Ssrn id2284814

Faculty of Postgraduate Studies and Scientific Research
German University in Cairo

The Effects of Corporate Governance on Bank
Performance

A thesis submitted in partial fulfillment of the requirements for the degree of Masters of
Business Administration

By

Ahmed Mohsen Salem Al-Baidhani

Supervised by

Prof. Dr. Ehab K. A. Mohamed
Dr. Mohamed Basuony

May 22, 2013

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Electronic copy available at: http://ssrn.com/abstract=2284814

Abstract
Whereas banks operate under different management, board of directors, ownership
structures, and government regulations, there is no specific optimal corporate governance
model that may be applied to all banks. This study focuses on corporate governance and its
effects on bank performance, regarding both conventional and Islamic banks, verifying the
relationships between corporate governance and bank performance and consequent effects
related thereto.

The study focuses on internal corporate governance factors only.

It

concentrates on investigating the effects of corporate governance on bank performance in
regard to the respective variables, which included investigating the effects of ownership
structure, board structure, audit function, and other related variables, such as bank size, age
and type, on bank’s profitability, measured by each bank’s ROE, ROA, and Profit Margin;
analyzing it through using the Statistical Package for the Social Sciences (SPSS) software,
in terms of descriptive statistics, Pearson correlation matrix, and regression analysis. The
study focuses on conventional and Islamic banks operating in the Republic of Yemen and
the six Gulf Cooperation Council (GCC) countries, namely Bahrain, Kuwait, Oman, Qatar,
Saudi Arabia, and United Arab Emirates. The study indicates that there is a significant
relationship between corporate governance and bank performance through profitability,
measured by ROE, ROA, and Profit Margin. It is found that the two predictors, Age and
Number of Board Meetings, have a positive and significant effect on bank’s profitability
measured by the outcome ROE; that the two predictors, Board Independence and Bank Size,
have a negative and significant effect on bank’s profitability, measured by ROA; and that
there are three corporate governance independent variables, Ownership Concentration, Age,
and Board Committees, of which Age and Board Committees have positive and significant
effects while Ownership Concentration has a negative and significant effect on bank’s
profitability, measured by the dependent variable Profit Margin. These results are consistent
with the results of similar studies referred to hereunder.
Keywords: corporate governance, bank performance, profitability, ROE, ROA, profit
margin, banks, Yemen, GCC countries

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Table of Contents

Abstract……………………………………………………………………………..….1
Table of Contents………………………………………………………………………2
1 Introduction……………………………………………………………….……… 4
2 Literature Review…...……………………………………………….……………...9
2.1 Corporate Governance and Bank Performance…………………………………9
2.2 Corporate Governance Parties…………..………….………………………….10
2.2.1 Internal Governance………………………………...……...……………11
2.2.1.1 Ownership and Control……….…………..…..…………………11
2.2.1.2 Role of Management and Board of Directors….……..…..……..12
2.2.1.3 Role of the Audit Committee and Internal Auditor…..................13
2.2.2 External Governance………...……………………….…….……………14
2.2.2.1 Role of External Auditors……….………..…………………… 15
2.2.2.2 Accepted Accounting Practices…….………..………………….16
2.2.2.3 Government Regulations……..………………….………………16
2.2.3 Basel Accords (Basel Agreements)…………….…….……………….…17
2.2.4 Role of Other Interested Stakeholders……………….………...……...…17
3 Research Methodology…..………………………………...…………...…….........18
3.1 Research Question and Objectives….……………….……………..…..……...18
3.2 Hypotheses……………………………..…………….………………….….....19
3.3 Method and Procedure…………………...………………………………........20
3.4 Sampling and Data Collection……………...……………………………........21
3.5 Variables.…………………...……………………………………………........22
4 Analysis and Discussion….………………………………………………………..25
4.1 Descriptive Analysis………………………………..……………………........25
4.2 Correlation between variables……………………..……………………….....26
4.3 Regression Analysis……………...………………..……………………….....28
4.3.1 The Effects on Profitability, measured by ROE...…......…………….....30
4.3.1.1 Model Summary – ROE…..…………..……………….……....31
4.3.1.2 ANOVA – ROE…..…………………..……………….………31
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4.3.1.3 Coefficients – ROE………………………….…….…….......32
4.3.2 The Effects on Profitability, measured by ROA…………....………...32
4.3.2.1 Model Summary – ROA………………..……….…………...34
4.3.2.2 ANOVA – ROA……………………...……………………...34
4.3.2.3 Coefficients – ROA……………...………………………......35
4.3.3 The Effects on Profitability, measured by Profit Margin…………….35
4.3.3.1 Model Summary – Profit Margin…………...……………….37
4.3.3.2 ANOVA – Profit Margin…………………..………………..38
4.3.3.3 Coefficients – Profit Margin……………..……………….…38
5 Summary and Conclusion….………...….……..………….……………………40
6 Research Limitations…………………..…………………………………….…42
References……………………………………………..….……………….........43
Appendix…….………………………………………….……………………....51

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1 Introduction
Corporate governance is a system used to direct and control an organization. It includes
relationships between, and accountability of, the organization’s stakeholders, as well as the
laws, policies, procedures, practices, standards, and principles which may affect the
organization’s direction and control (Cadbury Report 1992). It also includes reviewing the
organization’s practices and policies in regard to the ethical standards and principles, as well
as the organization’s compliance with its own code of conduct. In order to safeguard their
long-term successes, organizations implement corporate governance to ensure that they are
directed and controlled in a professional, responsible, and transparent manner (SarbanesOxley Act 2002). There are two types of corporate governance: first, internal governance,
such as shareholders, board of directors, managers, and internal auditors; and second,
external governance, such as market incentives, accepted accounting practices, and
government regulations.
The main reasons behind the importance of the current corporate governance are the
separation of organization’s ownership and management control, the corporate scandals
since the 1990s and until now, and management’s accountability to a continuously
increasing number of stakeholders. The increasing demand on the corporate governance and
accountability related to the board of directors, particularly the recent lawsuits and
investigations made the creation of audit committees an extremely necessary step. The
Committee of Sponsoring Organizations of the Treadway Commission (COSO), established
in the United States and supported initially by the Institute of Management Accountants
(IMA), the American Accounting Association (AAA), the American Institute of Certified
Public Accountants (AICPA), the Institute of Internal Auditors (IIA) and Financial
Executives International (FEI) recommended certain oversight practices for audit
committees to follow, providing guidelines about the audit responsibility in evaluating and
strengthening corporate controls.

