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THE IMPACT OF OWNERSHIP STRUCTURE ON CORPORATE DEBT POLICY OF BANKING INDUSTRY IN MALAYSIA Wong Siik Ching Bachelor of Finance (Honours) 2012

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THE IMPACT OF OWNERSHIP STRUCTURE ON CORPORATE DEBT POLICY OF BANKING INDUSTRY IN MALAYSIA

Wong Siik Ching

Bachelor of Finance (Honours) 2012

Pusat Khidmat Maklumat Akademik UNIVEltSm MALAYSIA SARAWAK

PKHIDMAT MAKLUMAT AKADEMIK

111111111111[111111111111000245017

THE IMPACT OF OWNERSHIP STRUCTURE ON CORPORATE DEBT POLICY OF BANKING INDUSTRY IN MALAYSIA

WONG SIlK CHING

This project is submitted in partial fulfillment of the requirements for the degree of Bachelor of Finance with Honours

(Finance)

Faculty of Economic and Business UNIVERSITY MALAYSIA SARA WAK

2012

Statement of Originality

The work described in this Final Year Project entitled

The Impact of Ownership Structure on Corporate Debt Policy of Banking

Industry in Malaysia

is to the best of the authors knowledge that of the author except

where due reference is made

ckt- 7- J b 101 V

Wong Siik Ching Date 25401

ABSTRACT

The Impact of Ownership Structure on Corporate Debt Policy of

Banking Industry in Malaysia

By

Wong Siik Ching

This study was conducted to investigate the impact of ownership structure on

corporate debt policy of banking industry in Malaysia It also identifies the

detenninants of the ownership structure in banking Malaysia 8 local banks which are

listed in Bursa Malaysia between 2005 and 20 I 0 were selected as the sample of the

study A pooled Ordinary Least Square COLS) analysis was used to examine the

relationship between ownership structure and corporate debt policy in banking

Malaysia The findings indicate that there is an insignificant relationship between

profitability and debt ratio However the results find that finn size growth

opportunityand institutional ownership have a positive and significant relationship

with the debt ratio In contrast the firm risk and managerial ownership have a

significant and negative effect on the debt ratio These findings are consistent with

the pecking order theory and agency theory Hence the corporate debt policy can be

used as a mechanism to mitigate the agency conflict in banking Malaysia

-

ABSTRAK

Kesan struktur pemilikan mengikut dasar hutang korporat industri perbankan

di Malaysia

Oleh

Wong Siik Ching

Kertas kerja ini mengkaji kesan struktur pemilikan mengikut dasar hutang

korporat industri perbankan di Malaysia Kajian ini juga mengenal pasti penentu

struktur pemilikan dalam perbankan Malaysia Sampel kajian ini memberi tumpuan

kepada 8 bank-bank tempatan yang disenaraikan di Bursa Malaysia antara tahun 2005

hingga tahun 2010 Suatu dikumpulkan persegi biasa (OLS) analisis digunakan untuk

melihat hubungan antara struktur pemilikan dengan dasar hutang korporat dalam

perbankan Malaysia Hasil kajian menunjukkan bahawa terdapat hubungan yang

signifikan antara keuntungan dengan nisbah hutang Walau bagaimanapun keputusan

mendapati bahawa saiz firma peluang pertumbuhan dan pemilikan institusi

mempunyai hubungan positif yang signifikan dengan nisbah hutang Sebaliknya

risiko yang kukuh dan pemilikan pengurus mempunyai kesan yang signifikan negatif

ke atas nisbah hutang Penemuan ini adalah selaras dengan teori pesanan combinasi

dan teori agensi Oleh sebab itu dasar hutang korporat boleh digunakan sebagai

mekanisme untuk mengurangkan konflik agensi dalam perbankan Malaysia

ACKNOWLEDGEMENT

This thesis was completed with the supports and assistance from many people

who are important in my life Firstly I would like to thank my supervisor Associate

Professor Dr Puah Chin Hong for his guidance and support throughout the study He

is kind to provide invaluable advices and comments in enhancing my knowledge to

write a good scientific research He has helped me greatly to solve the problem in the

study

Besides I want to take the opportunity to extend my gratitude to all my lectures

at Universiti Malaysia Sarawak especially for those who have helped me and given

me the supports and encouragements in the study I appreciate the lecturers who were

willing to share their experiences and knowledge for helping me to complete my

thesis

Furthermore I would like to express my appreciation to my family members for

providing me their support when I was suffering and stressful They are good

listeners and assist me to increase my confidence for completing my thesis on time

Last but not the least I would like to thank my friends who have given their support

inspiration understanding and advice that has helped me to complete my final year

project

I

List of Tables

List of Figures

CHAPTER 1

10

11

12

13

14

15

16

17

18

19

Pusat Khidmat MakJumat Akademik UNlVERSm MALAYSIA SARAWAK

TABLE OF CONTENTS

Xl

Xll

INTRODUCTION

Overview of the Study 1

Background of the Study 3

Definition ofOwnership Structure 7

121 The Types of Ownership Strucutre 8

Definition of Corporate Debt Policy 10

The Detenninants of Capital Structure 11

The Impact ofCorporate Ownership on Corporate 14

Debt Policy

Problem Statement 15

Objective of the Study 17

171 General Objective 18

172 Specific Objective 18

Significance of the Study 19

Scope of the Study 20

vii

I

CHAPTER 2 LITERATURE REVIEW

20 Introduction 21

21 Ownership Structure and Corporate Perfonnance 21

22 Corporate Debt Policy and Dividend Policy 24

23 Determinants ofCapital Structure and Ownership 28

Structure

24 Ownership Structure and Banking Industry 30

25 Ownership Structure and Corporate Governance 32

26 Ownership Structure and Agency Theory 35

CHAPTER 3 METHODOLOGY

30 Introduction 43

31 Theoretical Framework 43

311 Agency Theory 44

312 Pecking Order Theory 46

32 Conceptual Framework 47

33 Definition and Measurement ofthe Variables 49

331 Dependent Variable 50

tI 332 Independent Variables 50

333 Hypothesis of the Study 52

334 Summary ofthe Measurement Variables 53

34 Data and Sample 55

35 Data Analysis 56

351 Pooled Ordinary Least Square (OLS) Regression 56

viii

352 Estimation Model 58

36 Diagnostic Checking Tests and Stability Tests 59

361 Histogram and Normality Test 59

362 Breush-Godfrey Serial Correlation LM Test 60

363 Heteroskedasticity 61

364 Ramseys RESET Test 62

365 CUSUM Test 63

366 CUSUM of Squares Test 64

CHAPTER 4 EMPIRICAL RESULTS AND DISCUSSIONS

40 Introduction 66

41 Descriptive Analysis 66

42 Pooled OLS Reslllts 68

421 Profitability of Return on Asset 69

422 Firm Risk 70

423 Firm Size 71

424 Growth Opportunity 71

425 Managerial Ownership 72

426 Institutional Ownenhip 73

43 Diagnostic Checking Tests and Stability Tests Results 73

431 Normality Test Results 74

432Breush-Godfrey Serial Correlation LM Test 75

Results

433Heteroskedasticity Test Resuts Based on ARCH 75

ix

44

CHAPTERS

50

51

52

53

54

REFERENCES

364 Ramseys RESET Test Results

365 CUSUM Test Results

366 CUSUM of Squares Test Results

Chapter Remark

CONCLUSION AND RECOMMENDATION

Introduction

Conclusion Remark

Policy Implication

Recommendation

Limitation of the Study

76

77

78

80

83

83

86

87

88

90

x

1

2

3

4

5

6

7

8

LIST OF TABLES

Table Title Page

Summary of the Literature Review 38

Summary of the Measurement Variables 54

Descriptive Statistics ofDependent and Independent Variables 67

Correlation Matrix of the Debt Ratio and Explanatory Variables 68

Pooled OLS Regressions Results of Debt Ratio Analysis 69

Breush-Godfrey Serial Correlation LM Test Results 75

ARCH Test Results 76

Ramseys RESET Test Results 77

xi

LIST OF FIGURES

Figure Title Page

1 Conceptual Framework ofthe Impact of Ownership Structure 48

on Debt Policy

2 The Normality Test Results 74

3 CUSUM Test Results 78

4 CUSUM of Squares Test Results 79

xii

CHAPTER

INTRODUCTION

10 Overview of the Study

Corporate governance is an important aspect ofthe corporate environment It is

related to corporate control and ownership structure of a firm in a corporation

According to Hitt et aI (1999) strategic management and performance of firms are

regulated and controlled by corporate governance Besides it is used in

organization to establish command between firms owners and its top-level

managers whose interests may be in conflict Hence the separation of interests

among stakeholders in corporation csm lead to agency problem

In Malaysia corporate governance is highly concentrated in the hands of large

shareholders or controlling shareholders The shareholders are given the rights to

provide incentives that can affect decision-making in the corporation and exercise

the voting control over shares which may diverge significantly in cash flow rights

(Ishak amp Napier 2006) According to Ghazali (2007) family-owned and

government-owned companies are the common types of ownership structure in

Malaysia Generally Malaysia has five largest shareholders which own 60 or

more of the public listed companies equity The top largest shareholders are the

nominee companies followed by non-financial companies and the government

Nor et al (2010) stated that corporate governance in Malaysia vanes

according to the ownership structure of the corporate sector Tne dispersed

ownership situation in Malaysia is observed to be similar in United States of

America (USA) and United Kingdoms (UK) common law legal system The

ownership is observed from two perspectives which are ownership concentration

and the components of ownership concentration They are used as a proxy for

corporate governance mechanisms Besides the ownership can be categorized into

institutional ownership government ownership and the nominees as well as the

individuals who own the companies As further added by Ayoib et al (2003) the

government has established the Finance Committee on Corporate Governance and

the Malaysian Institute ofCorporate Governance (MICG) to review and strengthen

corporate governance in Malaysia In addition the Malaysian Institute of

Accountants (MliA) the Kuala Lumpur Stock Exchange (KLSE) and the Securities

Commission (SC) were fonned to enhance the corporate governance in Malaysia

Moreover the Malaysian government has changed the merged banking groups

compositionof ownership structure in the post-crisis years When the bank merger

programme was completed to consolidate the number of domestic commercial

banks were reduced from 20 in 1999 to lOin 2001 (Lum amp Koh 2007) Hence the

study concluded that the consolidation programme has resulted in larger and better

capitalised domestic banking institutions but do not have any significant impact on

the composition ofownership structure in the banking industry

2

11 Background of the Study

Agency problem is a popular issue that exists commonly in a corporation

There are several studies which provide evidence on the effects of agency conflicts

on corporate governance Rimbey (1998) found that the distribution of shares

among the outside shareholders is a device to mitigate agency costs and affect the

fIrms capital structure Therefore ownership represents a power that can be used

either to support or oppose existing management that is related to the concentration

or dispersion of the power

On the other hand managerial ownership is an important internal monitoring

force as a determinant of risk The risk is a central theme in financial economics

which is related to managerial ownership corporate debt and dividend policies

(Chen amp Steiner 1999) The determinants ofmanagerial ownership include the risk

debt and dividends which are treated as endogenous variable in the model Many

previous studies have found that managerial ownership has a signifIcant impact on

the levels of risk

Nevertheless Andreyeva (2001) claimed that the role of privatization in the evolution of a transparent private ownership structure is important to establish a

successful market The organizational financial structures and managerial behavior

of privatization transforms are the goals for the fIrm to maximize the profIt The

corporate governance system is a way to determine the ultimate success of

3

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

Pusat Khidmat Maklumat Akademik UNIVEltSm MALAYSIA SARAWAK

PKHIDMAT MAKLUMAT AKADEMIK

111111111111[111111111111000245017

THE IMPACT OF OWNERSHIP STRUCTURE ON CORPORATE DEBT POLICY OF BANKING INDUSTRY IN MALAYSIA

WONG SIlK CHING

This project is submitted in partial fulfillment of the requirements for the degree of Bachelor of Finance with Honours

(Finance)

