than retail investors with respect to the functioning of capital markets, businesses, and industries.

In addition, institutional investors higher capabilities in taking steps to monitor managers in a more effective and cost efficient manner (Hand, 1990). Hartzell and Starks (2003) provide evidence of a negative relationship between managerial compensation and institutional ownership because institutional investors can replace incentive schemes aimed at aligning ‘managerial interests with shareholder interests’ with better monitoring. This ensures that agency problems are mitigated. The findings of Hartzell and Starks (2003) are consistent with earlier evidence provided in Pound (1988); and Hand (1990).

These findings have also been attributed to the ‘institutional myopia argument’, which suggests that institutional owners favour the achievement of short-term performance targets and as such will use their influence to ensure that managers work towards meeting those targets. This in effect indicates that institutional ownership might not necessarily result in long-term positive performance since managers may not be encouraged to pursue projects that can contribute to the long-term success of the business.

This argument is supported by the study by Wahal (1996) who provide evidence that the positive impact of institutional ownership on performance occurs only over short horizons. When longer horizons are taken into account, the impact of institutional ownership appears to be negative. Another argument for the myopic behaviour of institutional investors is that institutional investors tend to be influenced by news regarding current earnings. Given that institutional investors regard the investment in a firm as an investment in one security in their portfolio, institutional investors tend to measure performance over short horizons (Porter, 1992; Coffee, 1991; Badrinath et al., 1989). A “strategic-alignment-conflict-of-interest” argument has also been suggested which suggests that institutional owners tend to focus on providing support to managers rather than monitoring and controlling their behaviour.

This creates an interpersonal business relationship with the managers and benefits, which are higher than the gain that can be derived from effective monitoring. This accounts for the positive though short-term impact of institutional ownership on firm performance (Badrinath et al., 1989).2.2.4 Foreign OwnershipFirms are increasingly owned by foreign companies owing to the recent surge in foreign direct investment (FDI). It is therefore important to look at how foreign ownership can influence firm performance.

A few studies have taken this dimension. For example, Arnold and Javorcik (2005) argue that foreign ownership has a positive impact on firm performance in Indonesia. Petkova (2008) provides similar conclusions based on an analysis of plant level data in India. UK studies by Girma (2005) Girma and Georg (2006) and Girma et al. (2007) provide similar evidence that foreign ownership contributed positively to firm performance. Chari et al. (2011) employ firm-level financial data to evaluate the impact of ownership of U.

S firms by firms from emerging markets during the period 1980-2006. The study provides evidence that U.S firms acquired by emerging market firms witnessed an improvement in profitability during the years following the acquisition. This evidence suggests that foreign ownership of U.S firms by firms from emerging markets contribute positively to performance. Likewise, Mattes (2008) investigated the impact of foreign ownership of German multinational firms and found that foreign ownership has a positive impact on performance. 2.2.

5 Managerial OwnershipWhen a firm has less ownership concentration, it is said to have a dispersed ownership. In the case where no single shareholder or group of shareholders has significant control of the firm, then assuming information asymmetry that arises from market imperfections, managers are likely to indulge in opportunistic behaviour. Dispersed ownership therefore enables managers to have significant control over the firm. Moreover, managers in some cases can own a significant number of the shares of the firm.

This situation enables managers to gain performance incentives. The first studies of the relationship between insider ownership and performance were conducted in the 1970s. During this period, managers where often offered the opportunity to own shares in the firm as a means of aligning their interests with those of shareholders. Jensen and Meckling (1976) for example observe that there is a positive relationship between insider ownership and firm performance. Their study is based on the principal-agent model.

Jensen and Meckling (1976) attribute the positive relationship between insider ownership and firm performance to the fact that managerial ownership enables the interests of managers to be more aligned with those of shareholders. This results in a reduction of agency problems, which in turn improves performance. This study however, fails to take into account the extra cost incurred in incentivising managers by offering them shares in the company. The question still remains as to whether the cost incurred in offering shares to managers are lower than the agency costs incurred to monitor the behaviour of managers.

Furthermore, the alignment of managerial and shareholder interests is used as an argument against ownership concentration. Controlling for firm fixed effects, Himmelberg et al. (1999) fails to find any significant relationship between insider ownership and firm performance for US firms. Similar evidence is presented in Davies et al. (2005) for U.K firms. Lack of evidence of a relationship between insider ownership and firm performance has been attributed to natural selection (Demsetz and Lehn, 1985) and the neutralisation (Eckbo and Smith 1998, Himmelberg et al. 1999) arguments.