COSO also provides thought leadership to executive

management and governance entities on critical aspects of organizational governance,
business ethics, internal control, enterprise risk management, fraud, and financial reporting.

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It has established a common internal control model against which companies and
organizations may assess their control systems.
To emphasize on the need for corporate governance, the U.S. Securities and Exchange
Commission (SEC) confirmed its interest in such committees by: (a) urging registrants to
form audit committees comprised of outside directors, (b) requiring all publicly held
companies’ proxies to disclose information about the existence and composition of their
committees, and (c) requiring publicly held companies to state the number of the committee
meetings held annually and to describe their committees’ functions.
As part of the corporate governance mechanism, the committee oversees the organization’s
management, internal and external auditors to protect and preserve the shareholders’ equity
and interests; however, the committee’s nature and scope of work should be reviewed to
make sure that it is capable of playing its role in this regard appropriately, especially after
being recently criticized for its shortcomings in achieving the corporate governance
objectives.
In 1987, the National Committee on Fraudulent Financial Reporting (the Treadway
Commission) was created to identify factors that can lead to fraudulent financial reporting
and recommend procedures to reduce fraud incidences.

The 1987 Treadway report

identified the committees as effective means for corporate governance and suggested a list
of objectives for these committees to consider. Among the numerous recommendations
detailed in the report, the Commission stated that such committees should be informed,
vigilant, and effective overseers of the financial reporting process and the company’s
internal controls.
In order to improve the oversight responsibility related to the committee, board of directors,
management, internal auditors, and external auditors, in 1999 the Blue Ribbon Committee
(BRC) referred to the role of the corporate governance, suggesting that the committee report
should be included annually in the organization’s proxy statement, stating whether the
committee has reviewed and discussed the financial statements with the management and

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the internal auditors. As a corporate governance monitor, the committee should provide the
public with correct, accurate, complete, and reliable information, and it should not leave a
gap for predictions or uninformed expectations.
It is very important to determine and understand the corporate governance oversight and
monitoring functions in order to establish and improve the credibility and trustworthiness of
the relevant committees as a corporate governance mechanism. The Sarbanes-Oxley Act of
2002, which was passed mainly to protect investors, has a big impact on the corporate
governance and accountability, as well as on corporate disclosure. In order to be accepted in
most of the Stock Exchange Markets, an organization should have good corporate
governance.

As part of the corporate governance, the above committees should also

examine the non-audit services, referred to above; Arthur Andersen, for instance, as Enron’s
external auditors, was paid US$27 million for non-audit services, in addition to the US$25
million for auditing services, which created conflict of interest and affected the auditors’
independence negatively. It is expected that the committees will play a broader corporate
governance role in the future, and that the main parties in the governance field support them
strongly; however, observers see that there should be a clear and written statements showing
the corporate governance mechanism, such as the activities, responsibilities, and objectives.
Recent discussions of corporate governance are about the principles raised mainly in three
documents: The Cadbury Report (UK 1992), the Principles of Corporate Governance by
Organization for Economic Co-Operation and Development (OECD Paris 1998 and 2004),
and the Sarbanes-Oxley Act (US Congress 2002). The Cadbury and OECD reports reveal
the general principles around which organizations should operate in order to assure proper
corporate governance. The Sarbanes-Oxley Act, informally referred to as SOX, is
considered a U.S. law issued by the federal government to legislate several of the principles
recommended in the Cadbury and OECD reports, such as the following:


Shareholders’ rights and their exercise of these rights should be respected by their
organizations (e.g., organizations should communicate necessary information to
these shareholders and help them to participate in relevant organizational meetings).
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

Other stakeholders, such as customers, suppliers, employees and local communities,
also have legal and social rights and interests in these organizations which should
show respect and due diligence.



The organization’s board of directors should have the necessary competence and
skills to enable it to review and monitor the management activities. It should also be
committed and independent, and should have the proper size and composition.



The organizations should have a written code of conduct focusing on integrity and
business ethics that should be respected and acted upon by the board of directors,
managers, and other officers in the organization. Such code should also be used in
selecting new officers, managers, or directors for the organization.



In order to meet the disclosure and transparency requirements, the roles, authorities,
and responsibilities of the board of directors and management should be clear and
made public to the relevant stakeholders to know who is accountable and what
his/her accountability is. Meanwhile, the organization’s financial reports should be
clear, true, transparent, and all necessary and material information should be
disclosed.

Bank governance was altered tremendously during the 1990s and early 2000s, principally
due to bank ownership changes, such as mergers and acquisitions (Berger et al. 2005; and
Arouri et al. 2011). The worldwide financial crisis of 2008, which started in the United
States, was attributable to U.S. banks’ excessive risk-taking. Consequently, in order to
control such risk and draw people’s attention to the agency problem within banks, there are
statements made by bankers, central bank officials, and other related authorities,
emphasizing the importance of effective corporate governance in the banking industry since
2008 and until now (Beltratti and Stulz 2009; and Peni and Vahamaa 2011). Therefore, any
similar crisis occurred or may occur in the future might be explained as a result of bank
governance failure.

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This study focuses on banks operating in Yemen and the GCC countries in order to provide
empirical evidence on the effects of corporate governance on bank performance. I used data
provided by reliable and credible resources, such as Bankscope database, audited financial
statements, and respective banks’ published reports to examine whether there is a
relationship between strong governance and higher profitability. My relevant hypotheses
are listed hereunder.