Faculty of Economic and Business UNIVERSITY MALAYSIA SARA WAK

2012

Statement of Originality

The work described in this Final Year Project entitled

The Impact of Ownership Structure on Corporate Debt Policy of Banking

Industry in Malaysia

is to the best of the authors knowledge that of the author except

where due reference is made

ckt- 7- J b 101 V

Wong Siik Ching Date 25401

ABSTRACT

The Impact of Ownership Structure on Corporate Debt Policy of

Banking Industry in Malaysia

By

Wong Siik Ching

This study was conducted to investigate the impact of ownership structure on

corporate debt policy of banking industry in Malaysia It also identifies the

detenninants of the ownership structure in banking Malaysia 8 local banks which are

listed in Bursa Malaysia between 2005 and 20 I 0 were selected as the sample of the

study A pooled Ordinary Least Square COLS) analysis was used to examine the

relationship between ownership structure and corporate debt policy in banking

Malaysia The findings indicate that there is an insignificant relationship between

profitability and debt ratio However the results find that finn size growth

opportunityand institutional ownership have a positive and significant relationship

with the debt ratio In contrast the firm risk and managerial ownership have a

significant and negative effect on the debt ratio These findings are consistent with

the pecking order theory and agency theory Hence the corporate debt policy can be

used as a mechanism to mitigate the agency conflict in banking Malaysia

-

ABSTRAK

Kesan struktur pemilikan mengikut dasar hutang korporat industri perbankan

di Malaysia

Oleh

Wong Siik Ching

Kertas kerja ini mengkaji kesan struktur pemilikan mengikut dasar hutang

korporat industri perbankan di Malaysia Kajian ini juga mengenal pasti penentu

struktur pemilikan dalam perbankan Malaysia Sampel kajian ini memberi tumpuan

kepada 8 bank-bank tempatan yang disenaraikan di Bursa Malaysia antara tahun 2005

hingga tahun 2010 Suatu dikumpulkan persegi biasa (OLS) analisis digunakan untuk

melihat hubungan antara struktur pemilikan dengan dasar hutang korporat dalam

perbankan Malaysia Hasil kajian menunjukkan bahawa terdapat hubungan yang

signifikan antara keuntungan dengan nisbah hutang Walau bagaimanapun keputusan

mendapati bahawa saiz firma peluang pertumbuhan dan pemilikan institusi

mempunyai hubungan positif yang signifikan dengan nisbah hutang Sebaliknya

risiko yang kukuh dan pemilikan pengurus mempunyai kesan yang signifikan negatif

ke atas nisbah hutang Penemuan ini adalah selaras dengan teori pesanan combinasi

dan teori agensi Oleh sebab itu dasar hutang korporat boleh digunakan sebagai

mekanisme untuk mengurangkan konflik agensi dalam perbankan Malaysia

ACKNOWLEDGEMENT

This thesis was completed with the supports and assistance from many people

who are important in my life Firstly I would like to thank my supervisor Associate

Professor Dr Puah Chin Hong for his guidance and support throughout the study He

is kind to provide invaluable advices and comments in enhancing my knowledge to

write a good scientific research He has helped me greatly to solve the problem in the

study

Besides I want to take the opportunity to extend my gratitude to all my lectures

at Universiti Malaysia Sarawak especially for those who have helped me and given

me the supports and encouragements in the study I appreciate the lecturers who were

willing to share their experiences and knowledge for helping me to complete my

thesis

Furthermore I would like to express my appreciation to my family members for

providing me their support when I was suffering and stressful They are good

listeners and assist me to increase my confidence for completing my thesis on time

Last but not the least I would like to thank my friends who have given their support

inspiration understanding and advice that has helped me to complete my final year

project

I

List of Tables

List of Figures

CHAPTER 1

10

11

12

13

14

15

16

17

18

19

Pusat Khidmat MakJumat Akademik UNlVERSm MALAYSIA SARAWAK

TABLE OF CONTENTS

Xl

Xll

INTRODUCTION

Overview of the Study 1

Background of the Study 3

Definition ofOwnership Structure 7

121 The Types of Ownership Strucutre 8

Definition of Corporate Debt Policy 10

The Detenninants of Capital Structure 11

The Impact ofCorporate Ownership on Corporate 14

Debt Policy

Problem Statement 15

Objective of the Study 17

171 General Objective 18

172 Specific Objective 18

Significance of the Study 19

Scope of the Study 20

vii

I

CHAPTER 2 LITERATURE REVIEW

20 Introduction 21

21 Ownership Structure and Corporate Perfonnance 21

22 Corporate Debt Policy and Dividend Policy 24

23 Determinants ofCapital Structure and Ownership 28

Structure

24 Ownership Structure and Banking Industry 30

25 Ownership Structure and Corporate Governance 32

26 Ownership Structure and Agency Theory 35

CHAPTER 3 METHODOLOGY

30 Introduction 43

31 Theoretical Framework 43

311 Agency Theory 44

312 Pecking Order Theory 46

32 Conceptual Framework 47

33 Definition and Measurement ofthe Variables 49

331 Dependent Variable 50

tI 332 Independent Variables 50

333 Hypothesis of the Study 52

334 Summary ofthe Measurement Variables 53

34 Data and Sample 55

35 Data Analysis 56

351 Pooled Ordinary Least Square (OLS) Regression 56

viii

352 Estimation Model 58

36 Diagnostic Checking Tests and Stability Tests 59

361 Histogram and Normality Test 59

362 Breush-Godfrey Serial Correlation LM Test 60

363 Heteroskedasticity 61

364 Ramseys RESET Test 62

365 CUSUM Test 63

366 CUSUM of Squares Test 64

CHAPTER 4 EMPIRICAL RESULTS AND DISCUSSIONS

40 Introduction 66

41 Descriptive Analysis 66

42 Pooled OLS Reslllts 68

421 Profitability of Return on Asset 69

422 Firm Risk 70

423 Firm Size 71

424 Growth Opportunity 71

425 Managerial Ownership 72

426 Institutional Ownenhip 73

43 Diagnostic Checking Tests and Stability Tests Results 73

431 Normality Test Results 74

432Breush-Godfrey Serial Correlation LM Test 75

Results

433Heteroskedasticity Test Resuts Based on ARCH 75

ix

44

CHAPTERS

50

51

52

53

54

REFERENCES

364 Ramseys RESET Test Results

365 CUSUM Test Results

366 CUSUM of Squares Test Results

Chapter Remark

CONCLUSION AND RECOMMENDATION

Introduction

Conclusion Remark

Policy Implication

Recommendation

Limitation of the Study

76

77

78

80

83

83

86

87

88

90

x

1

2

3

4

5

6

7

8

LIST OF TABLES

Table Title Page

Summary of the Literature Review 38

Summary of the Measurement Variables 54

Descriptive Statistics ofDependent and Independent Variables 67

Correlation Matrix of the Debt Ratio and Explanatory Variables 68

Pooled OLS Regressions Results of Debt Ratio Analysis 69

Breush-Godfrey Serial Correlation LM Test Results 75

ARCH Test Results 76

Ramseys RESET Test Results 77

xi

LIST OF FIGURES

Figure Title Page

1 Conceptual Framework ofthe Impact of Ownership Structure 48

on Debt Policy

2 The Normality Test Results 74

3 CUSUM Test Results 78

4 CUSUM of Squares Test Results 79

xii

CHAPTER

INTRODUCTION

10 Overview of the Study

Corporate governance is an important aspect ofthe corporate environment It is

related to corporate control and ownership structure of a firm in a corporation

According to Hitt et aI (1999) strategic management and performance of firms are

regulated and controlled by corporate governance Besides it is used in

organization to establish command between firms owners and its top-level

managers whose interests may be in conflict Hence the separation of interests

among stakeholders in corporation csm lead to agency problem

In Malaysia corporate governance is highly concentrated in the hands of large

shareholders or controlling shareholders The shareholders are given the rights to

provide incentives that can affect decision-making in the corporation and exercise

the voting control over shares which may diverge significantly in cash flow rights

(Ishak amp Napier 2006) According to Ghazali (2007) family-owned and

government-owned companies are the common types of ownership structure in

Malaysia Generally Malaysia has five largest shareholders which own 60 or

more of the public listed companies equity The top largest shareholders are the

nominee companies followed by non-financial companies and the government

Nor et al (2010) stated that corporate governance in Malaysia vanes

according to the ownership structure of the corporate sector Tne dispersed

ownership situation in Malaysia is observed to be similar in United States of

America (USA) and United Kingdoms (UK) common law legal system The

ownership is observed from two perspectives which are ownership concentration

and the components of ownership concentration They are used as a proxy for

corporate governance mechanisms Besides the ownership can be categorized into

institutional ownership government ownership and the nominees as well as the

individuals who own the companies As further added by Ayoib et al (2003) the

government has established the Finance Committee on Corporate Governance and

the Malaysian Institute ofCorporate Governance (MICG) to review and strengthen

corporate governance in Malaysia In addition the Malaysian Institute of

Accountants (MliA) the Kuala Lumpur Stock Exchange (KLSE) and the Securities

Commission (SC) were fonned to enhance the corporate governance in Malaysia

Moreover the Malaysian government has changed the merged banking groups

compositionof ownership structure in the post-crisis years When the bank merger

programme was completed to consolidate the number of domestic commercial

banks were reduced from 20 in 1999 to lOin 2001 (Lum amp Koh 2007) Hence the

study concluded that the consolidation programme has resulted in larger and better

capitalised domestic banking institutions but do not have any significant impact on

the composition ofownership structure in the banking industry

2

11 Background of the Study

Agency problem is a popular issue that exists commonly in a corporation

There are several studies which provide evidence on the effects of agency conflicts

on corporate governance Rimbey (1998) found that the distribution of shares

among the outside shareholders is a device to mitigate agency costs and affect the

fIrms capital structure Therefore ownership represents a power that can be used

either to support or oppose existing management that is related to the concentration

or dispersion of the power

On the other hand managerial ownership is an important internal monitoring

force as a determinant of risk The risk is a central theme in financial economics

which is related to managerial ownership corporate debt and dividend policies

(Chen amp Steiner 1999) The determinants ofmanagerial ownership include the risk

debt and dividends which are treated as endogenous variable in the model Many

previous studies have found that managerial ownership has a signifIcant impact on

the levels of risk

Nevertheless Andreyeva (2001) claimed that the role of privatization in the evolution of a transparent private ownership structure is important to establish a

successful market The organizational financial structures and managerial behavior

of privatization transforms are the goals for the fIrm to maximize the profIt The

corporate governance system is a way to determine the ultimate success of

3

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

Statement of Originality

The work described in this Final Year Project entitled

The Impact of Ownership Structure on Corporate Debt Policy of Banking

Industry in Malaysia

is to the best of the authors knowledge that of the author except

where due reference is made

ckt- 7- J b 101 V

Wong Siik Ching Date 25401

ABSTRACT

The Impact of Ownership Structure on Corporate Debt Policy of

Banking Industry in Malaysia

By

Wong Siik Ching

This study was conducted to investigate the impact of ownership structure on

corporate debt policy of banking industry in Malaysia It also identifies the

detenninants of the ownership structure in banking Malaysia 8 local banks which are

listed in Bursa Malaysia between 2005 and 20 I 0 were selected as the sample of the

study A pooled Ordinary Least Square COLS) analysis was used to examine the

relationship between ownership structure and corporate debt policy in banking

Malaysia The findings indicate that there is an insignificant relationship between

profitability and debt ratio However the results find that finn size growth

opportunityand institutional ownership have a positive and significant relationship

with the debt ratio In contrast the firm risk and managerial ownership have a

significant and negative effect on the debt ratio These findings are consistent with

the pecking order theory and agency theory Hence the corporate debt policy can be

used as a mechanism to mitigate the agency conflict in banking Malaysia

-

ABSTRAK

Kesan struktur pemilikan mengikut dasar hutang korporat industri perbankan

di Malaysia

Oleh

Wong Siik Ching

Kertas kerja ini mengkaji kesan struktur pemilikan mengikut dasar hutang

korporat industri perbankan di Malaysia Kajian ini juga mengenal pasti penentu

struktur pemilikan dalam perbankan Malaysia Sampel kajian ini memberi tumpuan

kepada 8 bank-bank tempatan yang disenaraikan di Bursa Malaysia antara tahun 2005

hingga tahun 2010 Suatu dikumpulkan persegi biasa (OLS) analisis digunakan untuk

melihat hubungan antara struktur pemilikan dengan dasar hutang korporat dalam

perbankan Malaysia Hasil kajian menunjukkan bahawa terdapat hubungan yang

signifikan antara keuntungan dengan nisbah hutang Walau bagaimanapun keputusan

mendapati bahawa saiz firma peluang pertumbuhan dan pemilikan institusi

mempunyai hubungan positif yang signifikan dengan nisbah hutang Sebaliknya

risiko yang kukuh dan pemilikan pengurus mempunyai kesan yang signifikan negatif

ke atas nisbah hutang Penemuan ini adalah selaras dengan teori pesanan combinasi

dan teori agensi Oleh sebab itu dasar hutang korporat boleh digunakan sebagai

mekanisme untuk mengurangkan konflik agensi dalam perbankan Malaysia

ACKNOWLEDGEMENT

This thesis was completed with the supports and assistance from many people

who are important in my life Firstly I would like to thank my supervisor Associate

Professor Dr Puah Chin Hong for his guidance and support throughout the study He

is kind to provide invaluable advices and comments in enhancing my knowledge to

write a good scientific research He has helped me greatly to solve the problem in the

study

Besides I want to take the opportunity to extend my gratitude to all my lectures

at Universiti Malaysia Sarawak especially for those who have helped me and given

me the supports and encouragements in the study I appreciate the lecturers who were

willing to share their experiences and knowledge for helping me to complete my

thesis

Furthermore I would like to express my appreciation to my family members for

providing me their support when I was suffering and stressful They are good

listeners and assist me to increase my confidence for completing my thesis on time