The natural selection hypothesis or argument states that investors with irrational expectations will eventually be forced out of the market by those with rational expectations (Gross, 2007). According to the mutual neutralisation hypothesis or argument, while performance impacts of different incentives are relevant, they tend to cancel one another out (Gross, 2007). However, Chen et al. (2005) observe that when firm fixed effects are controlled for insider ownership has a significant positive impact in Japan.

Similarly, Drobetz et al. (2005) in a study of the impact of insider ownership on firm performance among Swiss firms provides evidence that there is a significant positive impact of insider ownership on firm performance. Demsetz and Lehn (1985) however, find a negative relationship between firm performance and dispersed ownership. The evidence is consistent with Fama and Jensen (1983) who observe that dispersed ownership creates a hold-up problem whereby shareholders find it difficult to prevent managers from indulging in opportunistic behaviour even though such behaviour might be apparent.

Morck et al. (1988); and Stulz (1988) refer to the hold-up problem as “managerial entrenchment”, whereby managers are capable of undertaking negative net present value projects because of the low risk of sanctions or takeovers. Morck et al. (1988) observe that the relationship between dispersed ownership is non-linear. There is a positive impact, which arises from the alignment of managerial interests with those of shareholders, and a negative impact, which arises from management entrenchment.

When there is a low level of insider ownership, the positive impact of the alignment of managerial interests with those of shareholders is dominating and the overall impact of dispersed ownership is positive. Where there is a medium level of managerial ownership, the entrenchment effect is dominating and there is a combined negative impact on performance. Finally, when there is a high level of managerial ownership, the incentive alignment impact is higher than the entrenchment effect. This results in a combined positive impact on performance.

Hubbard and Palia (1996); and Short et al. (2002) suggest insider ownership thresholds of between 5% and 25%. 2.2.5.1 CEO and Chairman OwnershipThe “dominant personality” phenomenon is another important aspect to examine the autonomy of the board (Forker 1992; Ho & Wang 2001; Chapra & Ahmed 2002). This issue refers to duality of roles where just one person performs both the roles of chairman and CEO. Separation of the two functions gives the required checks and balances of authority and power on management behaviour.

From the GCC perspective, there is an observable separation of responsibilities at the top leadership of major firms via the separation between the Chairman and CEO, who undertakes two distinct roles. In contrast, the stewardship theory indicates that there is no issue if the two functions are merged. The presence of duality role enables the CEO to manage the responsibilities of the board like agenda discussion and meetings. Role duality as well allows the CEO to control the organization in attaining its objectives and strengthens the leadership in an organization (Ho & Wang 2001).

Forker (1992) indicated that the duality of CEO is associated with a lesser voluntary level of disclosure, and separating the responsibilities of Chairman and CEO could assist strengthen monitoring quality as well as improving the quality of disclosure. The findings are as well supported by Al-Arusi et al. (2009), who established the relationship between the separation of the functions of CEO and Chairman as well as voluntary environmental and financial disclosure by Malaysian companies. In the context of GCC firms, the aspect of role duality is not common within the banking sector, but the potential impact on disclosure is mainly considered to be a vital assessment.

This is based on the fact that a number of companies have a combined function of the CEO and chairman on their boards, and are executing their responsibilities successfully, on top of having the aptitude to keep the top leadership in check (Eisenhardt 1989). The separation or merging of responsibilities of the chairman and CEO has no effect on things such as the disclosure of CSR information by GCC banks, because most of them are family owned. Therefore, coming from the same family does not affect the performance of the responsibilities of CEO and chairman.2.2.5.2 Literature Review on Managerial ManagementThe governance of a Corporate and its effects on the performance of the firm has been vital topic in research in finance of the corporate in the last 4 decades since the economy globalization since it is one of the striking characteristics of the present open market economy.

Thus the GCC government have started to free their capital markets to improve their firms’ performance. Contrary, the capital market liberalization has increased the investors need for disclosed information and transparency. In this light, legalization of corporate government has emerged to be more crucial for investors when they are deciding on investment that is of high quality. Corporate governance is a representation of the CEO duality and the size of board. Past research done on the GCC countries gave a meaningful link between the firm performance and board size.

Consequently, the studies according to Jensen (1993), advocate a few directors on a board to 7 or 8, as numbers above this it will prove difficult for the CEO to control especially considering GCC countries. This can be accounted by the fact that when the board has many members agency problems are likely to rise, due to some directors tagging along as free-riders. Big boards are not as effective as small boards. It is argumentative that big board encourage performance since they got expertise, professional and social network, and valuable experience in business.