The study concentrates on investigating the effects of corporate

governance on bank performance in regard to the respective variables, which included
investigating the effects of ownership structure, board structure, audit function, and other
related variables, such as bank size, age and type, on bank’s profitability measuring that by
each bank’s ROE, ROA, and Profit Margin, analyzing it through using the aforementioned
SPSS, in terms of descriptive statistics, Pearson correlation matrix, and regression analysis.
In addition to this first section, this paper is organized as follows: the second section
describes the roles of key players in corporate governance, both internal and external; the
third section states the research question, objectives of the study, relevant hypotheses,
method used in collecting and processing the research data, and definitions of the used
variables; the fourth section shows the study analysis and discussion including descriptive
statistics, correlation between variables, and regression analysis; the fifth section reveals the
summary and conclusion of the study; and the last section points out the research limitations.

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2 Literature Review
There have been substantial literature on corporate governance and its effects on bank
performance. The relevant issues that would be addressed in this regard include ownership
concentration and control, roles and responsibilities of board of directors and management,
roles and responsibilities of audit committees and auditors (internal and external), accepted
accounting practices, and government regulations.

2.1 Corporate Governance and Bank Performance
Corporate governance standards and principles are extracted from local and international
laws, regulations, and rules, as well as from the organization’s bylaws, codes of conduct,
and resolutions. Corporate governance focuses on the control systems and structures by
which managers are held accountable to the bank’s legitimate stakeholders.
The benefits that will be gained by hired managers differ significantly from the benefits that
will be received by managers who are also major shareholders; the latter will benefit from
their salaries as well as from the bank earnings and stock returns. There are ways that the
shareholders may align their interests with the interests of hired managers (Van der Elst
2010). Wealth, or ownership concentration, is another factor which may affect the active
players in a bank and the bank’s governance (Arouri et al. 2011).

Deposit insurance

incentives and regulatory discipline are also other factors that may influence the governance
process at banks (Beltratti and Stulz 2009).
The relevant factors of this literature include managers and their incentives, directors and
their oversight tasks, shareholders and their ownership concentration in a bank, deposit
insurance incentives, and regulatory discipline, as well as these factors’ effects on the
governance framework at banks. Each of these factors may reinforce or replace other
factors, or interact differently in the governance process.

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Much of the empirical findings on corporate governance and performance in non-financial
institutions are also applicable to financial institutions. However, the optimal designing of
bank governance structure is very complex and important relative to unregulated, nonfinancial firms for several reasons. They are prudentially regulated and highly levered
compared to other companies and hence bank governance deserves special attention (Adams
and Mehran 2003).

Moreover, the stakeholders’ interests at banks extend beyond the

shareholders’ interests since the bank depositors, creditors, and regulators have stakes in the
banks as well. Governments are also worried about banks reputations, and consequently
regulate their governance, because a bank’s failure negatively affects the respective
country’s economy, and may even spread globally, similar to what happened during the
1997 Asian financial crisis (Pathan et al. 2005) and the 2008 U.S. financial crisis (Peni and
Vahamaa 2011).

2.2 Corporate Governance Parties
Corporate governance parties include internal parties, such as the organization’s

shareholders, internal auditors, audit committee, board of directors, CEOs, CFOs, and other
executives and managers; and include external parties, such as customers, suppliers, external
auditors, stock exchanges, and government authorities. Other parties who have a stake in
the organization may include the organization’s employees, creditors, and the community at
large. The governance chain depends on the size of the organization. In a small family
business, it is very simple, consisting of shareholders, board of directors, and managers;
some of whom may be family members. In large publicly-held organizations, the chain may
include managers, senior executives, executive directors, board, investment managers,
trustee of funds, and beneficiaries. The relationship in this governance chain is called
Principal-Agent relationship where the principal pays the agent to act on his/her behalf
(Johnson et al. 2008).

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2.2.1 Internal Governance
The organization’s internal governance has been divided into three main groups, as follows:
2.2.1.1 Ownership and Control
As they grow, many organizations move from private ownership (family business) to a
publicly-held corporation. This decision may be made due to the need for more equity to
finance such growth. Thus, the role of the owners will change as these family members will
become part of a wide group of shareholders who transfer their control (i.e., decision rights)
to the board of directors, and subsequently to the relevant managers who should act in the
shareholders’ best interests (Johnson et al. 2008). Consequently, a corporate governance
framework should be established, comprising a control system that helps aligning the said
shareholders’ interests with the managers’ and directors’ incentives.
Even though ownership and control structure indicates the types and composition of
shareholders in the organization, it should be noted that control is not necessarily an
exchangeable term with ownership because there are other items, such as ownership
pyramids, voting rights, and various kinds of shares that should be considered in this regard
(Johnson et al. 2008).
A bank ownership structure may vary from having just a few owners to having a wide and
diversified group of stockholders. Some banks may be managed by controlling individuals,
while other banks may hire independent managers to operate such banks. Each of these
ownership and control relationships may have a strong effect on a bank’s performance
(Johnson et al. 2008). Additionally, ownership concentration and control are different from
one country to another.

For example, in the Anglo-Saxon countries, the institutional

investors own, and consequently control, most of the large banks’ shares, while in Japan
most of these shares are owned by financial companies and industrial corporations. These
large investments in the banks give the shareholders the right to control and monitor the
banks’ management (Lehman and Weigand 2001).

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Although concentrated ownership may result in superior performance, it may also result,
negatively, in extracting the bank’s benefits by the controlling stockholders on the account
of the minority stockholders (Spong and Sullivan 2007). Therefore, the stockholders’ goal
and motivation may affect the bank performance.

According to the financial theory,

managers who are also major stockholders benefit through stock returns if they control costs
and improve bank performance; but hired managers whose ownership interest is minimal, if
any, may not be rewarded in the same manner for the same improved performance (Johnson
et al. 2008). In order to deal with the aforementioned principal-agent issue related to hired
managers, stockholders and the board should be very careful in conveying their objectives to
these managers. Meanwhile, these managers’ performance should be put under scrutiny,
and superior performance should be rewarded (i.e., awarding bonuses, stock options, etc., to
these managers).

2.2.1.2 Role of Management and Board of Directors
The board of directors is typically the governing body of the organization. Its primary
responsibility is to make sure that the organization achieves the shareholders’ goal.
Therefore, the board is accountable to these shareholders. The board of directors has the
power to hire, terminate, and compensate top management (Johnson et al. 2008). Therefore,
it safeguards the organization’s assets and invested capital. In addition to setting the bank’s
objectives (including generating returns to shareholders), the board of directors and senior
management affect how banks run their daily operations, meet the obligation of
accountability to bank’s shareholders, and consider the interests of other recognized
stakeholders (Basel Committee 2005).
During its regular meetings, the board identifies, discusses, avoids, and solves potential
problems.