Last but not the least I would like to thank my friends who have given their support

inspiration understanding and advice that has helped me to complete my final year

project

I

List of Tables

List of Figures

CHAPTER 1

10

11

12

13

14

15

16

17

18

19

Pusat Khidmat MakJumat Akademik UNlVERSm MALAYSIA SARAWAK

TABLE OF CONTENTS

Xl

Xll

INTRODUCTION

Overview of the Study 1

Background of the Study 3

Definition ofOwnership Structure 7

121 The Types of Ownership Strucutre 8

Definition of Corporate Debt Policy 10

The Detenninants of Capital Structure 11

The Impact ofCorporate Ownership on Corporate 14

Debt Policy

Problem Statement 15

Objective of the Study 17

171 General Objective 18

172 Specific Objective 18

Significance of the Study 19

Scope of the Study 20

vii

I

CHAPTER 2 LITERATURE REVIEW

20 Introduction 21

21 Ownership Structure and Corporate Perfonnance 21

22 Corporate Debt Policy and Dividend Policy 24

23 Determinants ofCapital Structure and Ownership 28

Structure

24 Ownership Structure and Banking Industry 30

25 Ownership Structure and Corporate Governance 32

26 Ownership Structure and Agency Theory 35

CHAPTER 3 METHODOLOGY

30 Introduction 43

31 Theoretical Framework 43

311 Agency Theory 44

312 Pecking Order Theory 46

32 Conceptual Framework 47

33 Definition and Measurement ofthe Variables 49

331 Dependent Variable 50

tI 332 Independent Variables 50

333 Hypothesis of the Study 52

334 Summary ofthe Measurement Variables 53

34 Data and Sample 55

35 Data Analysis 56

351 Pooled Ordinary Least Square (OLS) Regression 56

viii

352 Estimation Model 58

36 Diagnostic Checking Tests and Stability Tests 59

361 Histogram and Normality Test 59

362 Breush-Godfrey Serial Correlation LM Test 60

363 Heteroskedasticity 61

364 Ramseys RESET Test 62

365 CUSUM Test 63

366 CUSUM of Squares Test 64

CHAPTER 4 EMPIRICAL RESULTS AND DISCUSSIONS

40 Introduction 66

41 Descriptive Analysis 66

42 Pooled OLS Reslllts 68

421 Profitability of Return on Asset 69

422 Firm Risk 70

423 Firm Size 71

424 Growth Opportunity 71

425 Managerial Ownership 72

426 Institutional Ownenhip 73

43 Diagnostic Checking Tests and Stability Tests Results 73

431 Normality Test Results 74

432Breush-Godfrey Serial Correlation LM Test 75

Results

433Heteroskedasticity Test Resuts Based on ARCH 75

ix

44

CHAPTERS

50

51

52

53

54

REFERENCES

364 Ramseys RESET Test Results

365 CUSUM Test Results

366 CUSUM of Squares Test Results

Chapter Remark

CONCLUSION AND RECOMMENDATION

Introduction

Conclusion Remark

Policy Implication

Recommendation

Limitation of the Study

76

77

78

80

83

83

86

87

88

90

x

1

2

3

4

5

6

7

8

LIST OF TABLES

Table Title Page

Summary of the Literature Review 38

Summary of the Measurement Variables 54

Descriptive Statistics ofDependent and Independent Variables 67

Correlation Matrix of the Debt Ratio and Explanatory Variables 68

Pooled OLS Regressions Results of Debt Ratio Analysis 69

Breush-Godfrey Serial Correlation LM Test Results 75

ARCH Test Results 76

Ramseys RESET Test Results 77

xi

LIST OF FIGURES

Figure Title Page

1 Conceptual Framework ofthe Impact of Ownership Structure 48

on Debt Policy

2 The Normality Test Results 74

3 CUSUM Test Results 78

4 CUSUM of Squares Test Results 79

xii

CHAPTER

INTRODUCTION

10 Overview of the Study

Corporate governance is an important aspect ofthe corporate environment It is

related to corporate control and ownership structure of a firm in a corporation

According to Hitt et aI (1999) strategic management and performance of firms are

regulated and controlled by corporate governance Besides it is used in

organization to establish command between firms owners and its top-level

managers whose interests may be in conflict Hence the separation of interests

among stakeholders in corporation csm lead to agency problem

In Malaysia corporate governance is highly concentrated in the hands of large

shareholders or controlling shareholders The shareholders are given the rights to

provide incentives that can affect decision-making in the corporation and exercise

the voting control over shares which may diverge significantly in cash flow rights

(Ishak amp Napier 2006) According to Ghazali (2007) family-owned and

government-owned companies are the common types of ownership structure in

Malaysia Generally Malaysia has five largest shareholders which own 60 or

more of the public listed companies equity The top largest shareholders are the

nominee companies followed by non-financial companies and the government

Nor et al (2010) stated that corporate governance in Malaysia vanes

according to the ownership structure of the corporate sector Tne dispersed

ownership situation in Malaysia is observed to be similar in United States of

America (USA) and United Kingdoms (UK) common law legal system The

ownership is observed from two perspectives which are ownership concentration

and the components of ownership concentration They are used as a proxy for

corporate governance mechanisms Besides the ownership can be categorized into

institutional ownership government ownership and the nominees as well as the

individuals who own the companies As further added by Ayoib et al (2003) the

government has established the Finance Committee on Corporate Governance and

the Malaysian Institute ofCorporate Governance (MICG) to review and strengthen

corporate governance in Malaysia In addition the Malaysian Institute of

Accountants (MliA) the Kuala Lumpur Stock Exchange (KLSE) and the Securities

Commission (SC) were fonned to enhance the corporate governance in Malaysia

Moreover the Malaysian government has changed the merged banking groups

compositionof ownership structure in the post-crisis years When the bank merger

programme was completed to consolidate the number of domestic commercial

banks were reduced from 20 in 1999 to lOin 2001 (Lum amp Koh 2007) Hence the

study concluded that the consolidation programme has resulted in larger and better

capitalised domestic banking institutions but do not have any significant impact on

the composition ofownership structure in the banking industry

2

11 Background of the Study

Agency problem is a popular issue that exists commonly in a corporation

There are several studies which provide evidence on the effects of agency conflicts

on corporate governance Rimbey (1998) found that the distribution of shares

among the outside shareholders is a device to mitigate agency costs and affect the

fIrms capital structure Therefore ownership represents a power that can be used

either to support or oppose existing management that is related to the concentration

or dispersion of the power

On the other hand managerial ownership is an important internal monitoring

force as a determinant of risk The risk is a central theme in financial economics

which is related to managerial ownership corporate debt and dividend policies

(Chen amp Steiner 1999) The determinants ofmanagerial ownership include the risk

debt and dividends which are treated as endogenous variable in the model Many

previous studies have found that managerial ownership has a signifIcant impact on

the levels of risk

Nevertheless Andreyeva (2001) claimed that the role of privatization in the evolution of a transparent private ownership structure is important to establish a

successful market The organizational financial structures and managerial behavior

of privatization transforms are the goals for the fIrm to maximize the profIt The

corporate governance system is a way to determine the ultimate success of

3

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

ABSTRACT

The Impact of Ownership Structure on Corporate Debt Policy of

Banking Industry in Malaysia

By

Wong Siik Ching

This study was conducted to investigate the impact of ownership structure on

corporate debt policy of banking industry in Malaysia It also identifies the

detenninants of the ownership structure in banking Malaysia 8 local banks which are

listed in Bursa Malaysia between 2005 and 20 I 0 were selected as the sample of the

study A pooled Ordinary Least Square COLS) analysis was used to examine the

relationship between ownership structure and corporate debt policy in banking

Malaysia The findings indicate that there is an insignificant relationship between

profitability and debt ratio However the results find that finn size growth

opportunityand institutional ownership have a positive and significant relationship

with the debt ratio In contrast the firm risk and managerial ownership have a

significant and negative effect on the debt ratio These findings are consistent with

the pecking order theory and agency theory Hence the corporate debt policy can be

used as a mechanism to mitigate the agency conflict in banking Malaysia

-

ABSTRAK

Kesan struktur pemilikan mengikut dasar hutang korporat industri perbankan

di Malaysia

Oleh

Wong Siik Ching

Kertas kerja ini mengkaji kesan struktur pemilikan mengikut dasar hutang

korporat industri perbankan di Malaysia Kajian ini juga mengenal pasti penentu

struktur pemilikan dalam perbankan Malaysia Sampel kajian ini memberi tumpuan

kepada 8 bank-bank tempatan yang disenaraikan di Bursa Malaysia antara tahun 2005

hingga tahun 2010 Suatu dikumpulkan persegi biasa (OLS) analisis digunakan untuk

melihat hubungan antara struktur pemilikan dengan dasar hutang korporat dalam

perbankan Malaysia Hasil kajian menunjukkan bahawa terdapat hubungan yang

signifikan antara keuntungan dengan nisbah hutang Walau bagaimanapun keputusan

mendapati bahawa saiz firma peluang pertumbuhan dan pemilikan institusi

mempunyai hubungan positif yang signifikan dengan nisbah hutang Sebaliknya

risiko yang kukuh dan pemilikan pengurus mempunyai kesan yang signifikan negatif

ke atas nisbah hutang Penemuan ini adalah selaras dengan teori pesanan combinasi

dan teori agensi Oleh sebab itu dasar hutang korporat boleh digunakan sebagai

mekanisme untuk mengurangkan konflik agensi dalam perbankan Malaysia

ACKNOWLEDGEMENT

This thesis was completed with the supports and assistance from many people

who are important in my life Firstly I would like to thank my supervisor Associate

Professor Dr Puah Chin Hong for his guidance and support throughout the study He

is kind to provide invaluable advices and comments in enhancing my knowledge to

write a good scientific research He has helped me greatly to solve the problem in the

study

Besides I want to take the opportunity to extend my gratitude to all my lectures

at Universiti Malaysia Sarawak especially for those who have helped me and given

me the supports and encouragements in the study I appreciate the lecturers who were

willing to share their experiences and knowledge for helping me to complete my

thesis

Furthermore I would like to express my appreciation to my family members for

providing me their support when I was suffering and stressful They are good

listeners and assist me to increase my confidence for completing my thesis on time

Last but not the least I would like to thank my friends who have given their support

inspiration understanding and advice that has helped me to complete my final year

project

I

List of Tables

List of Figures

CHAPTER 1

10

11

12

13

14

15

16

17

18

19

Pusat Khidmat MakJumat Akademik UNlVERSm MALAYSIA SARAWAK

TABLE OF CONTENTS

Xl

Xll

INTRODUCTION

Overview of the Study 1

Background of the Study 3

Definition ofOwnership Structure 7

121 The Types of Ownership Strucutre 8

Definition of Corporate Debt Policy 10

The Detenninants of Capital Structure 11

The Impact ofCorporate Ownership on Corporate 14

Debt Policy

Problem Statement 15

Objective of the Study 17

171 General Objective 18

172 Specific Objective 18

Significance of the Study 19

Scope of the Study 20

vii

I

CHAPTER 2 LITERATURE REVIEW

20 Introduction 21

21 Ownership Structure and Corporate Perfonnance 21

22 Corporate Debt Policy and Dividend Policy 24

23 Determinants ofCapital Structure and Ownership 28

Structure

24 Ownership Structure and Banking Industry 30

25 Ownership Structure and Corporate Governance 32

26 Ownership Structure and Agency Theory 35

CHAPTER 3 METHODOLOGY

30 Introduction 43

31 Theoretical Framework 43

311 Agency Theory 44

312 Pecking Order Theory 46

32 Conceptual Framework 47

33 Definition and Measurement ofthe Variables 49

331 Dependent Variable 50

tI 332 Independent Variables 50

333 Hypothesis of the Study 52

334 Summary ofthe Measurement Variables 53

34 Data and Sample 55

35 Data Analysis 56

351 Pooled Ordinary Least Square (OLS) Regression 56

viii

352 Estimation Model 58

36 Diagnostic Checking Tests and Stability Tests 59

361 Histogram and Normality Test 59

362 Breush-Godfrey Serial Correlation LM Test 60

363 Heteroskedasticity 61

364 Ramseys RESET Test 62

365 CUSUM Test 63

366 CUSUM of Squares Test 64

CHAPTER 4 EMPIRICAL RESULTS AND DISCUSSIONS

40 Introduction 66

41 Descriptive Analysis 66

42 Pooled OLS Reslllts 68

421 Profitability of Return on Asset 69

422 Firm Risk 70

423 Firm Size 71

424 Growth Opportunity 71

425 Managerial Ownership 72

426 Institutional Ownenhip 73

43 Diagnostic Checking Tests and Stability Tests Results 73

431 Normality Test Results 74

432Breush-Godfrey Serial Correlation LM Test 75

Results

433Heteroskedasticity Test Resuts Based on ARCH 75

ix

44

CHAPTERS

50

51

52

53

54

REFERENCES

364 Ramseys RESET Test Results

365 CUSUM Test Results

366 CUSUM of Squares Test Results

Chapter Remark

CONCLUSION AND RECOMMENDATION

Introduction

Conclusion Remark

Policy Implication

Recommendation

Limitation of the Study

76

77

78

80

83

83

86

87

88

90

x

1

2

3

4

5

6

7

8

LIST OF TABLES

Table Title Page

Summary of the Literature Review 38

Summary of the Measurement Variables 54

Descriptive Statistics ofDependent and Independent Variables 67

Correlation Matrix of the Debt Ratio and Explanatory Variables 68

Pooled OLS Regressions Results of Debt Ratio Analysis 69

Breush-Godfrey Serial Correlation LM Test Results 75

ARCH Test Results 76

Ramseys RESET Test Results 77

xi

LIST OF FIGURES

Figure Title Page

1 Conceptual Framework ofthe Impact of Ownership Structure 48

on Debt Policy

2 The Normality Test Results 74

3 CUSUM Test Results 78

4 CUSUM of Squares Test Results 79

xii

CHAPTER

INTRODUCTION

10 Overview of the Study

Corporate governance is an important aspect ofthe corporate environment It is

related to corporate control and ownership structure of a firm in a corporation

According to Hitt et aI (1999) strategic management and performance of firms are

regulated and controlled by corporate governance Besides it is used in

organization to establish command between firms owners and its top-level

managers whose interests may be in conflict Hence the separation of interests

among stakeholders in corporation csm lead to agency problem

In Malaysia corporate governance is highly concentrated in the hands of large

shareholders or controlling shareholders The shareholders are given the rights to

provide incentives that can affect decision-making in the corporation and exercise

the voting control over shares which may diverge significantly in cash flow rights