Thus, the board size has a vital factor in relation to performance and corporate decisions in GCC countries. Many new markets especially in GCC have shifted from command economy, where the enterprise is owned by the government partially or totally. In this scenario, the managers of these enterprises follow government ministries’ orders. In the process of privatizing the economy, the managers are able to exercise high level of judgement over labour practises, pricing, funding and products. This new trend of privatization, results to modern practises in management, profit improvement, efficient performance etc.

The legal firm owners are diverse and own different shares percentage: they can be governments, managers, individuals or even institutions. In this regard, they are mandated in appointment of the board of directors and managers to aid in monitoring the firm performance. These in the context of GCC are from different countries in the gulf and so their diverse views are essential in ensuring the firm is well performing.2.2.6 Ownership Structure and Firm Performance in GCC CountriesThere is very limited literature on the impact of firm ownership structure on firm performance in Gulf Corporation Council Countries.

For example, Arouri et al. (2013) examine the impact of ownership structure on firm performance in GCC countries. Using a data set of 58 listed banks during the year 2010, the study provides evidence that the bank performance is affected by family ownership, foreign ownership and institutional ownership. The study does not observe any significant impact of government ownership on bank performance. While this study provides insights onto the impact of ownership structure on firm performance, it is characterised by a number of shortcomings.

Firstly, the study focuses solely on banks, which means that the results cannot be generalised to firms in other industries. Secondly, the study employs cross-sectional data and focuses on a single year. It fails to take into account the effect of time-series changes in ownership structure on firm performance. Another study that has considered the impact of ownership structure on firm performance in GCC countries is Zeitun and Al-Kawari (2012). The study focuses exclusively on the impact of government ownership on firm performance based on data for 191 firms over the period 1999 to 2006.

The study provides evidence that government ownership has a significant positive impact on firm performance in GCC countries. Again this study is limited in that it focuses solely on government ownership thereby ignoring the effects of other forms of ownership such as family ownership, dispersed ownership and insider ownership. It can be observed from above that there is very limited evidence on the impact of ownership structure and firm performance in GCC countries. Moreover, the few studies that have been conducted focus on very few industries and make use of a particular ownership type.

In addition, the study by Arouri et al. (2013) considers only a single period thus ignoring the impact of time-series changes in ownership characteristics on firm performance. This study is motivated by the fact that the Gulf region plays an important role in global economic development. Despite this role, very limited studies have been conducted on how ownership structure affects firm performance in the region. This study therefore aims at breaching this literature gap by examining the impact of ownership structure on firm performance in the region.

Unlike previous studies, the study will make use of a panel data approach that takes into account both time series and cross-sectional changes. The study will also make use of different ownership characteristics such as family ownership, government ownership, concentrated ownership, managerial ownership, foreign ownership and institutional ownership. 2.2.7 HypothesesThe study will test the following hypotheses, which have been developed based on the literature. 1. There is a positive relationship between Government Ownership and Firm Performance in GCC Countries;2.

There is a positive relationship between Family Ownership and Firm Performance in GCC countries;3. There is a positive relationship between Institutional Ownership and Firm Performance in GCC countries; 4. Concentrated Ownerships has a positive effect on Firm Performance in GCC countries. 5. Managerial Ownership has a positive impact on Firm Performance in GCC countries6. Foreign Ownership has a positive impact on Firm Performance in GCC countries.3. Methodology3.1. IntroductionThe research paper attempts to scrutinise the significant impact of ownership structure on firm performance in Gulf Corporation Council (GCC) countries.

This chapter has outlined a specific research design in accordance with the research objectives of the research. The objective of this chapter is to study the research methodology for the study and analyse how well it suits to the attainment of research objectives. For the purpose of simplicity and clarity, the research methodology is divided into two main segments. The first segment discusses the empirical model and the second segment describes the data sample and data sources of the research.3.2.

Empirical FindingsThe provision of Empirical Findings helps presenting the descriptive statistics for the dependent and independent variables used in the present study. The Empirical Findings helps in the identification of suitable variable critically analysed in research using set of statistical methods, determining the relation between variables, analysing data through descriptive analysis and drafting results of the analysis. As defined earlier in the chapter the research strives to obtain relationship between ownership structure and firm performance in GCC countries.

