The Impact of Corporate Governance on Performance in the Nigerian Banking Industry

The Impact of Corporate Governance on Performance in the Nigerian Banking Industry

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Abstract on The Impact of Corporate Governance on Performance in the Nigerian Banking Industry

This empirical study, seeks to determine the impact of corporate governance mechanisms on the performance of banks in Nigeria. An intensive review of literature was conducted to identify the various aspects of corporate governance and the roles they play in determining corporate performance. In this study, board size and board independence represented corporate governance while return on equity and return on assets proxied firm performance. The Ordinary Least Squares (OLS) technique was applied on data gathered from 5 Commercial Banks firms over the period 2008 to 2012. The findings of this study indicate that elements of corporate governance such as board size and board independence have negative effects on the performance of firms, as measured by the return on assets and return on equity.

Chapter One of The Impact of Corporate Governance on Performance in the Nigerian Banking Industry

INTRODUCTION

BACKGROUND TO THE STUDY

Corporate Governance is the system by which corporations are directed and controlled (Rezaee, 2009). The corporate governance structure specifies the distribution of rights and responsibilities among different participants in the corporation such as; boards, managers, shareholders and other stakeholders and spells out the rules and procedures and also decision making assistance on corporate affairs (Magdi and Nadereh, 2002). By doing this, it also provides the structure through which the company objectives are set, the means of obtaining those objectives and examining the value and the performance of the firms. Effective corporate governance is considered as ensuring corporate accountability, enhancing the reliability and quality of financial information, and therefore enhancing the integrity and efficiency of capital markets, which in turn will improve investors’ confidence (Rezaee, 2009).

Corporate governance involves a system by which governing institutions and all other organizations relate to their communities and stakeholders to improve their quality of life. (Ato, 2002). It is therefore important that good corporate governance ensures transparency, accountability and fairness in reporting. In this regard, corporate governance is not only concerned with corporate efficiency, but also relates to a much wider range of company strategies and life cycle development (Mayer, 2007). It is also concerned with the ways parties (stake holders) interested in the wellbeing of firms ensure that managers and other insiders adopt mechanisms to safeguard the interest of the shareholders. (Ahmadu and Tukur, 2005). Corporate governance is based on the level of corporate responsibility a company exhibits with regard to accountability, transparency and ethical values. Corporate governance has also been defined by Keasey et al (1997) to include, “the structures, processes, cultures and systems that engender the successful operation of organizations”. The definition could therefore be centered on how the organization relates with other stake holders within an environment. Therefore, corporate governance describes how companies ought to be run, directed and controlled (Cadbury Committee, 1992). It is about supervising and holding to account those who direct and control the management.

Corporate governance is an important effort to ensure accountability and responsibility and a set of principles, which should be incorporated into every part of the organization. Though it is viewed as a recent issue, there is, in fact, nothing new about the concept. Corporate governance has been in existence as long as the corporation itself – as long as there has been large–scale trade, reflecting the need for responsibility in the handling of money and the conduct of commercial activities (Metrick and Ishii, 2002). Corporate governance has succeeded in attracting a great deal of interest as it focuses not only on the long-term relationship, which has to deal with checks and balances, incentives for managers and communications between management and investors but also on transactional relationship, which involves dealing with disclosure and authority (Tandelilin et al. , 2007).

The challenge of corporate governance could help to align the interests of individuals, corporations and society through a fundamental ethical basis. This it will fulfill the long-term strategic goal of the owners, which, after survival may consist of building shareholder value, establishing a dominant market share or maintaining a technical lead in a chosen sphere (Yetman,2004). It will certainly not be the same for all organizations, but will take into account the expectations of all the key stakeholders, in particular: considering and caring for the interests of employees, customers and suppliers, stockholders and debt holders, state and local community, both in terms of the physical effects of the company’s operations and the economic and cultural interaction with the population. The outcome of a good corporate governance practice is an accountable board of directors who ensures that the investors’ interests are not jeopardized (Hashanah and Mazlina, 2005).

Desai and Yetman (2004), identified two areas of agency problems that make human ability to make allocative decision imperfect; the cognitive and behavioral limitations. The cognitive limitation is hidden information, also known as bounded rationality. This prevents investors from knowing a priori whether the managers, whom they have employed as their agents, allocate resources in the most efficient manner. The behavioral limitation, also known as opportunism, is hidden action that reflects the productivity, inherent in an individualistic society of managers as agents to use their positions for resources allocation to pursue their own selfish interest and not necessarily the interest of the firm’s principals. This makes it very crucial and important to study the existence of the influence of corporate governance on the performance of firms.