(Ishak amp Napier 2006) According to Ghazali (2007) family-owned and

government-owned companies are the common types of ownership structure in

Malaysia Generally Malaysia has five largest shareholders which own 60 or

more of the public listed companies equity The top largest shareholders are the

nominee companies followed by non-financial companies and the government

Nor et al (2010) stated that corporate governance in Malaysia vanes

according to the ownership structure of the corporate sector Tne dispersed

ownership situation in Malaysia is observed to be similar in United States of

America (USA) and United Kingdoms (UK) common law legal system The

ownership is observed from two perspectives which are ownership concentration

and the components of ownership concentration They are used as a proxy for

corporate governance mechanisms Besides the ownership can be categorized into

institutional ownership government ownership and the nominees as well as the

individuals who own the companies As further added by Ayoib et al (2003) the

government has established the Finance Committee on Corporate Governance and

the Malaysian Institute ofCorporate Governance (MICG) to review and strengthen

corporate governance in Malaysia In addition the Malaysian Institute of

Accountants (MliA) the Kuala Lumpur Stock Exchange (KLSE) and the Securities

Commission (SC) were fonned to enhance the corporate governance in Malaysia

Moreover the Malaysian government has changed the merged banking groups

compositionof ownership structure in the post-crisis years When the bank merger

programme was completed to consolidate the number of domestic commercial

banks were reduced from 20 in 1999 to lOin 2001 (Lum amp Koh 2007) Hence the

study concluded that the consolidation programme has resulted in larger and better

capitalised domestic banking institutions but do not have any significant impact on

the composition ofownership structure in the banking industry

2

11 Background of the Study

Agency problem is a popular issue that exists commonly in a corporation

There are several studies which provide evidence on the effects of agency conflicts

on corporate governance Rimbey (1998) found that the distribution of shares

among the outside shareholders is a device to mitigate agency costs and affect the

fIrms capital structure Therefore ownership represents a power that can be used

either to support or oppose existing management that is related to the concentration

or dispersion of the power

On the other hand managerial ownership is an important internal monitoring

force as a determinant of risk The risk is a central theme in financial economics

which is related to managerial ownership corporate debt and dividend policies

(Chen amp Steiner 1999) The determinants ofmanagerial ownership include the risk

debt and dividends which are treated as endogenous variable in the model Many

previous studies have found that managerial ownership has a signifIcant impact on

the levels of risk

Nevertheless Andreyeva (2001) claimed that the role of privatization in the evolution of a transparent private ownership structure is important to establish a

successful market The organizational financial structures and managerial behavior

of privatization transforms are the goals for the fIrm to maximize the profIt The

corporate governance system is a way to determine the ultimate success of

3

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

ABSTRAK

Kesan struktur pemilikan mengikut dasar hutang korporat industri perbankan

di Malaysia

Oleh

Wong Siik Ching

Kertas kerja ini mengkaji kesan struktur pemilikan mengikut dasar hutang

korporat industri perbankan di Malaysia Kajian ini juga mengenal pasti penentu

struktur pemilikan dalam perbankan Malaysia Sampel kajian ini memberi tumpuan

kepada 8 bank-bank tempatan yang disenaraikan di Bursa Malaysia antara tahun 2005

hingga tahun 2010 Suatu dikumpulkan persegi biasa (OLS) analisis digunakan untuk

melihat hubungan antara struktur pemilikan dengan dasar hutang korporat dalam

perbankan Malaysia Hasil kajian menunjukkan bahawa terdapat hubungan yang

signifikan antara keuntungan dengan nisbah hutang Walau bagaimanapun keputusan

mendapati bahawa saiz firma peluang pertumbuhan dan pemilikan institusi

mempunyai hubungan positif yang signifikan dengan nisbah hutang Sebaliknya

risiko yang kukuh dan pemilikan pengurus mempunyai kesan yang signifikan negatif

ke atas nisbah hutang Penemuan ini adalah selaras dengan teori pesanan combinasi

dan teori agensi Oleh sebab itu dasar hutang korporat boleh digunakan sebagai

mekanisme untuk mengurangkan konflik agensi dalam perbankan Malaysia

ACKNOWLEDGEMENT

This thesis was completed with the supports and assistance from many people

who are important in my life Firstly I would like to thank my supervisor Associate

Professor Dr Puah Chin Hong for his guidance and support throughout the study He

is kind to provide invaluable advices and comments in enhancing my knowledge to

write a good scientific research He has helped me greatly to solve the problem in the

study

Besides I want to take the opportunity to extend my gratitude to all my lectures

at Universiti Malaysia Sarawak especially for those who have helped me and given

me the supports and encouragements in the study I appreciate the lecturers who were

willing to share their experiences and knowledge for helping me to complete my

thesis

Furthermore I would like to express my appreciation to my family members for

providing me their support when I was suffering and stressful They are good

listeners and assist me to increase my confidence for completing my thesis on time

Last but not the least I would like to thank my friends who have given their support

inspiration understanding and advice that has helped me to complete my final year

project

I

List of Tables

List of Figures

CHAPTER 1

10

11

12

13

14

15

16

17

18

19

Pusat Khidmat MakJumat Akademik UNlVERSm MALAYSIA SARAWAK

TABLE OF CONTENTS

Xl

Xll

INTRODUCTION

Overview of the Study 1

Background of the Study 3

Definition ofOwnership Structure 7

121 The Types of Ownership Strucutre 8

Definition of Corporate Debt Policy 10

The Detenninants of Capital Structure 11

The Impact ofCorporate Ownership on Corporate 14

Debt Policy

Problem Statement 15

Objective of the Study 17

171 General Objective 18

172 Specific Objective 18

Significance of the Study 19

Scope of the Study 20

vii

I

CHAPTER 2 LITERATURE REVIEW

20 Introduction 21

21 Ownership Structure and Corporate Perfonnance 21

22 Corporate Debt Policy and Dividend Policy 24

23 Determinants ofCapital Structure and Ownership 28

Structure

24 Ownership Structure and Banking Industry 30

25 Ownership Structure and Corporate Governance 32

26 Ownership Structure and Agency Theory 35

CHAPTER 3 METHODOLOGY

30 Introduction 43

31 Theoretical Framework 43

311 Agency Theory 44

312 Pecking Order Theory 46

32 Conceptual Framework 47

33 Definition and Measurement ofthe Variables 49

331 Dependent Variable 50

tI 332 Independent Variables 50

333 Hypothesis of the Study 52

334 Summary ofthe Measurement Variables 53

34 Data and Sample 55

35 Data Analysis 56

351 Pooled Ordinary Least Square (OLS) Regression 56

viii

352 Estimation Model 58

36 Diagnostic Checking Tests and Stability Tests 59

361 Histogram and Normality Test 59

362 Breush-Godfrey Serial Correlation LM Test 60

363 Heteroskedasticity 61

364 Ramseys RESET Test 62

365 CUSUM Test 63

366 CUSUM of Squares Test 64

CHAPTER 4 EMPIRICAL RESULTS AND DISCUSSIONS

40 Introduction 66

41 Descriptive Analysis 66

42 Pooled OLS Reslllts 68

421 Profitability of Return on Asset 69

422 Firm Risk 70

423 Firm Size 71

424 Growth Opportunity 71

425 Managerial Ownership 72

426 Institutional Ownenhip 73

43 Diagnostic Checking Tests and Stability Tests Results 73

431 Normality Test Results 74

432Breush-Godfrey Serial Correlation LM Test 75

Results

433Heteroskedasticity Test Resuts Based on ARCH 75

ix

44

CHAPTERS

50

51

52

53

54

REFERENCES

364 Ramseys RESET Test Results

365 CUSUM Test Results

366 CUSUM of Squares Test Results

Chapter Remark

CONCLUSION AND RECOMMENDATION

Introduction

Conclusion Remark

Policy Implication

Recommendation

Limitation of the Study

76

77

78

80

83

83

86

87

88

90

x

1

2

3

4

5

6

7

8

LIST OF TABLES

Table Title Page

Summary of the Literature Review 38

Summary of the Measurement Variables 54

Descriptive Statistics ofDependent and Independent Variables 67

Correlation Matrix of the Debt Ratio and Explanatory Variables 68

Pooled OLS Regressions Results of Debt Ratio Analysis 69

Breush-Godfrey Serial Correlation LM Test Results 75

ARCH Test Results 76

Ramseys RESET Test Results 77

xi

LIST OF FIGURES

Figure Title Page

1 Conceptual Framework ofthe Impact of Ownership Structure 48

on Debt Policy

2 The Normality Test Results 74

3 CUSUM Test Results 78

4 CUSUM of Squares Test Results 79

xii

CHAPTER

INTRODUCTION

10 Overview of the Study

Corporate governance is an important aspect ofthe corporate environment It is

related to corporate control and ownership structure of a firm in a corporation

According to Hitt et aI (1999) strategic management and performance of firms are

regulated and controlled by corporate governance Besides it is used in

organization to establish command between firms owners and its top-level

managers whose interests may be in conflict Hence the separation of interests

among stakeholders in corporation csm lead to agency problem

In Malaysia corporate governance is highly concentrated in the hands of large

shareholders or controlling shareholders The shareholders are given the rights to

provide incentives that can affect decision-making in the corporation and exercise

the voting control over shares which may diverge significantly in cash flow rights

(Ishak amp Napier 2006) According to Ghazali (2007) family-owned and

government-owned companies are the common types of ownership structure in

Malaysia Generally Malaysia has five largest shareholders which own 60 or

more of the public listed companies equity The top largest shareholders are the

nominee companies followed by non-financial companies and the government

Nor et al (2010) stated that corporate governance in Malaysia vanes

according to the ownership structure of the corporate sector Tne dispersed

ownership situation in Malaysia is observed to be similar in United States of

America (USA) and United Kingdoms (UK) common law legal system The

ownership is observed from two perspectives which are ownership concentration

and the components of ownership concentration They are used as a proxy for

corporate governance mechanisms Besides the ownership can be categorized into

institutional ownership government ownership and the nominees as well as the

individuals who own the companies As further added by Ayoib et al (2003) the

government has established the Finance Committee on Corporate Governance and

the Malaysian Institute ofCorporate Governance (MICG) to review and strengthen

corporate governance in Malaysia In addition the Malaysian Institute of

Accountants (MliA) the Kuala Lumpur Stock Exchange (KLSE) and the Securities

Commission (SC) were fonned to enhance the corporate governance in Malaysia

Moreover the Malaysian government has changed the merged banking groups

compositionof ownership structure in the post-crisis years When the bank merger

programme was completed to consolidate the number of domestic commercial

banks were reduced from 20 in 1999 to lOin 2001 (Lum amp Koh 2007) Hence the

study concluded that the consolidation programme has resulted in larger and better

capitalised domestic banking institutions but do not have any significant impact on

the composition ofownership structure in the banking industry

2

11 Background of the Study

Agency problem is a popular issue that exists commonly in a corporation

There are several studies which provide evidence on the effects of agency conflicts

on corporate governance Rimbey (1998) found that the distribution of shares

among the outside shareholders is a device to mitigate agency costs and affect the

fIrms capital structure Therefore ownership represents a power that can be used

either to support or oppose existing management that is related to the concentration

or dispersion of the power

On the other hand managerial ownership is an important internal monitoring

force as a determinant of risk The risk is a central theme in financial economics

which is related to managerial ownership corporate debt and dividend policies

(Chen amp Steiner 1999) The determinants ofmanagerial ownership include the risk

debt and dividends which are treated as endogenous variable in the model Many

previous studies have found that managerial ownership has a signifIcant impact on

the levels of risk

Nevertheless Andreyeva (2001) claimed that the role of privatization in the evolution of a transparent private ownership structure is important to establish a

successful market The organizational financial structures and managerial behavior

of privatization transforms are the goals for the fIrm to maximize the profIt The

corporate governance system is a way to determine the ultimate success of

3

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

ACKNOWLEDGEMENT

This thesis was completed with the supports and assistance from many people

who are important in my life Firstly I would like to thank my supervisor Associate

Professor Dr Puah Chin Hong for his guidance and support throughout the study He

is kind to provide invaluable advices and comments in enhancing my knowledge to

write a good scientific research He has helped me greatly to solve the problem in the

study

Besides I want to take the opportunity to extend my gratitude to all my lectures

at Universiti Malaysia Sarawak especially for those who have helped me and given

me the supports and encouragements in the study I appreciate the lecturers who were

willing to share their experiences and knowledge for helping me to complete my

thesis

Furthermore I would like to express my appreciation to my family members for

providing me their support when I was suffering and stressful They are good

listeners and assist me to increase my confidence for completing my thesis on time