All these areas are discussed below with variables identified, specific empirical model implemented and concluding empirical results presented. Panel data is used to analyse the impact of ownership structure on firm performance. Fixed effects regressions models are employed. The analysis is done using two measures of performance including Tobin’s Q and return on assets (ROA). The impact of firm specific variables such as leverage, GDP growth and firm size, as well as corporate governance variables such as board size, number of executive directors on the board and number of independent directors on the board are controlled for.

The empirical model is used to examine the relationship between ownership structure and firm performance in GCC countries, using the following two equations:Tobin’s qit = α it + β1it Board size it + β2it Executive directors it + β3it Independent directors it + β4it Managerial ownership it + β5it Family ownership it + β6it Government ownership it + β7it Institutional ownership it + β8i foreign ownership it + β9it Concentration ownership it + β10i Size it + β11it Leverage it + β12it GDP growth it + ε it (1) Where variables:The dependent variable (Tobin’s q) is the ratio of the book value of total assets minus the book value of equity plus the market value of equity to the book value of assets.

Independent variables are board characteristics, ownership structure and financial characteristics. See Table 2 for exact definitions for variables.ROAit = α it + β1it Board size it + β2it Executive directors it + β3it Independent directors it + β4it Managerial ownership it + β5it Family ownership it + β6it Government ownership it + β7it Institutional ownership it + β8it foreign ownership it + β9it Concentration ownership it + β10it Size it + β11it Leverage it + β12it GDP growth it + εit (2) Where variables:The dependent variable (ROA) is the Net income/Total assets.

Independent variables are board characteristics, ownership structure and financial characteristics. See Table 2 for exact definitions for variables.The philosophical context of the research design is Positivism. According to Salkind (2010), under Positivism doctrine, scientific process of human reasoning is the most suitable method of research design. The two main ingredients of Positivism are experience and transparency (Gartrell and Gartrell, 1996). The transparency is the extent to which the data can be verified.

The application of empirical research design requires developing a robust empirical model. This empirical model will be responsible in measuring the relationship between variables under consideration in the research and a suitable set of historical data extracted from trusted sources. These are the two main pillars of empirical research design according to Sorenson (2002).3.3. Data and Sources 3.3.1 Sampling and Data analysisThe objective of the research design is to concentrate on the ownership structure of Gulf countries companies.

For the purpose of clarity and simplicity, a sample size of five countries is selected, namely Kuwait, Oman, Qatar, Saudi Arabia and United Arab Emirates. The population sample has active equity market and sample comprised of stocks representing five countries of the Gulf economies. Our sample includes 362 listed firms from 2006 to 2011. The financial firms such as banks and insurance companies were excluded from this study due to the unique nature of the sector and the inconsistency and variations in the calculations of Tobin’s Q.

The sample includes 7 different sectors. The number of firms listed in different sectors is as follows: 127 firms for industrial, 122 firms for services, 72 firms for Real estate and building, 20 firms for food and beverage, 10 firms for transport, 9 firms for telecommunication and 2 firms for utilities giving a sample size of 362. Our sample holds 126 firms for Kuwait, 107 firms for Saudi Arabia, 82 firms for Oman, 25 firms for Qatar and 22 firms for the United Arab Emirates, for a total sample of 362.

Table 1 presents the number of listed firms in each sector in the GCC countries.The data analysis is performed by using STATA that has comprehensively produced descriptive analysis of the data showing statistical analysis of the variables under consideration and measuring coefficient of variables being considered in study. The data analysis is expected to produce meaningful outcomes that would make eminent contribution in economic literature and corporate governance structure through cross-sectional analysis approach.

SectorNumber of firmsIndustrial127Services122Real estate & Building72Food & Beverage20Transport10Telecommunication9Utilities2Total362 Table 1: Sectors included in the study3.3.2 Sources and VariablesThe research has conducted by gathering the data for six years starting from 2006 to 2011 from Thomson one banker, Thomson.com, Datastream and annual reports. All of the board characteristics data used in this study was manually collected from the annual reports for all firms.

The financial data used in this study was obtained directly from Datastream. Our performance measure which is made up of accounting and market performance measures has been sourced from Thomson One Banker and Datastream. The ownership structure data was collected from Thomson.com.In this study we examine the impact of ownership structure on firm performance in Gulf Corporation Council (GCC) countries. The dependent variable in this study is firm performance. This variable has been calculated in twice, once as return on assets (ROA) and the other as market to book ratio (Tobin’s Q).

There are 29 independent variables in this study, divided into three groups. The first group is board characteristics; this includes board size, executive directors and independent directors. The second group is financial characteristics including leverage, GDP growth and firm size. The last group is ownership structures which incl