Board size and/or composition may affect the bank performance, as stated

hereinafter. Board structures and board’s capabilities to monitor the bank’s executives and
managers vary from one bank to another (Van der Elst 2010). In order to provide reasonable
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assurance that the bank is accomplishing its objectives as regards reliable financial
reporting, operating efficiency, and compliance with laws and regulations, the bank should
implement a reliable internal control system monitored by the board of directors, audit
committee, and the bank’s top management. The members of some boards of directors may
be selected by the bank’s president or CEO, who is also the Chair of the Board, and
consequently cannot be terminated by the shareholders; such practice is known as “duality”
(Arouri et al. 2011).

2.2.1.3 Role of the Audit Committee and Internal Auditors
The main task of the bank’s audit committee and internal auditors is testing the design and
implementation of the bank’s internal control system and the fairness and reliability of its
financial statements. Listing all the tasks of the audit committee and internal auditors is
beyond the scope of this paper. However, I would refer to the tasks that are directly related
to the activities of both of them, as follows: after the U.S. corporate scandals and the
collapse of Enron and WorldCom, as well as Arthur Andersen and others, the internal audit
tasks have been changed, especially pursuant to the issuance of the aforementioned
Sarbanes-Oxley Act of 2002. One of the main responsibilities of the audit committee is to
enhance and maintain the internal auditors’ independence in order to enable them to achieve
their duties.
The relationship between the audit committee and internal auditors is important for both
parties to fulfill their job commitments. The internal auditors provide the committee with
the necessary information to which they have direct access, same as the organization’s
management, in order to enable the committee to accomplish its oversight and monitoring
mission. On the other hand, the committee supports the position of the internal audit
function and submits management’s irregularities and other relevant managerial and
financial issues to the board of directors, after discussing such issues with the internal
auditors and relevant other parties (Pathan et al. 2005).
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The committee is concerned with recruiting and terminating the head of the internal audit,
and the frequency and duration of the meetings with the internal auditors, as well as
ensuring that the internal auditors, especially their head, can communicate directly with the
committee anytime. This committee’s meetings with the head of the internal audit enhance
the independence of the internal audit function, supporting the parties’ discussion about
management’s errors, irregularities, violations, and fraud.
Whereas the oversight of financial reporting and the monitoring of the internal audit
performance are two of the main activities of the audit committee, it is mandatory that the
committee members, or at least one of them, should have the financial or accounting
expertise in order to understand the technical and control issues related to the internal audit
to enable the committee to review the internal auditors activities and the results they reach to
(Sarbanes-Oxley Act 2002). Consequently, independence and financial expertise are very
critical for this committee to play its important role and take advantage of the internal
auditors’ performance. Whenever there are problems or obstacles, the committee performs
the necessary investigations using internal feedback, its expertise, and external consultations
if needed. Evaluation of the organization’s internal control structure and process should also
be one of the basic functions of the audit committee and internal auditors. The committee
also evaluates the internal auditors’ effectiveness, their plans and work arrangements, as
well as the resources allocated to them.

Additionally, the internal auditors should be

involved in issues related to the organization’s joint ventures, environmental matters, and
international operations.

As a corporate governance reform, the above-mentioned Act

increased the audit committee’s and internal auditor’s independence from management.

2.2.2 External Governance
External corporate governance consists of the control that external stakeholders exercise
over the bank, which include the following:

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2.2.2.1 Role of External Auditors
As part of the Audit Function, the external auditors’ tasks could be considered as internal
and/or external corporate governance. Listing all the tasks of the external auditors is beyond
the scope of this paper; however, I would refer to the tasks that are directly related to the
audit committee activities as follows: the committee nominates and assists in selecting the
external auditor (also called certified public accountants “CPA”, Chartered Accountants
“CA”, et al.) to audit and/or review the organization’s accounts and issuing his/her opinion
about the correctness and accuracy of the organization’s financial statements, and that these
statements present fairly the financial position of the organization. Changing the external
auditors also requires direct interference by this committee. In order to protect and preserve
the shareholders’ interests, the committee oversees the nature and scope of work of the
external auditors, evaluates their effectiveness, and recommends the proper audit fees that
should be paid to them. The committee also assists in ensuring that the external auditors are
independent, and that there is no conflict of interest which may weaken the external
auditors’ ability of issuing their opinion about the organization’s financial statements and
financial position.
The external auditors submit their reports to the audit committee where both parties discuss
important issues, such as management’s errors, irregularities, and fraud; problems or
obstacles in the internal control process; and problems related to the preparation of financial
statement or financial reporting.

The U.S. AICPA requires that external auditors

communicate with the audit committee formally as a main part of the audit performance. It
also requires that the audit committee receives additional information from the external
auditors that may help it in the oversight of the financial reporting and disclosure process.
Moreover, the AICPA requires that the external auditors communicate with the committee
regarding errors, irregularities, illegal acts, and internal control structure.
The committee reviews the external auditors’ management letter and submits its relevant
notes to the board of directors. This committee also reviews the external auditors’ plans and

15

arrangements of works, and may ask the external auditors to report to it about any
differences or disputes between them and the organization’s management. Additionally, the
committee facilitates the communications between the external auditors and the
organization’s board of directors and attends their relevant meetings. For independence
purposes, the committee may review any non-audit service agreements with the external
auditors to understand the nature and magnitude of relevant fees paid.
Regulations worldwide require that each bank’s financial reports should be audited by
independent external auditors who issue a report that accompanies the bank’s financial
statements. In order to remove the conflict of interest which jeopardizes the integrity of the
bank’s financial statements and maintain, as well as increase, the external auditors’
independence, the United States Congress issued the above Sarbanes-Oxley Act to prohibit
auditing firms from providing both auditing and management consulting services to the
same client. Similar laws have been issued in other countries.