Last but not the least I would like to thank my friends who have given their support

inspiration understanding and advice that has helped me to complete my final year

project

I

List of Tables

List of Figures

CHAPTER 1

10

11

12

13

14

15

16

17

18

19

Pusat Khidmat MakJumat Akademik UNlVERSm MALAYSIA SARAWAK

TABLE OF CONTENTS

Xl

Xll

INTRODUCTION

Overview of the Study 1

Background of the Study 3

Definition ofOwnership Structure 7

121 The Types of Ownership Strucutre 8

Definition of Corporate Debt Policy 10

The Detenninants of Capital Structure 11

The Impact ofCorporate Ownership on Corporate 14

Debt Policy

Problem Statement 15

Objective of the Study 17

171 General Objective 18

172 Specific Objective 18

Significance of the Study 19

Scope of the Study 20

vii

I

CHAPTER 2 LITERATURE REVIEW

20 Introduction 21

21 Ownership Structure and Corporate Perfonnance 21

22 Corporate Debt Policy and Dividend Policy 24

23 Determinants ofCapital Structure and Ownership 28

Structure

24 Ownership Structure and Banking Industry 30

25 Ownership Structure and Corporate Governance 32

26 Ownership Structure and Agency Theory 35

CHAPTER 3 METHODOLOGY

30 Introduction 43

31 Theoretical Framework 43

311 Agency Theory 44

312 Pecking Order Theory 46

32 Conceptual Framework 47

33 Definition and Measurement ofthe Variables 49

331 Dependent Variable 50

tI 332 Independent Variables 50

333 Hypothesis of the Study 52

334 Summary ofthe Measurement Variables 53

34 Data and Sample 55

35 Data Analysis 56

351 Pooled Ordinary Least Square (OLS) Regression 56

viii

352 Estimation Model 58

36 Diagnostic Checking Tests and Stability Tests 59

361 Histogram and Normality Test 59

362 Breush-Godfrey Serial Correlation LM Test 60

363 Heteroskedasticity 61

364 Ramseys RESET Test 62

365 CUSUM Test 63

366 CUSUM of Squares Test 64

CHAPTER 4 EMPIRICAL RESULTS AND DISCUSSIONS

40 Introduction 66

41 Descriptive Analysis 66

42 Pooled OLS Reslllts 68

421 Profitability of Return on Asset 69

422 Firm Risk 70

423 Firm Size 71

424 Growth Opportunity 71

425 Managerial Ownership 72

426 Institutional Ownenhip 73

43 Diagnostic Checking Tests and Stability Tests Results 73

431 Normality Test Results 74

432Breush-Godfrey Serial Correlation LM Test 75

Results

433Heteroskedasticity Test Resuts Based on ARCH 75

ix

44

CHAPTERS

50

51

52

53

54

REFERENCES

364 Ramseys RESET Test Results

365 CUSUM Test Results

366 CUSUM of Squares Test Results

Chapter Remark

CONCLUSION AND RECOMMENDATION

Introduction

Conclusion Remark

Policy Implication

Recommendation

Limitation of the Study

76

77

78

80

83

83

86

87

88

90

x

1

2

3

4

5

6

7

8

LIST OF TABLES

Table Title Page

Summary of the Literature Review 38

Summary of the Measurement Variables 54

Descriptive Statistics ofDependent and Independent Variables 67

Correlation Matrix of the Debt Ratio and Explanatory Variables 68

Pooled OLS Regressions Results of Debt Ratio Analysis 69

Breush-Godfrey Serial Correlation LM Test Results 75

ARCH Test Results 76

Ramseys RESET Test Results 77

xi

LIST OF FIGURES

Figure Title Page

1 Conceptual Framework ofthe Impact of Ownership Structure 48

on Debt Policy

2 The Normality Test Results 74

3 CUSUM Test Results 78

4 CUSUM of Squares Test Results 79

xii

CHAPTER

INTRODUCTION

10 Overview of the Study

Corporate governance is an important aspect ofthe corporate environment It is

related to corporate control and ownership structure of a firm in a corporation

According to Hitt et aI (1999) strategic management and performance of firms are

regulated and controlled by corporate governance Besides it is used in

organization to establish command between firms owners and its top-level

managers whose interests may be in conflict Hence the separation of interests

among stakeholders in corporation csm lead to agency problem

In Malaysia corporate governance is highly concentrated in the hands of large

shareholders or controlling shareholders The shareholders are given the rights to

provide incentives that can affect decision-making in the corporation and exercise

the voting control over shares which may diverge significantly in cash flow rights

(Ishak amp Napier 2006) According to Ghazali (2007) family-owned and

government-owned companies are the common types of ownership structure in

Malaysia Generally Malaysia has five largest shareholders which own 60 or

more of the public listed companies equity The top largest shareholders are the

nominee companies followed by non-financial companies and the government

Nor et al (2010) stated that corporate governance in Malaysia vanes

according to the ownership structure of the corporate sector Tne dispersed

ownership situation in Malaysia is observed to be similar in United States of

America (USA) and United Kingdoms (UK) common law legal system The

ownership is observed from two perspectives which are ownership concentration

and the components of ownership concentration They are used as a proxy for

corporate governance mechanisms Besides the ownership can be categorized into

institutional ownership government ownership and the nominees as well as the

individuals who own the companies As further added by Ayoib et al (2003) the

government has established the Finance Committee on Corporate Governance and

the Malaysian Institute ofCorporate Governance (MICG) to review and strengthen

corporate governance in Malaysia In addition the Malaysian Institute of

Accountants (MliA) the Kuala Lumpur Stock Exchange (KLSE) and the Securities

Commission (SC) were fonned to enhance the corporate governance in Malaysia

Moreover the Malaysian government has changed the merged banking groups

compositionof ownership structure in the post-crisis years When the bank merger

programme was completed to consolidate the number of domestic commercial

banks were reduced from 20 in 1999 to lOin 2001 (Lum amp Koh 2007) Hence the

study concluded that the consolidation programme has resulted in larger and better

capitalised domestic banking institutions but do not have any significant impact on

the composition ofownership structure in the banking industry

2

11 Background of the Study

Agency problem is a popular issue that exists commonly in a corporation

There are several studies which provide evidence on the effects of agency conflicts

on corporate governance Rimbey (1998) found that the distribution of shares

among the outside shareholders is a device to mitigate agency costs and affect the

fIrms capital structure Therefore ownership represents a power that can be used

either to support or oppose existing management that is related to the concentration

or dispersion of the power

On the other hand managerial ownership is an important internal monitoring

force as a determinant of risk The risk is a central theme in financial economics

which is related to managerial ownership corporate debt and dividend policies

(Chen amp Steiner 1999) The determinants ofmanagerial ownership include the risk

debt and dividends which are treated as endogenous variable in the model Many

previous studies have found that managerial ownership has a signifIcant impact on

the levels of risk

Nevertheless Andreyeva (2001) claimed that the role of privatization in the evolution of a transparent private ownership structure is important to establish a

successful market The organizational financial structures and managerial behavior

of privatization transforms are the goals for the fIrm to maximize the profIt The

corporate governance system is a way to determine the ultimate success of

3

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

List of Tables

List of Figures

CHAPTER 1

10

11

12

13

14

15

16

17

18

19

Pusat Khidmat MakJumat Akademik UNlVERSm MALAYSIA SARAWAK

TABLE OF CONTENTS

Xl

Xll

INTRODUCTION

Overview of the Study 1

Background of the Study 3

Definition ofOwnership Structure 7

121 The Types of Ownership Strucutre 8

Definition of Corporate Debt Policy 10

The Detenninants of Capital Structure 11

The Impact ofCorporate Ownership on Corporate 14

Debt Policy

Problem Statement 15

Objective of the Study 17

171 General Objective 18

172 Specific Objective 18

Significance of the Study 19

Scope of the Study 20

vii

I

CHAPTER 2 LITERATURE REVIEW

20 Introduction 21

21 Ownership Structure and Corporate Perfonnance 21

22 Corporate Debt Policy and Dividend Policy 24

23 Determinants ofCapital Structure and Ownership 28

Structure

24 Ownership Structure and Banking Industry 30

25 Ownership Structure and Corporate Governance 32

26 Ownership Structure and Agency Theory 35

CHAPTER 3 METHODOLOGY

30 Introduction 43

31 Theoretical Framework 43

311 Agency Theory 44

312 Pecking Order Theory 46

32 Conceptual Framework 47

33 Definition and Measurement ofthe Variables 49

331 Dependent Variable 50

tI 332 Independent Variables 50

333 Hypothesis of the Study 52

334 Summary ofthe Measurement Variables 53

34 Data and Sample 55

35 Data Analysis 56

351 Pooled Ordinary Least Square (OLS) Regression 56

viii

352 Estimation Model 58

36 Diagnostic Checking Tests and Stability Tests 59

361 Histogram and Normality Test 59

362 Breush-Godfrey Serial Correlation LM Test 60

363 Heteroskedasticity 61

364 Ramseys RESET Test 62

365 CUSUM Test 63

366 CUSUM of Squares Test 64

CHAPTER 4 EMPIRICAL RESULTS AND DISCUSSIONS

40 Introduction 66

41 Descriptive Analysis 66

42 Pooled OLS Reslllts 68

421 Profitability of Return on Asset 69

422 Firm Risk 70

423 Firm Size 71

424 Growth Opportunity 71

425 Managerial Ownership 72

426 Institutional Ownenhip 73

43 Diagnostic Checking Tests and Stability Tests Results 73

431 Normality Test Results 74

432Breush-Godfrey Serial Correlation LM Test 75

Results

433Heteroskedasticity Test Resuts Based on ARCH 75

ix

44

CHAPTERS

50

51

52

53

54

REFERENCES

364 Ramseys RESET Test Results

365 CUSUM Test Results

366 CUSUM of Squares Test Results

Chapter Remark

CONCLUSION AND RECOMMENDATION

Introduction

Conclusion Remark

Policy Implication

Recommendation

Limitation of the Study

76

77

78

80

83

83

86

87

88

90

x

1

2

3

4

5

6

7

8

LIST OF TABLES

Table Title Page

Summary of the Literature Review 38

Summary of the Measurement Variables 54

Descriptive Statistics ofDependent and Independent Variables 67

Correlation Matrix of the Debt Ratio and Explanatory Variables 68

Pooled OLS Regressions Results of Debt Ratio Analysis 69

Breush-Godfrey Serial Correlation LM Test Results 75

ARCH Test Results 76

Ramseys RESET Test Results 77

xi

LIST OF FIGURES

Figure Title Page

1 Conceptual Framework ofthe Impact of Ownership Structure 48

on Debt Policy

2 The Normality Test Results 74

3 CUSUM Test Results 78

4 CUSUM of Squares Test Results 79

xii

CHAPTER

INTRODUCTION

10 Overview of the Study

Corporate governance is an important aspect ofthe corporate environment It is

related to corporate control and ownership structure of a firm in a corporation

According to Hitt et aI (1999) strategic management and performance of firms are

regulated and controlled by corporate governance Besides it is used in

organization to establish command between firms owners and its top-level

managers whose interests may be in conflict Hence the separation of interests

among stakeholders in corporation csm lead to agency problem

In Malaysia corporate governance is highly concentrated in the hands of large

shareholders or controlling shareholders The shareholders are given the rights to

provide incentives that can affect decision-making in the corporation and exercise

the voting control over shares which may diverge significantly in cash flow rights