STATEMENT OF PROBLEM

Banks and other financial intermediaries are at the heart of the world’s recent financial crisis. The deterioration of their asset portfolios, largely due to distorted credit management, was one of the main structural sources of the crisis (Sanusi, 2010). In Nigeria, before the consolidation exercise, the banking industry had about 89 active players whose overall performance led to sagging of customers’ confidence. There was lingering distress in the industry, the supervisory structures were inadequate and there were cases of official recklessness amongst the managers and directors, while the industry was notorious for ethical abuses (Akpan, 2007).   Poor corporate governance was identified as one of the major factors in virtually, all known instances of bank distress in the country. Weak corporate governance was seen manifesting in form of weak internal control systems, excessive risk taking, override of internal control measures, absence of or non-adherence to limits of authority, disregard for cannons of prudent lending, absence of risk management processes, insider abuses and fraudulent practices remained a worrisome feature of the banking system (Soludo, 2004).  The problem of corporate governance still remains un-resolved among consolidated Nigerian banks, thereby increasing the level of fraud (Akpan, 2007). The current banking crises in Nigeria, has been linked with governance malpractice within the consolidated banks which has therefore become a way of life in large parts of the sector. He further opined that corporate governance in many banks failed because boards ignored these practices for reasons including being misled by executive management, participating themselves in obtaining un-secured loans at the expense of depositors and not having the qualifications to enforce good governance on bank management (Sanusi ,2010).

OBJECTIVES OF THE STUDY

The main  objective of this study is to ascertain the impact of corporate governance on performance in Nigerian commercial banks. To achieve this, the research is focused on the following specific objectives:

1. Examine the conceptual framework of corporate governance in commercial banks in Nigeria.

ii.   Determine the extent of corporate governance practices in operation in the banking sector

1. Ascertain the impact of Board Size on corporate performance.

iv.   Determine how the level of independence of directors influences the returns of banks.

v.    Ascertain the factors that affect the levels of governance adopted.

RESEARCH QUESTIONS

The study will attempt to answer the following research questions:

1. i.   To what extent do commercial banks in Nigeria practice and adhere to corporate governance principles?

ii. Does the size of a board have an impact on the corporate performance of banks in Nigeria?

iii. What influence does the level of independence of boards have on bank’s performance?

1. iv.   What are the reasons that make firms adopt different levels of governance under the same level of investor protection?

RESEARCH HYPOTHESES

Hypothesis One

H₀: There is no significant relationship between the size of a board and firm performance

in the banking sector in Nigeria

H_1: There is a significant relationship between the size of a board and firm performance

in the banking sector in Nigeria

Hypothesis Two

H₀: Level of board independence has no impact on firm performance in the banking sector

H₁:. Level of board independence impacts on firm performance in the banking sector

SIGNIFICANCE OF THE STUDY

The purpose of this study would be to critically examine, and understand while analyzing the adherence to corporate governance in the Nigerian Commercial banking sector. The outcome of this research is anticipated to contribute to existing body of knowledge.In addition; the study would highlight the regulatory and institutional factors which may affect the adoption, sustainable observation and practices of good corporate governance by banks in Nigeria.

Since the corporate performance of banks and other financial intermediaries is crucial for efficient resource allocation, at the micro and macro levels, this study would show the importance for banks themselves to put in place sound corporate governance. In fact, no one single factor contributes more to institutional problems, capable of precipitating crisis, than the lack of effective corporate governance (Lawal, 2009).

SCOPE OF THE STUDY

This study investigated corporate governance and its impact on performance commercial banks in Nigeria. The choice of this sector is based on the fact that the banking sector’s stability has a large positive externality and banks are the key institutions maintaining the payment system of an economy that is essential for the stability of the financial sector (Achua, K,2007). Financial sector stability, in turn has a profound externality on the economy as a whole. To this end, the study basically covered five of the commercial banks operating in Nigeria till date that met the N25 billion capitalization dead-line of 2005. The study will cover these banks’ activities during the post consolidation period i.e. 2006- 2012.

DEFINITION OF KEY TERMS

CORPORATE GOVERNANCE: is the totality of practices and principles by which a company’s board of directors provide a framework for achieving a company’s objectives. It encompasses every aspect of Management from the conceptualization of plans to the evaluation of performance and disclosure of such performance.

PLANNING: is developing a strategy to accomplish specific objectives set to achieve organizational performance.

ORGANIZATION PERFORMANCE: is the ability of an organization to fulfill its mission through sound management, strong governance and a persistent rededication to achieving results.

PRODUCTIVITY: is the effectiveness of all efforts geared towards set objectives, measured as a relationship between the amount of output produced and the amount of input used to produce that output.

PERFORMANCE: is the result of activities of an organization or investment over a given period of time.

SHAREHOLDER:  is an individual, group, or organization that owns one or more units of shares in a company and who partakes in the financial prosperity or otherwise of the company.

STAKEHOLDERS: A person, group or organization that has an interest or concern in an organization.

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