2.2.2.2 Accepted Accounting Practices
The U.S. GAAP and European IFRS allow managers various methods to choose from
regarding their recognition of financial reporting elements. In order to make their bank
performance look better than what it really is, the managers may abuse such choice
advantage and thereby increase the information risk for users through falsification of values,
concealing fraud, or hiding important information that should be disclosed.

2.2.2.3 Government Regulations
Corporate governance has been reformed by many governments; one of these reforms is the
above Sarbanes-Oxley Act which was issued in 2002 after the U.S. corporate scandals.
Some governments hired consulting firms and sponsored committees to consult with
16

regarding corporate governance issues, which included, among other things, internal control
requirement, external disclosure of information, audit function and responsibilities, and the
role and effectiveness of directors (Johnson et al. 2008).

2.2.3 Basel Accords (Agreements)
Basel Accords issued by the Basel Committee on Banking Supervision (BCBS) which is
located at the building of the Bank for International Settlements in Basel, Switzerland. The
BCBS, which was formed on June 26, 1974 in response to the liquidation of Herstatt Bank
of Cologne, Germany, does not enforce its recommendations although most countries
implement them. Three Accords have been published by the BCBS so far, as follows:
Basel I of 1988 regarding the minimum capital requirements for banks; Basel II of 2004 and
its updates during 2005-2009 with respect to capital requirements, supervisory review, and
market discipline; and Basel III which is agreed upon by the BCBS in 2010-2011 as regards
capital adequacy, stress testing, and market liquidity risk.

2.2.4 Role of Other Interested Stakeholders
There are other stakeholders, such as customers, suppliers, employees, and local
communities to whose rights the organizations pay very little attention. Organizations
should understand that these stakeholders have contractual and social rights, and that there is
a corporate social responsibility (CSR) imposed on these organizations towards these
stakeholders (Johnson et al. 2008).

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3 Research Methodology
3.1 Research Question and Objectives
There are lots of writings discussing the effects of corporate governance on corporate
performance in financial and non-financial institutions. Although many of these writings
talk about the corporate governance effects on bank performance, only a few of them talk
about such effects in the Arab World.
In order to answer the research question “What are the effects of corporate governance on
bank performance?” there are other questions that need to be answered; this study focuses
on the following questions:
A- What are the effects of ownership structure, board structure, and audit
function on bank’s profitability?
B- What kind of profitability, higher or lower, will a bank with stronger
corporate governance have?
C- Which of the above corporate governance variables is/are significantly
related to bank’s profitability?
The study answers the research question through investigating the effects of corporate
governance on bank performance in regard to the respective variables, which included
investigating the effects of ownership structure, board structure, audit function, and other
related variables, such as bank size, age and type, on bank’s profitability measuring that by
each bank’s ROE, ROA, and Profit Margin, analyzing it through using the above-mentioned
SPSS, in terms of descriptive statistics, Pearson correlation matrix, and regression analysis.
In the United States, Europe, and many other countries around the world, there are bank
examination reports that provide much of the bank governance information, such as the
responsibilities of the bank managers and policymakers, the amount of stock each
shareholder have, the family relationship among the bank’s shareholders, directors,

18

policymakers and senior managers, as well as the personal wealth and other relevant matters
enjoyed by these bank members. Such bank reports are not available in the Arab World.
However, “Bankscope” reports show some financial and non-financial information about
banks, including banks operating in the Arab World.

I used such information and

information from other relevant reports and websites detailed hereunder.

3.2 Hypotheses
The following hypotheses have been tested in previous banking researches. For instance,
(Glassman and Rhoades 1980) compared financial institutions controlled by their owners
with those controlled by managers and found that the owner-controlled institutions had
higher earnings. (Allen and Cebenoyan 1991) found that bank holding companies were
more likely to make acquisitions that added to firm value when they had high inside stock
ownership and more concentrated ownership. (Cole and Mehran 1996) discovered higher
stock returns at thrifts that either had a large inside shareholder or a large outside
shareholder. These studies thus offer some support for the hypothesis that stockholdings
provide an incentive to run a bank better and achieve higher earnings for its stockholders.
In light of the aforementioned and in order to answer the research questions listed above, the
study hypotheses would be as follows:


H1: There is a significant and positive relationship between
corporate governance (ownership structure, board structure, and audit
function) and bank performance



H2: Bank’s profitability is positively and significantly affected by
ownership structure (such as ownership concentration and foreign
ownership), board structure (such as board independence, board
committees, duality, and board meetings), and audit function (such as

19

external audit type), as well as by bank size and age.
3.3 Method and Procedure
In order to test the aforementioned hypotheses, I used quantitative method to investigate the
effects of corporate governance on bank performance in regard to the respective variables,
which included investigating the effects of ownership structure, board structure, audit
function, and other related variables, such as bank size, age and type, on bank’s profitability
measuring that by each bank’s ROE, ROA, and Profit Margin, analyzing it through using the
above-stated SPSS, in terms of descriptive statistics, Pearson correlation matrix, and
regression analysis.
I used Bankscope database to select the country, Yemen or a GCC country, and selected the
top fifty banks from the above seven countries, as detailed hereunder. I also used the
respective banks’ websites and other websites to extract the relevant financial and nonfinancial information about each bank from its published audited financial statements,
annual reports, and other relevant information. Afterwards, I analyzed the data, using the
aforementioned SPSS.

After collecting and measuring the data, the analysis of data

includes, but not limited to, the following: First, data reduction which involves selecting,
coding, and categorizing the data. Second, data analysis using the above SPSS, displayed in
the form of table or matrix so that the data could be understood. Third, drawing conclusion
based on the aforementioned analysis. The study focuses on banks, both conventional and
Islamic, operating in Yemen and the GCC countries.