(Ishak amp Napier 2006) According to Ghazali (2007) family-owned and

government-owned companies are the common types of ownership structure in

Malaysia Generally Malaysia has five largest shareholders which own 60 or

more of the public listed companies equity The top largest shareholders are the

nominee companies followed by non-financial companies and the government

Nor et al (2010) stated that corporate governance in Malaysia vanes

according to the ownership structure of the corporate sector Tne dispersed

ownership situation in Malaysia is observed to be similar in United States of

America (USA) and United Kingdoms (UK) common law legal system The

ownership is observed from two perspectives which are ownership concentration

and the components of ownership concentration They are used as a proxy for

corporate governance mechanisms Besides the ownership can be categorized into

institutional ownership government ownership and the nominees as well as the

individuals who own the companies As further added by Ayoib et al (2003) the

government has established the Finance Committee on Corporate Governance and

the Malaysian Institute ofCorporate Governance (MICG) to review and strengthen

corporate governance in Malaysia In addition the Malaysian Institute of

Accountants (MliA) the Kuala Lumpur Stock Exchange (KLSE) and the Securities

Commission (SC) were fonned to enhance the corporate governance in Malaysia

Moreover the Malaysian government has changed the merged banking groups

compositionof ownership structure in the post-crisis years When the bank merger

programme was completed to consolidate the number of domestic commercial

banks were reduced from 20 in 1999 to lOin 2001 (Lum amp Koh 2007) Hence the

study concluded that the consolidation programme has resulted in larger and better

capitalised domestic banking institutions but do not have any significant impact on

the composition ofownership structure in the banking industry

2

11 Background of the Study

Agency problem is a popular issue that exists commonly in a corporation

There are several studies which provide evidence on the effects of agency conflicts

on corporate governance Rimbey (1998) found that the distribution of shares

among the outside shareholders is a device to mitigate agency costs and affect the

fIrms capital structure Therefore ownership represents a power that can be used

either to support or oppose existing management that is related to the concentration

or dispersion of the power

On the other hand managerial ownership is an important internal monitoring

force as a determinant of risk The risk is a central theme in financial economics

which is related to managerial ownership corporate debt and dividend policies

(Chen amp Steiner 1999) The determinants ofmanagerial ownership include the risk

debt and dividends which are treated as endogenous variable in the model Many

previous studies have found that managerial ownership has a signifIcant impact on

the levels of risk

Nevertheless Andreyeva (2001) claimed that the role of privatization in the evolution of a transparent private ownership structure is important to establish a

successful market The organizational financial structures and managerial behavior

of privatization transforms are the goals for the fIrm to maximize the profIt The

corporate governance system is a way to determine the ultimate success of

3

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

CHAPTER 2 LITERATURE REVIEW

20 Introduction 21

21 Ownership Structure and Corporate Perfonnance 21

22 Corporate Debt Policy and Dividend Policy 24

23 Determinants ofCapital Structure and Ownership 28

Structure

24 Ownership Structure and Banking Industry 30

25 Ownership Structure and Corporate Governance 32

26 Ownership Structure and Agency Theory 35

CHAPTER 3 METHODOLOGY

30 Introduction 43

31 Theoretical Framework 43

311 Agency Theory 44

312 Pecking Order Theory 46

32 Conceptual Framework 47

33 Definition and Measurement ofthe Variables 49

331 Dependent Variable 50

tI 332 Independent Variables 50

333 Hypothesis of the Study 52

334 Summary ofthe Measurement Variables 53

34 Data and Sample 55

35 Data Analysis 56

351 Pooled Ordinary Least Square (OLS) Regression 56

viii

352 Estimation Model 58

36 Diagnostic Checking Tests and Stability Tests 59

361 Histogram and Normality Test 59

362 Breush-Godfrey Serial Correlation LM Test 60

363 Heteroskedasticity 61

364 Ramseys RESET Test 62

365 CUSUM Test 63

366 CUSUM of Squares Test 64

CHAPTER 4 EMPIRICAL RESULTS AND DISCUSSIONS

40 Introduction 66

41 Descriptive Analysis 66

42 Pooled OLS Reslllts 68

421 Profitability of Return on Asset 69

422 Firm Risk 70

423 Firm Size 71

424 Growth Opportunity 71

425 Managerial Ownership 72

426 Institutional Ownenhip 73

43 Diagnostic Checking Tests and Stability Tests Results 73

431 Normality Test Results 74

432Breush-Godfrey Serial Correlation LM Test 75

Results

433Heteroskedasticity Test Resuts Based on ARCH 75

ix

44

CHAPTERS

50

51

52

53

54

REFERENCES

364 Ramseys RESET Test Results

365 CUSUM Test Results

366 CUSUM of Squares Test Results

Chapter Remark

CONCLUSION AND RECOMMENDATION

Introduction

Conclusion Remark

Policy Implication

Recommendation

Limitation of the Study

76

77

78

80

83

83

86

87

88

90

x

1

2

3

4

5

6

7

8

LIST OF TABLES

Table Title Page

Summary of the Literature Review 38

Summary of the Measurement Variables 54

Descriptive Statistics ofDependent and Independent Variables 67

Correlation Matrix of the Debt Ratio and Explanatory Variables 68

Pooled OLS Regressions Results of Debt Ratio Analysis 69

Breush-Godfrey Serial Correlation LM Test Results 75

ARCH Test Results 76

Ramseys RESET Test Results 77

xi

LIST OF FIGURES

Figure Title Page

1 Conceptual Framework ofthe Impact of Ownership Structure 48

on Debt Policy

2 The Normality Test Results 74

3 CUSUM Test Results 78

4 CUSUM of Squares Test Results 79

xii

CHAPTER

INTRODUCTION

10 Overview of the Study

Corporate governance is an important aspect ofthe corporate environment It is

related to corporate control and ownership structure of a firm in a corporation

According to Hitt et aI (1999) strategic management and performance of firms are

regulated and controlled by corporate governance Besides it is used in

organization to establish command between firms owners and its top-level

managers whose interests may be in conflict Hence the separation of interests

among stakeholders in corporation csm lead to agency problem

In Malaysia corporate governance is highly concentrated in the hands of large

shareholders or controlling shareholders The shareholders are given the rights to

provide incentives that can affect decision-making in the corporation and exercise

the voting control over shares which may diverge significantly in cash flow rights

(Ishak amp Napier 2006) According to Ghazali (2007) family-owned and

government-owned companies are the common types of ownership structure in

Malaysia Generally Malaysia has five largest shareholders which own 60 or

more of the public listed companies equity The top largest shareholders are the

nominee companies followed by non-financial companies and the government

Nor et al (2010) stated that corporate governance in Malaysia vanes

according to the ownership structure of the corporate sector Tne dispersed

ownership situation in Malaysia is observed to be similar in United States of

America (USA) and United Kingdoms (UK) common law legal system The

ownership is observed from two perspectives which are ownership concentration

and the components of ownership concentration They are used as a proxy for

corporate governance mechanisms Besides the ownership can be categorized into

institutional ownership government ownership and the nominees as well as the

individuals who own the companies As further added by Ayoib et al (2003) the

government has established the Finance Committee on Corporate Governance and

the Malaysian Institute ofCorporate Governance (MICG) to review and strengthen

corporate governance in Malaysia In addition the Malaysian Institute of

Accountants (MliA) the Kuala Lumpur Stock Exchange (KLSE) and the Securities

Commission (SC) were fonned to enhance the corporate governance in Malaysia

Moreover the Malaysian government has changed the merged banking groups

compositionof ownership structure in the post-crisis years When the bank merger

programme was completed to consolidate the number of domestic commercial

banks were reduced from 20 in 1999 to lOin 2001 (Lum amp Koh 2007) Hence the

study concluded that the consolidation programme has resulted in larger and better

capitalised domestic banking institutions but do not have any significant impact on

the composition ofownership structure in the banking industry

2

11 Background of the Study

Agency problem is a popular issue that exists commonly in a corporation

There are several studies which provide evidence on the effects of agency conflicts

on corporate governance Rimbey (1998) found that the distribution of shares

among the outside shareholders is a device to mitigate agency costs and affect the

fIrms capital structure Therefore ownership represents a power that can be used

either to support or oppose existing management that is related to the concentration

or dispersion of the power

On the other hand managerial ownership is an important internal monitoring

force as a determinant of risk The risk is a central theme in financial economics

which is related to managerial ownership corporate debt and dividend policies

(Chen amp Steiner 1999) The determinants ofmanagerial ownership include the risk

debt and dividends which are treated as endogenous variable in the model Many

previous studies have found that managerial ownership has a signifIcant impact on

the levels of risk

Nevertheless Andreyeva (2001) claimed that the role of privatization in the evolution of a transparent private ownership structure is important to establish a

successful market The organizational financial structures and managerial behavior

of privatization transforms are the goals for the fIrm to maximize the profIt The

corporate governance system is a way to determine the ultimate success of

3

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

352 Estimation Model 58

36 Diagnostic Checking Tests and Stability Tests 59

361 Histogram and Normality Test 59

362 Breush-Godfrey Serial Correlation LM Test 60

363 Heteroskedasticity 61

364 Ramseys RESET Test 62

365 CUSUM Test 63

366 CUSUM of Squares Test 64

CHAPTER 4 EMPIRICAL RESULTS AND DISCUSSIONS

40 Introduction 66

41 Descriptive Analysis 66

42 Pooled OLS Reslllts 68

421 Profitability of Return on Asset 69

422 Firm Risk 70

423 Firm Size 71

424 Growth Opportunity 71

425 Managerial Ownership 72

426 Institutional Ownenhip 73

43 Diagnostic Checking Tests and Stability Tests Results 73

431 Normality Test Results 74

432Breush-Godfrey Serial Correlation LM Test 75

Results

433Heteroskedasticity Test Resuts Based on ARCH 75

ix

44

CHAPTERS

50

51

52

53

54

REFERENCES

364 Ramseys RESET Test Results

365 CUSUM Test Results

366 CUSUM of Squares Test Results

Chapter Remark

CONCLUSION AND RECOMMENDATION

Introduction

Conclusion Remark

Policy Implication

Recommendation

Limitation of the Study

76

77

78

80

83

83

86

87

88

90

x

1

2

3

4

5

6

7

8

LIST OF TABLES

Table Title Page

Summary of the Literature Review 38

Summary of the Measurement Variables 54

Descriptive Statistics ofDependent and Independent Variables 67

Correlation Matrix of the Debt Ratio and Explanatory Variables 68

Pooled OLS Regressions Results of Debt Ratio Analysis 69

Breush-Godfrey Serial Correlation LM Test Results 75

ARCH Test Results 76

Ramseys RESET Test Results 77

xi

LIST OF FIGURES

Figure Title Page

1 Conceptual Framework ofthe Impact of Ownership Structure 48

on Debt Policy

2 The Normality Test Results 74

3 CUSUM Test Results 78

4 CUSUM of Squares Test Results 79

xii

CHAPTER

INTRODUCTION

10 Overview of the Study

Corporate governance is an important aspect ofthe corporate environment It is

related to corporate control and ownership structure of a firm in a corporation

According to Hitt et aI (1999) strategic management and performance of firms are

regulated and controlled by corporate governance Besides it is used in

organization to establish command between firms owners and its top-level

managers whose interests may be in conflict Hence the separation of interests

among stakeholders in corporation csm lead to agency problem

In Malaysia corporate governance is highly concentrated in the hands of large

shareholders or controlling shareholders The shareholders are given the rights to

provide incentives that can affect decision-making in the corporation and exercise

the voting control over shares which may diverge significantly in cash flow rights

(Ishak amp Napier 2006) According to Ghazali (2007) family-owned and

government-owned companies are the common types of ownership structure in

Malaysia Generally Malaysia has five largest shareholders which own 60 or

more of the public listed companies equity The top largest shareholders are the

nominee companies followed by non-financial companies and the government

Nor et al (2010) stated that corporate governance in Malaysia vanes

according to the ownership structure of the corporate sector Tne dispersed

ownership situation in Malaysia is observed to be similar in United States of

America (USA) and United Kingdoms (UK) common law legal system The

ownership is observed from two perspectives which are ownership concentration

and the components of ownership concentration They are used as a proxy for

corporate governance mechanisms Besides the ownership can be categorized into

institutional ownership government ownership and the nominees as well as the

individuals who own the companies As further added by Ayoib et al (2003) the

government has established the Finance Committee on Corporate Governance and

the Malaysian Institute ofCorporate Governance (MICG) to review and strengthen

corporate governance in Malaysia In addition the Malaysian Institute of

Accountants (MliA) the Kuala Lumpur Stock Exchange (KLSE) and the Securities

Commission (SC) were fonned to enhance the corporate governance in Malaysia

Moreover the Malaysian government has changed the merged banking groups

compositionof ownership structure in the post-crisis years When the bank merger

programme was completed to consolidate the number of domestic commercial

banks were reduced from 20 in 1999 to lOin 2001 (Lum amp Koh 2007) Hence the

study concluded that the consolidation programme has resulted in larger and better

capitalised domestic banking institutions but do not have any significant impact on

the composition ofownership structure in the banking industry

2

11 Background of the Study

Agency problem is a popular issue that exists commonly in a corporation

There are several studies which provide evidence on the effects of agency conflicts

on corporate governance Rimbey (1998) found that the distribution of shares

among the outside shareholders is a device to mitigate agency costs and affect the

fIrms capital structure Therefore ownership represents a power that can be used

either to support or oppose existing management that is related to the concentration

or dispersion of the power

On the other hand managerial ownership is an important internal monitoring

force as a determinant of risk The risk is a central theme in financial economics

which is related to managerial ownership corporate debt and dividend policies

(Chen amp Steiner 1999) The determinants ofmanagerial ownership include the risk

debt and dividends which are treated as endogenous variable in the model Many

previous studies have found that managerial ownership has a signifIcant impact on

the levels of risk

Nevertheless Andreyeva (2001) claimed that the role of privatization in the evolution of a transparent private ownership structure is important to establish a

successful market The organizational financial structures and managerial behavior

of privatization transforms are the goals for the fIrm to maximize the profIt The

corporate governance system is a way to determine the ultimate success of

3

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

44

CHAPTERS

50

51

52

53

54

REFERENCES

364 Ramseys RESET Test Results

365 CUSUM Test Results

366 CUSUM of Squares Test Results

Chapter Remark

CONCLUSION AND RECOMMENDATION

Introduction

Conclusion Remark

Policy Implication

Recommendation

Limitation of the Study

76

77

78

80

83

83

86

87

88

90

x

1

2

3

4

5

6

7

8

LIST OF TABLES

Table Title Page

Summary of the Literature Review 38

Summary of the Measurement Variables 54

Descriptive Statistics ofDependent and Independent Variables 67

Correlation Matrix of the Debt Ratio and Explanatory Variables 68

Pooled OLS Regressions Results of Debt Ratio Analysis 69

Breush-Godfrey Serial Correlation LM Test Results 75

ARCH Test Results 76

Ramseys RESET Test Results 77

xi

LIST OF FIGURES

Figure Title Page

1 Conceptual Framework ofthe Impact of Ownership Structure 48

on Debt Policy

2 The Normality Test Results 74

3 CUSUM Test Results 78

4 CUSUM of Squares Test Results 79

xii

CHAPTER

INTRODUCTION

10 Overview of the Study

Corporate governance is an important aspect ofthe corporate environment It is

related to corporate control and ownership structure of a firm in a corporation

According to Hitt et aI (1999) strategic management and performance of firms are

regulated and controlled by corporate governance Besides it is used in

organization to establish command between firms owners and its top-level

managers whose interests may be in conflict Hence the separation of interests

among stakeholders in corporation csm lead to agency problem

In Malaysia corporate governance is highly concentrated in the hands of large

shareholders or controlling shareholders The shareholders are given the rights to

provide incentives that can affect decision-making in the corporation and exercise

the voting control over shares which may diverge significantly in cash flow rights