3.4 Sampling and Data Collection
As explained above, my targeted population is the conventional and Islamic banks operating
in Yemen and the GCC countries. I used the aforementioned Bankscope database, the
respective banks’ audited financial statements, annual reports, and other related information
published on these banks’ websites as well as other relevant reliable websites, to collect the

20

data needed about the selected banks as regards the subject dependent and independent
variables. Table 1 below shows the population and samples selected per country:
Table 1 – Population and samples per country
Country
Bahrain

Population
(All Bankscope List)
58

Kuwait

33

10

7

Oman

14

7

7

Qatar

14

7

7

Saudi Arabia

22

12

9

United Arab Emirates

39

19

7

Yemen

13

11

8

193

95

59

Total

Population
(Banks only)
29

Sample Size
14

My sample includes conventional and Islamic banks operating in Yemen and the
aforementioned six GCC countries. I used 2011 since it is the latest year for which the
respective banks should have their audited financial statements published by now.
Consequently, I excluded from the sample all banks that do not have these audited financial
statements or their annual reports available. I also excluded banks about which no sufficient
data is available. I did not consider financing, insurance, or non-bank institutions since they
are different from banks with respect to their specific characteristics, management
structures, accounting procedures, and audit functions.
My final sample consists of the largest 50 conventional and Islamic banks operating in
Yemen and the six GCC countries. The process of selecting this sample is based on the
values of these banks’ total assets and the consequent ranking stated by Bankscope database.

21

Any bank excluded due to any of the above reasons has been replaced with the next
immediate bank in ranking. Table 2 hereunder summarizes the sample selection:
Table 2 - Sample selection
Number of banks selected from Bankscope Database based on its
ranking for 2011 and the number of banks in each country

59

No annual reports available for 2011

(3)

No sufficient data about bank

(6)

Final sample

50

3.5 Variables
For bank performance measurement, the dependent variables used are the profitability
measures ROE, ROA, and Profit Margin. Meanwhile, the independent variables used in
regard to corporate governance are categorized into four sections, as follows: 1) Ownership
structure which include ownership concentration, institutional ownership, foreign
ownership, and alignment of interests; 2) Board structure which include board size, board
independence, duality, board committees, number of board members, number of nonexecutives

on

board,

number

of

board

meetings

per

year,

existence

of

remuneration/compensation committee, and existence of nomination committee; 3) Audit
function including external audit type, existence of audit committee, number of audit
committee members, number of audit committee non-executive members, and number of
audit committee meetings per year; and 4) Other related variables that include bank type,
bank age, bank size, and existence of corporate governance reports. Table 3 hereunder
shows the definition and measurement of these twenty-five variables:

22

Table 3 - Definition and measurement of variables
Variable Symbol

Definition

Measurement

Dependent Variables
ROE

The amount of return
on bank’s equity

Net Income divided by Average Total Equity

ROA

The amount of return
on bank’s assets

Net Income divided by Average Total Assets

PROFIT.M

Profit Margin

Net Income divided by Revenue

TYPE

Bank Type

Conventional bank = 1; Islamic = 0

AGE

Age of Bank

10 years old or more = 1; less than 10 years old = 0

BNK.SIZE

Bank Size

Bank assets amounting to US$ 1 Billion or more = 1;
less than US$ 1 Billion = 0

OWN.CONC

Ownership
Concentration

Adding up all share ratios of shareholders of the bank
who have 5% or more (excluding others)

INSTITUT

Institutional
Ownership

If there is/are institutions holding bank shares (i.e.,
Institutional) = 1; Non-institutional = 0

FOREIGN

Foreign Ownership

ALIGN.IN

Alignment of Interests

If there is/are Foreign ownerships = 1; Non-foreign =
0
Owner Manager = 1; Hired Manager = 0

BRD.SIZE

Board Size

5 members or more = 1; less than 5 members = 0

BRD.INDP

Board Independence

Number of non-executive members on the board
divided by Total number of board members

DUALITY

CEO Duality

Duality: If the CEO and Chairman are Not the same
person = 1; If otherwise = 0

BRD.COMT

Board Committees

If there is a Board Committee (Audit, Compensation,
etc.) = 1; If not = 0

Independent Variables

23

EXT.AUDT

External Audit Type

If the external auditor is one of the Big 4 CPA Firms
= 1; Any other = 0

BRD.MBRS

Number of Board
Members

Total number of board members during 2011

BRD.NONX

Number of NonExecutives on Board

Number of non-executive members on the board
during 2011

BRD.MTNG

Number of Board
Meetings per Year

Number of board meetings held during 2011

CG.RPRT

Corporate Governance
Report

If Corporate Governance Report exists = 1; If it does
not = 0

REM.COMT

Remuneration
/Compensation
Committee

If Remuneration / Compensation Committee exists =
1; If it does not = 0

NOM.COMT

Nomination
Committee

If Nomination Committee exists = 1; If it does not =
0

AUD.COMT

Audit Committee

If Audit Committee exists = 1; If it does not = 0

AUD.MBRS

Number of Audit
Committee Members

Number of Audit Committee members during 2011

AUD.NONX

Number of Audit
Committee NonExecutive Members

Number of the non-executive members in the Audit
Committee during 2011

AUD.MTNG

Number of Audit
Committee Meetings
per Year

Number of audit committee meetings during 2011

24

4 Analysis and Discussion
For statistical analysis, I used the aforementioned SPSS, as follows:
4.1 Descriptive Analysis
Table 4 hereunder provides descriptive statistics of the respective variables. Bank Age is
shown with a mean of 29.74 years and a median of 30.5 years which indicates that the banks
in the region have an average of 30 years of experience, which ranges from 4 to 75 years.
Bank Size with an average of 92% (close to 1 unit) indicates that most of the respective
banks have large amount of total assets (exceeding US$1 billion).

Ownership

Concentration’s average exceeds 62% which means that most of the bank shares are owned
by block holders, which also has a significant impact on bank performance.

Board

Committees also with on average of 92% indicates that most of the relevant banks have
committees facilitating and assisting the banks’ boards of directors in performing their tasks.
Meanwhile, Board Independence’s average which exceeds 62% indicates that most of the
respective banks’ boards are independent (consist mostly of non-executive members).
Board Meetings indicates that the bank’s boards met approximately 5 times during 2011,
with an average of 4.94, which is a good indication about the monitoring and supervising the
banks’ operations by the board of directors. The Profit Margin is shown as a high average
of 37.62%, but with a negative profit margin of -37% as a minimum. The table also shows a
higher Return on Assets with an average of 1.65 times, but with a negative return of -90% as
a minimum. Likewise, Return on Equity is shown as the highest return with an average of
10.29 times, but also with a negative return of -7.65 times.

25

Table 4 – Descriptive statistics
Variable
ROE
ROA
PROFIT.M
TYPE
AGE
BNK.SIZE
OWN.CONC
FOREIGN
ALIGN.IN
DUALITY
BRD.COMT
EXT.AUDT
BRD.MBRS
BRD. NONX
BRD.INDP
BRD.MTNG
CG.RPRT
REM.COMT
NOM.COMT
AUD.COMT
AUD. MBRS
AUD.NONX

Mean
Std. Deviation
10.286
6.065221365
1.6474
1.06112149
0.3762
0.219562552
0.78
0.46467017
29.74
15.44814895
0.92
0.274047516
0.6233906
0.28482618
0.6
0.494871659
0.16
0.37032804
0.08
0.274047516
0.92
0.274047516
0.9
0.303045763
9.48
2.224538475
8.46
2.042507463
0.6233906
0.28482618
4.94
1.633951015
0.86
0.350509833
0.74
0.443087498
0.59183673
0.496586991
0.86
0.350509833
3.02
1.477587664
2.78
1.374550019

Minimum
-7.65
-0.9
-0.37
0
4
0
0.05
0
0
0
0
0
6
4
0.05
0
0
0
0
0
0
0

Maximum
22.48
4.91
0.75
2
75
1
1
1
1
1
1
1
19
13
1
9
1
1
1
1
6
5

4.2 Correlation between variables
For correlation between independent corporate governance variables among themselves, and
between these independent variables and dependent bank profitability variables, I used
Pearson Correlation Matrix shown below as Table 5, briefed as follows: The Profitability
measures ROE and Profit Margin are positively and significantly correlated with Bank Age
at the 5% level (2-tailed).

ROA shows a significant negative correlation with Board

Independence at the 1% level and with Bank Size at the 5% level (both 2-tailed). Profit

26

Margin also shows a significant negative correlation with Ownership Concentration at the
1% level, and positive significant correlation with Board Committees at the 5% level (both
2-tailed). ROE and Profit Margin also show a significant negative correlation with Board
Independence at the 5% and 1% levels respectively (both 2-tailed). Profit Margin is also
positively and significantly correlated with Audit Committee at the 5% level (2-tailed).
Moreover, there are significant correlations among the dependent variables and also among
the independent variables at the 1% and 5% levels, such as between ROE, ROA, and Profit
Margin; as well as between Bank Size and Board Committees, between Foreign
shareholders and External Auditors, and between Ownership Concentration and Board
Independence (all at the 1% level). Regression results and respective explanations regarding
the relationships, and consequent effects, between bank’s profitability and relevant corporate
governance variables are discussed hereunder.

27

Table 5 – Pearson correlation matrix
ROE

ROE

ROA

PROFT.
M

PROFT.M

.804**

.611**

0.196

-0.024

BNK.SIZE
OWN.CONC
FOREIGN
ALIGN.IN
DUALITY
BRD.COMT
EXT.AUDT
BRD.MBRS
BRD. NONX
BRD.INDP
BRD.MTNG
CG.REPRT
REM.COMT
NOM.COMT
AUD.COMT

BNK.SIZE

OWN.
CONC

FOREIG
N

ALIGN.
IN

DUALITY

BRD.
COMT

EXT.
AUDT

BRD.
MBRS

BRD.
NONX

BRD.
INDP

BRD.
MTNG

CG.
REPRT

REM.C
OMT

NOMC
OMT

AUD.
COM
T

1

.674**

AGE

AGE

1

ROA

TYPE

TYPE

0.123

*

.361

-0.205

-.286*

1
0.198

1
0.168

*

.324

0.066

1

0.019

0.024

1

-.286

-.453

-.369

0.185

-0.070

0.059

1

-0.102

0.015

-0.005

-0.035

-0.131

0.060

0.022

1

-0.150

-0.007

-0.090

-0.147

-0.032

-0.072

0.097

0.245

-0.087

0.184

0.026

-0.019

0.034

-0.185

0.057

0.241

0.082

0.165

0.179

-0.106

0.107

0.131

-0.029

0.141

*

0.178

**

.313*

**

.358*

.457**

-0.242

**

.676

1

0.129

0.087

0.145

0.098

-0.014

-0.010

-0.053

-0.271

0.024

-0.070

-0.013

0.252

0.096

-0.235

0.139

-0.188

-0.273

0.105

0.251

0.185

-0.070

0.059

0.022

0.097

0.057

0.080

0.020

-0.085

0.011

0.019

-0.093

0.010

0.007

-0.083

-0.207

0.176

0.119

.332*

-.286*

-.453**

-.369**

0.158

0.045

0.191

0.117

-0.244

0.022

0.070

0.160

-0.068

-0.116

0.068

0.065

0.080

0.113

-0.225

0.016

-0.167

0.014

0.014

0.193

*

.298

.314*
0.058

-0.096
-0.203

.393**

.306*
0.161

.359*
*

.306

-0.230

.361**

1

0.779**
-0.020
-0.037
0.100
0.254
-0.196

.408**

.376**
**

.540

.409**
**

.376

.376**

.538**
.370**

1
.639**

1

-0.003

0.103

-0.042

0.010

-0.242

-0.230

-0.013

-0.273

1

0.070

0.081

0.119

-0.020

1

0.166

0.092

-0.037

0.270

0.191

0.090

0.100

-0.049

-0.073

0.254

-0.069

-0.108

-0.196

*

.354

.518**
**

.634**
**

.497

.562

.359*

.406**

**

.731

**

.634

1

.692**

1

**

1

**

.457

.681

.311*

.492**

**

.413

**

.502

1

.724**
**

.549

**. Correlation is significant at the 0.01 level (2-tailed).
*. Correlation is significant at the 0.05 level (2-tailed).

4.3 Regression Analysis
Since there is more than one independent variable to explain the variance in each of the
three dependent variables, I used the multiple regression analysis and relevant stepwise
method in order to assess the degree and character of the relationship between the bank’s
profitability three outcome measures (ROE, ROA, and Profit Margin) and corporate
governance predictors described above. Each predictor variable has its own coefficient, and