(Ishak amp Napier 2006) According to Ghazali (2007) family-owned and

government-owned companies are the common types of ownership structure in

Malaysia Generally Malaysia has five largest shareholders which own 60 or

more of the public listed companies equity The top largest shareholders are the

nominee companies followed by non-financial companies and the government

Nor et al (2010) stated that corporate governance in Malaysia vanes

according to the ownership structure of the corporate sector Tne dispersed

ownership situation in Malaysia is observed to be similar in United States of

America (USA) and United Kingdoms (UK) common law legal system The

ownership is observed from two perspectives which are ownership concentration

and the components of ownership concentration They are used as a proxy for

corporate governance mechanisms Besides the ownership can be categorized into

institutional ownership government ownership and the nominees as well as the

individuals who own the companies As further added by Ayoib et al (2003) the

government has established the Finance Committee on Corporate Governance and

the Malaysian Institute ofCorporate Governance (MICG) to review and strengthen

corporate governance in Malaysia In addition the Malaysian Institute of

Accountants (MliA) the Kuala Lumpur Stock Exchange (KLSE) and the Securities

Commission (SC) were fonned to enhance the corporate governance in Malaysia

Moreover the Malaysian government has changed the merged banking groups

compositionof ownership structure in the post-crisis years When the bank merger

programme was completed to consolidate the number of domestic commercial

banks were reduced from 20 in 1999 to lOin 2001 (Lum amp Koh 2007) Hence the

study concluded that the consolidation programme has resulted in larger and better

capitalised domestic banking institutions but do not have any significant impact on

the composition ofownership structure in the banking industry

2

11 Background of the Study

Agency problem is a popular issue that exists commonly in a corporation

There are several studies which provide evidence on the effects of agency conflicts

on corporate governance Rimbey (1998) found that the distribution of shares

among the outside shareholders is a device to mitigate agency costs and affect the

fIrms capital structure Therefore ownership represents a power that can be used

either to support or oppose existing management that is related to the concentration

or dispersion of the power

On the other hand managerial ownership is an important internal monitoring

force as a determinant of risk The risk is a central theme in financial economics

which is related to managerial ownership corporate debt and dividend policies

(Chen amp Steiner 1999) The determinants ofmanagerial ownership include the risk

debt and dividends which are treated as endogenous variable in the model Many

previous studies have found that managerial ownership has a signifIcant impact on

the levels of risk

Nevertheless Andreyeva (2001) claimed that the role of privatization in the evolution of a transparent private ownership structure is important to establish a

successful market The organizational financial structures and managerial behavior

of privatization transforms are the goals for the fIrm to maximize the profIt The

corporate governance system is a way to determine the ultimate success of

3

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

1

2

3

4

5

6

7

8

LIST OF TABLES

Table Title Page

Summary of the Literature Review 38

Summary of the Measurement Variables 54

Descriptive Statistics ofDependent and Independent Variables 67

Correlation Matrix of the Debt Ratio and Explanatory Variables 68

Pooled OLS Regressions Results of Debt Ratio Analysis 69

Breush-Godfrey Serial Correlation LM Test Results 75

ARCH Test Results 76

Ramseys RESET Test Results 77

xi

LIST OF FIGURES

Figure Title Page

1 Conceptual Framework ofthe Impact of Ownership Structure 48

on Debt Policy

2 The Normality Test Results 74

3 CUSUM Test Results 78

4 CUSUM of Squares Test Results 79

xii

CHAPTER

INTRODUCTION

10 Overview of the Study

Corporate governance is an important aspect ofthe corporate environment It is

related to corporate control and ownership structure of a firm in a corporation

According to Hitt et aI (1999) strategic management and performance of firms are

regulated and controlled by corporate governance Besides it is used in

organization to establish command between firms owners and its top-level

managers whose interests may be in conflict Hence the separation of interests

among stakeholders in corporation csm lead to agency problem

In Malaysia corporate governance is highly concentrated in the hands of large

shareholders or controlling shareholders The shareholders are given the rights to

provide incentives that can affect decision-making in the corporation and exercise

the voting control over shares which may diverge significantly in cash flow rights

(Ishak amp Napier 2006) According to Ghazali (2007) family-owned and

government-owned companies are the common types of ownership structure in

Malaysia Generally Malaysia has five largest shareholders which own 60 or

more of the public listed companies equity The top largest shareholders are the

nominee companies followed by non-financial companies and the government

Nor et al (2010) stated that corporate governance in Malaysia vanes

according to the ownership structure of the corporate sector Tne dispersed

ownership situation in Malaysia is observed to be similar in United States of

America (USA) and United Kingdoms (UK) common law legal system The

ownership is observed from two perspectives which are ownership concentration

and the components of ownership concentration They are used as a proxy for

corporate governance mechanisms Besides the ownership can be categorized into

institutional ownership government ownership and the nominees as well as the

individuals who own the companies As further added by Ayoib et al (2003) the

government has established the Finance Committee on Corporate Governance and

the Malaysian Institute ofCorporate Governance (MICG) to review and strengthen

corporate governance in Malaysia In addition the Malaysian Institute of

Accountants (MliA) the Kuala Lumpur Stock Exchange (KLSE) and the Securities

Commission (SC) were fonned to enhance the corporate governance in Malaysia

Moreover the Malaysian government has changed the merged banking groups

compositionof ownership structure in the post-crisis years When the bank merger

programme was completed to consolidate the number of domestic commercial

banks were reduced from 20 in 1999 to lOin 2001 (Lum amp Koh 2007) Hence the

study concluded that the consolidation programme has resulted in larger and better

capitalised domestic banking institutions but do not have any significant impact on

the composition ofownership structure in the banking industry

2

11 Background of the Study

Agency problem is a popular issue that exists commonly in a corporation

There are several studies which provide evidence on the effects of agency conflicts

on corporate governance Rimbey (1998) found that the distribution of shares

among the outside shareholders is a device to mitigate agency costs and affect the

fIrms capital structure Therefore ownership represents a power that can be used

either to support or oppose existing management that is related to the concentration

or dispersion of the power

On the other hand managerial ownership is an important internal monitoring

force as a determinant of risk The risk is a central theme in financial economics

which is related to managerial ownership corporate debt and dividend policies

(Chen amp Steiner 1999) The determinants ofmanagerial ownership include the risk

debt and dividends which are treated as endogenous variable in the model Many

previous studies have found that managerial ownership has a signifIcant impact on

the levels of risk

Nevertheless Andreyeva (2001) claimed that the role of privatization in the evolution of a transparent private ownership structure is important to establish a

successful market The organizational financial structures and managerial behavior

of privatization transforms are the goals for the fIrm to maximize the profIt The

corporate governance system is a way to determine the ultimate success of

3

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

LIST OF FIGURES

Figure Title Page

1 Conceptual Framework ofthe Impact of Ownership Structure 48

on Debt Policy

2 The Normality Test Results 74

3 CUSUM Test Results 78

4 CUSUM of Squares Test Results 79

xii

CHAPTER

INTRODUCTION

10 Overview of the Study

Corporate governance is an important aspect ofthe corporate environment It is

related to corporate control and ownership structure of a firm in a corporation

According to Hitt et aI (1999) strategic management and performance of firms are

regulated and controlled by corporate governance Besides it is used in

organization to establish command between firms owners and its top-level

managers whose interests may be in conflict Hence the separation of interests

among stakeholders in corporation csm lead to agency problem

In Malaysia corporate governance is highly concentrated in the hands of large

shareholders or controlling shareholders The shareholders are given the rights to

provide incentives that can affect decision-making in the corporation and exercise

the voting control over shares which may diverge significantly in cash flow rights

(Ishak amp Napier 2006) According to Ghazali (2007) family-owned and

government-owned companies are the common types of ownership structure in

Malaysia Generally Malaysia has five largest shareholders which own 60 or

more of the public listed companies equity The top largest shareholders are the

nominee companies followed by non-financial companies and the government

Nor et al (2010) stated that corporate governance in Malaysia vanes

according to the ownership structure of the corporate sector Tne dispersed

ownership situation in Malaysia is observed to be similar in United States of

America (USA) and United Kingdoms (UK) common law legal system The

ownership is observed from two perspectives which are ownership concentration

and the components of ownership concentration They are used as a proxy for

corporate governance mechanisms Besides the ownership can be categorized into

institutional ownership government ownership and the nominees as well as the

individuals who own the companies As further added by Ayoib et al (2003) the

government has established the Finance Committee on Corporate Governance and

the Malaysian Institute ofCorporate Governance (MICG) to review and strengthen

corporate governance in Malaysia In addition the Malaysian Institute of

Accountants (MliA) the Kuala Lumpur Stock Exchange (KLSE) and the Securities

Commission (SC) were fonned to enhance the corporate governance in Malaysia

Moreover the Malaysian government has changed the merged banking groups

compositionof ownership structure in the post-crisis years When the bank merger

programme was completed to consolidate the number of domestic commercial

banks were reduced from 20 in 1999 to lOin 2001 (Lum amp Koh 2007) Hence the

study concluded that the consolidation programme has resulted in larger and better

capitalised domestic banking institutions but do not have any significant impact on

the composition ofownership structure in the banking industry

2

11 Background of the Study

Agency problem is a popular issue that exists commonly in a corporation

There are several studies which provide evidence on the effects of agency conflicts

on corporate governance Rimbey (1998) found that the distribution of shares

among the outside shareholders is a device to mitigate agency costs and affect the

fIrms capital structure Therefore ownership represents a power that can be used

either to support or oppose existing management that is related to the concentration

or dispersion of the power

On the other hand managerial ownership is an important internal monitoring

force as a determinant of risk The risk is a central theme in financial economics

which is related to managerial ownership corporate debt and dividend policies

(Chen amp Steiner 1999) The determinants ofmanagerial ownership include the risk

debt and dividends which are treated as endogenous variable in the model Many

previous studies have found that managerial ownership has a signifIcant impact on

the levels of risk

Nevertheless Andreyeva (2001) claimed that the role of privatization in the evolution of a transparent private ownership structure is important to establish a

successful market The organizational financial structures and managerial behavior

of privatization transforms are the goals for the fIrm to maximize the profIt The

corporate governance system is a way to determine the ultimate success of

3

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

CHAPTER

INTRODUCTION

10 Overview of the Study

Corporate governance is an important aspect ofthe corporate environment It is

related to corporate control and ownership structure of a firm in a corporation

According to Hitt et aI (1999) strategic management and performance of firms are

regulated and controlled by corporate governance Besides it is used in

organization to establish command between firms owners and its top-level

managers whose interests may be in conflict Hence the separation of interests

among stakeholders in corporation csm lead to agency problem

In Malaysia corporate governance is highly concentrated in the hands of large

shareholders or controlling shareholders The shareholders are given the rights to

provide incentives that can affect decision-making in the corporation and exercise

the voting control over shares which may diverge significantly in cash flow rights

(Ishak amp Napier 2006) According to Ghazali (2007) family-owned and

government-owned companies are the common types of ownership structure in

Malaysia Generally Malaysia has five largest shareholders which own 60 or

more of the public listed companies equity The top largest shareholders are the

nominee companies followed by non-financial companies and the government

Nor et al (2010) stated that corporate governance in Malaysia vanes

according to the ownership structure of the corporate sector Tne dispersed

ownership situation in Malaysia is observed to be similar in United States of

America (USA) and United Kingdoms (UK) common law legal system The

ownership is observed from two perspectives which are ownership concentration

and the components of ownership concentration They are used as a proxy for

corporate governance mechanisms Besides the ownership can be categorized into

institutional ownership government ownership and the nominees as well as the

individuals who own the companies As further added by Ayoib et al (2003) the

government has established the Finance Committee on Corporate Governance and

the Malaysian Institute ofCorporate Governance (MICG) to review and strengthen

corporate governance in Malaysia In addition the Malaysian Institute of

Accountants (MliA) the Kuala Lumpur Stock Exchange (KLSE) and the Securities

Commission (SC) were fonned to enhance the corporate governance in Malaysia

Moreover the Malaysian government has changed the merged banking groups

compositionof ownership structure in the post-crisis years When the bank merger

programme was completed to consolidate the number of domestic commercial

banks were reduced from 20 in 1999 to lOin 2001 (Lum amp Koh 2007) Hence the

study concluded that the consolidation programme has resulted in larger and better

capitalised domestic banking institutions but do not have any significant impact on

the composition ofownership structure in the banking industry

2

11 Background of the Study

Agency problem is a popular issue that exists commonly in a corporation

There are several studies which provide evidence on the effects of agency conflicts

on corporate governance Rimbey (1998) found that the distribution of shares

among the outside shareholders is a device to mitigate agency costs and affect the

fIrms capital structure Therefore ownership represents a power that can be used

either to support or oppose existing management that is related to the concentration

or dispersion of the power

On the other hand managerial ownership is an important internal monitoring

force as a determinant of risk The risk is a central theme in financial economics

which is related to managerial ownership corporate debt and dividend policies

(Chen amp Steiner 1999) The determinants ofmanagerial ownership include the risk

debt and dividends which are treated as endogenous variable in the model Many

previous studies have found that managerial ownership has a signifIcant impact on

the levels of risk

Nevertheless Andreyeva (2001) claimed that the role of privatization in the evolution of a transparent private ownership structure is important to establish a

successful market The organizational financial structures and managerial behavior

of privatization transforms are the goals for the fIrm to maximize the profIt The

corporate governance system is a way to determine the ultimate success of

3

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

Nor et al (2010) stated that corporate governance in Malaysia vanes

according to the ownership structure of the corporate sector Tne dispersed

ownership situation in Malaysia is observed to be similar in United States of

America (USA) and United Kingdoms (UK) common law legal system The

ownership is observed from two perspectives which are ownership concentration

and the components of ownership concentration They are used as a proxy for

corporate governance mechanisms Besides the ownership can be categorized into

institutional ownership government ownership and the nominees as well as the

individuals who own the companies As further added by Ayoib et al (2003) the

government has established the Finance Committee on Corporate Governance and

the Malaysian Institute ofCorporate Governance (MICG) to review and strengthen

corporate governance in Malaysia In addition the Malaysian Institute of

Accountants (MliA) the Kuala Lumpur Stock Exchange (KLSE) and the Securities

Commission (SC) were fonned to enhance the corporate governance in Malaysia

Moreover the Malaysian government has changed the merged banking groups

compositionof ownership structure in the post-crisis years When the bank merger

programme was completed to consolidate the number of domestic commercial

banks were reduced from 20 in 1999 to lOin 2001 (Lum amp Koh 2007) Hence the

study concluded that the consolidation programme has resulted in larger and better

capitalised domestic banking institutions but do not have any significant impact on

the composition ofownership structure in the banking industry

2

11 Background of the Study

Agency problem is a popular issue that exists commonly in a corporation

There are several studies which provide evidence on the effects of agency conflicts

on corporate governance Rimbey (1998) found that the distribution of shares

among the outside shareholders is a device to mitigate agency costs and affect the

fIrms capital structure Therefore ownership represents a power that can be used

either to support or oppose existing management that is related to the concentration

or dispersion of the power

On the other hand managerial ownership is an important internal monitoring

force as a determinant of risk The risk is a central theme in financial economics

which is related to managerial ownership corporate debt and dividend policies

(Chen amp Steiner 1999) The determinants ofmanagerial ownership include the risk

debt and dividends which are treated as endogenous variable in the model Many

previous studies have found that managerial ownership has a signifIcant impact on

the levels of risk

Nevertheless Andreyeva (2001) claimed that the role of privatization in the evolution of a transparent private ownership structure is important to establish a

successful market The organizational financial structures and managerial behavior

of privatization transforms are the goals for the fIrm to maximize the profIt The

corporate governance system is a way to determine the ultimate success of

3

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

11 Background of the Study

Agency problem is a popular issue that exists commonly in a corporation

There are several studies which provide evidence on the effects of agency conflicts

on corporate governance Rimbey (1998) found that the distribution of shares

among the outside shareholders is a device to mitigate agency costs and affect the

fIrms capital structure Therefore ownership represents a power that can be used

either to support or oppose existing management that is related to the concentration

or dispersion of the power

On the other hand managerial ownership is an important internal monitoring

force as a determinant of risk The risk is a central theme in financial economics

which is related to managerial ownership corporate debt and dividend policies

(Chen amp Steiner 1999) The determinants ofmanagerial ownership include the risk

debt and dividends which are treated as endogenous variable in the model Many

previous studies have found that managerial ownership has a signifIcant impact on

the levels of risk

Nevertheless Andreyeva (2001) claimed that the role of privatization in the evolution of a transparent private ownership structure is important to establish a

successful market The organizational financial structures and managerial behavior

of privatization transforms are the goals for the fIrm to maximize the profIt The

corporate governance system is a way to determine the ultimate success of

3

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

privatization to get the gains The ownership structure and corporate governance

systems from privatization will give impact on company performance This

provides existing knowledge for the policy implications of the transition

economies

The ownership structure of a corporation is considered as an endogenous

outcome ofdecisions that reflect the influence ofshareholders and oftrading on the

market for shares (Demsetz amp Villallonga 2001) The firms ownership structure

reflects the decisions made by the shareholders The ownership structure should be

influenced by the profit-maximizing interests of shareholders As a result there is

no systematic relation between variations in ownership structure and firm

performance Hence ownership structure is treated as an endogenous variable and

gives no evidence of a relation between profit rate and ownership concentration

The measurement of firm performance and ownership structure is not endogenous

in the estimation of the effect of ownership on performance It models ownership

structure as an endogenous variable and it examines two dimensions of this

structure to represent conflicting interests by the five largest shareholding interests

However Chu and Cheah (2004) argued that the ownership structures have an

effect on the development and performance of capital and debt market It is a high

concentration structure to distribute capital allocation in an efficiency economy

The ownership structure in capital market activeness can be promoted as investors

4

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

Pusat Khidruat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

can gam entry and exit easily In addition to that managers can control the

ownership and adjust the proportion ofdebt and equity to invest the capital and get

the gain Hence ownership structure plays an important role in the governance and

performance of firms

Craswell et al (1997) proved that the influence ofmanagerial and institutional

equity ownership is highly related to corporate performance They examined the

effects of both insider and institutional ownership of Australian corporate

performance Australian firms have significantly different legal and econOmIC

circumstances as compared to the firms in the US The fmdings indicate that there is

a weak relationship between institutional ownership and corporate performance

The result is found to be temporaly unstable and confined to large Australian

companies The evidence is not consistent with corporate performance related to

the level of institutional ownership A significant relationship between equity

ownership structure and corporate performance implies corrective transfers of

equity between insiders outsiders and the successful survival of firms with

effectively non-optimal ownership structures which casts doubt on the existence of

any generalized equilibrium Ifthe o~nership structure is endogenous the firms are

systematically related to equity ownership

5

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

In Malaysia the ownership concentration is weaker than other developed

countries and the institutional ownership is less than 20 ofthe outstanding shares

(Joher et aI 2006) The three ownership structures of corporation are institutional

ownership managerial ownership and individual ownership These three types of

ownership structures can affect ftrm performance and value by mitigating agency

costs of the firm Therefore the impact of institutional ownership on insider

ownership and corporate debt policy in Malaysia is investigated to provide

empirical evidence on corporate control in developed market

Various issues regarding the efficiency and the safety ofbanking industries are

increasing due to the financial crisis in 1997 (Barry et aI 2008) After the financial

crisis the banking system is reforme~ by bank regulators and they also carried out

several measures to provide efficient banking services to sustain the economy One

ofthe measures is when the government decided to change management ownership

and governance to avoid closure ofdistressed banks Moreover Asian governments

encouraged safe banks to merge with distressed banks to restore the financial

viability ofdmiddotistressed banks After the 1997 financial crisis the ownership structure

and the governance of banks are moified by bank restructuring program Hence

this study attempts to examine the impact ofownership structure on corporate debt

policy in Malaysian banking industry between from 2005 and 201 O

6

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

12 Definition of Ownership Structure

Generally ownership structure is defined as the identity of the equity owners

and distribution of equity regarding votes and capital These structures are

important in corporate governance to detennine the incentives of managers and

manage the economic efficiency of the corporations (Ownership Structure 2011)

Gursoyand Aydogan (1998) stipulated that ownership structure is categorized

into two dimensions which are ownership concentration and ownership mix

Ownership concentration refers to the distribution of the shares owned by a certain

number of individuals institutions and families On the other hand ownership mix

is related to the presence of certain institutions or groups such as government or

foreign partners among the shareholders These two categories of measures

incorporate both the influence power of shareholders as well as identity of owners

with their unique incentive mechanisms and preferences

7

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

121 The Types of Ownership Structure

Ownership structures are commonly divided into several types namely

managerial ownership family ownership and institutional ownership

(a) Managerial Ownership

According to Joher et al (2006) managerial ownership is an ownership which

consists of directors managers and other members in management to hold the

shares directly in a corporation The managerial ownership of equity can mitigate

the moral hazard problem between managers and shareholders Jensen and

Meckling (1976) argued that agency problem can reduce to moral hazard between

manager and owners if there were no debt contracts This is because managerial

ownership can be effective in aligning the managerial interest with outside

shareholders to mitigate the agency problems Datta et al (2004) also discovered

that the managers with high equity ownership prefer short maturity debt for

facilitating the agency conflicts of managerial discretion However Hashim and

Devi (2008) pointed out that the correlation between managerial and inside

ownership is a high positive relationship which is operated by the inside

management

8

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

(b) Family Ownership

Family ownership is a type ofownership that is owned entirely by the members

of a single family in a corporation The family ownership of corporate governance

is mostly operated by Asian firms According to Hashim and Devi (2008) family

ownership provides incentives to reduce the agency cost by aligning shareholders

and managerial interest They found that there is a positive and significant

relationship between family ownership and earnings quality They also proved that

family members who have greater expertise on firms operations can operate the

firms activities effectively to reduce the agency cost Nevertheless Villalonga and

Amit (2006) argued that family ownership makes profits for corporation when the

founder is active in the firm as the Chi~fExecutive Officer (CEO) or Chairman with

a hired CEO They also found that the agency conflicts exist between minority

shareholders and managers when the corporate government is performed by

descendant-CEO

(c) Institutional Ownership

Institutional ownership is an ownership of flllancial institution which includes

pension funds mutual funds closed-end fund life insurance companies savings

institutions and trust department of commercial banks (Joher et aI 2006)

According to Hashim and Devi (2008) the participation of institutional investors in

9

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

corporate governance plays an important role to protect minority shareholders

interest and mitigate the agency problem It is noted that there is a positive and

significant relationship between institutional ownership and earnings quality Thus

it indicates that the institutional have greater incentives to monitor firms activities

and the corporate government practices are improved by the involvement of

institutional investors participation

13 Definition of Corporate Debt Policy

Corporate debt policy is a non-government debt security which is divided into

short-term debt and long-term debt The short-term debt is issued as commercial

paper and long-term debt is issued as bonds It normally includes the council tax

housing rents business rates benefit overpayments legal costs and debtors

Besides the corporate debt policy is responsible to collect debt form citizens and

provides advice and practical help in the management ofvarious debts (Leeds City

Council Corporate Debt Policy 2010) It sets out the principles to maximize

collection performance from collecting debt Therefore it is the provision of

support mechanisms to all customer~

10

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

14 The Determinants of Capital Structure

According to the pecking order theory and agency theory the detenninants of

capital structure cover the profitability finn size tangibility growth opportunity

and firm risk These determinants of ownership structure will affect the firms

leverage or debt ratio

Banchuenvijit (2011) defined profitability as the determinant of capital

structure The pecking order theory prefers internal financing in which profitable

fInns will employ higher retained earning with higher profitability to hold less debt

Many empirical studies have found that there is a negative relationship between

~

profitability and leverage The fInn uses its own cash flow instead ofusing debt to

fmance its operations and investment opportunities when there is a negative sign

However Cespedes et al (2008) proved that the relationship between profitability

and leverage is a positive based on trade-off theory This is because the trade-off

theory is expected to show a positive sign when the firms debt level is higher It

implies that the higher the firms profitability the higher the potential tax shields

Pandey (2001) argued that the finn will employ high debt to gain tax benefits to get

higher profits based on interest tax sliield hypothesis proposed in the theory by

Modigliani and Miller (1963)

11

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12

Besides firm size is found to be a positive detenninant of capital structure as

indicated in many previous studies However it implies a negative relation between

size and leverage when larger firms are expected to have less information

asymmetries in issuing debt or equity (Banchuenvijit 20 11) Chu and Cheah (2004)

pointed out that large firm size indicates the firm will share the risk and less asset

will be shared specificity between the firms founders On the other hand smaller

firm size and net cash flow will share the risk with large concentrated ownership

As stated by Pandey (200 I) large firms will employ higher amount of debt than

small firms because smaller firms would have less long-term debt and more

short-term debt due to the shareholders-lenders conflict Lamba and Stapledon

(2009) mentioned that larger firms tend to issue more shares than smaller finns and

are less likely to have a controlling shareholder

The term tangibility refers to tangible assets act as collateral and provides

security to lenders iffmancial distress based on trade-off hypothesis The firms are

expected have a high level of debt because of the higher tangible assets (Pandey

2001) Furthermore Banchuenvijit (2011) stated that there is a positive relationship

between tangibility and leverage when the firms are expected to issue high level of

debt can borrow on favorable terms with tangible assets that can be used as

collateral However there is a negative relationship between tangibility and

leverage when the firm has lower information asymmetries with tangible assets

Therefore it will cause equity issue to be less costly and lower the leverage ratios

12