28

1

**

.373

1

the outcome variable is predicted from a combination of all the variables multiplied by their
relevant coefficients plus a residual term, as follows:
Regression Equation: y = a + b1x1 + b2x2………bnxn + εi
where y is the outcome variable; b1 refers to the coefficient of the first predictor (x1); b2
represents the coefficient of the second predictor (x2); bn refers to the coefficient of the nth
predictor (xn); and εi is the difference between the predicted and the observed value of y for
the ith participant.
The stepwise method relies on the computer selecting the variables based upon
mathematical criteria, under which the regression equation is constantly being reassessed,
removing from the model any predictor that meets the removal criterion and reassessing for
the remaining predictors. Consequently, we get the linear combination of predictors that
correlate maximally with each of the aforementioned three outcome variables. The Model
Summaries hereunder show the collapse of the individual correlations between the
independent variables and each dependent variable into a “Multiple R (also called Multiple
Correlation Coefficient)”. R Square (or R²) is the amount of variance explained in the
dependent variable by the predictors.
calculates Adjusted R².

In addition to calculating R and R², SPSS also

This adjusted value indicates the loss of predictive power or

shrinkage. It tells how much variance in the dependent variable would be accounted for if
the model had been derived from the population from which the sample was taken. The
Analysis of Variances (ANOVA) examines the significant Mean differences among more
than two groups on an interval or ratio-scaled dependent variable. Its results show whether
or not the Means of the various groups are significantly different from one another, as
indicated by the F statistic. Regarding the Coefficients tables, the t-test is used to measure
whether or not the predictors make a significant contribution to the model; and the b-values
refer to the positive or negative relationship between the predictors and the respective
outcome. The smaller the value of Sig.(and the larger the value of t), the greater the

29

contribution to the Model (Field 2009). The 1% error refers to a 99% level of confidence
and the 5% error refers to a 95% level of confidence.

4.3.1 The Effects on Profitability, measured by ROE
As stated hereunder, the two predictors (Age and Number of Board Meetings) have positive
and significant relationships with, and consequently positive and significant effects on, the
outcome ROE. Bank Age has a positive and significant impact on ROE due to the learning
curve principle which makes a bank learn from its previous good and bad experience for
correction, improvement and more development, as long as other corporate governance
predictors remain constant. Older banks have higher ROE than younger banks due to the
interaction between the bank age and the market share, as well as the longer tradition and
good reputation that could have been built by the passage of time. Therefore, bank age
contributed significantly to the performance measures of ROE.

Since they focus on

increasing their market share rather than on improving profitability, newly established banks
are not profitable in their first years of operations. This result is consistent with the results
of the studies of (Stathopoulos et al. 2004; and Athanasoglou et al. 2005).
The Number of Board Meetings per year also has a positive and significant effect on ROE.
The increase in the Number of Board Meetings means an increase in monitoring, follow-up,
supervision, direction, and attentiveness by the board of directors which leads to facilitating
the bank’s operations and assisting management in achieving the bank’s objectives through
making the right decision on the right time, taking advantage of the available opportunities
and avoiding the potential threats.

The frequency of board meetings helps the board

members to know the senior management team and to understand the bank’s operations in
order to perform the board tasks appropriately. This result is consistent with the results of
the studies conducted by (Davidson et al. 1998; Godard and Shatt 2004; and Bouaziz and
Triki 2012).

30

4.3.1.1 Model Summary - ROE
The individual correlations between the independent variables and dependent variables
ended up into the multiple R (or the multiple correlation coefficients). Therefore, column R
in the following ROE, ROA, and Profit Margin summary models indicates the values of the
multiple correlation coefficients between the predictors and the outcomes (Field 2009), as
follows:
Table 6 refers to the correlation between the two predictors (Age and Number of Board
Meetings) and the dependent variable ROE. In this model, the R square of 21.4% is the
amount of variance explained in the ROE by the above two predictors. The difference
between R square and the Adjusted R square is 3.4% (i.e., 21.4% - 18%). This small
shrinkage means that if the model were derived from the population rather than from the
sample, it would account for 3.4% less variance in ROE.
Table 6 – ROE Model summary
Model

R

R Square

Adjusted R Square

Std. Error of the Estimate

ROE

.463

.214

.180

5.57592

4.3.1.2 ANOVA – ROE
ANOVA tests if the Model is significantly better at predicting the outcome ROE than using
the mean as a “best guess”. The F-ratio represents the improvement in prediction that
results from fitting the model, relative to the inaccuracy that still exists in the model. The
Mean Square is then calculated for each term by dividing the SS by the df. For the ROE
ANOVA shown hereunder under Table 7, the F value is highly significant (at the 1% level)
which means that the Model is a significant fit of the data.

31

Table 7 – ROE ANOVA
Model

Sum of Squares

df

Mean Square

F

Sig.

Regression

389.509

2

194.755

6.264

.004

Residual

1430.183

46

31.091

Total

1819.692

48

4.3.1.3 Coefficients - ROE
The t-test here is used to measure whether the predictors make a significant contribution to
the model. As regards the ROE measure, Table 8 shows that both predictors (Age and
Number of Board Meetings) have positive b-values which means that there is a positive
relationship between them and the outcome ROE. Consequently, as Age increases, ROE
also increases; and as the Number of Board Meetings increases, so does the ROE. Age
makes a significant and positive contribution at the 1% level, and Number of Board
Meetings also makes a significant and positive contribution at the 5% level.
Table 8 – ROE Coefficients

Model

(Constant)
AGE

Unstandardized
Coefficients
B

Unstandardized
Coefficients
Std. Error

Standardized
Coefficients
Beta

t

Sig .

-.652
.177
1.093

3.425
.054
.507

.443
.292

-.190
3.272
2.156

.850
.002
.036

BRD.MTNG

4.3.2 The Effects on Profitability, measured by ROA
Board Independence means that the majority of the board members are non-executive
members indicating that the board is exercising its powers of directing, controlling, and
32

monitoring independent from the executive management. The study shows that Board
Independence has a significant and negative correlation with, and consequently a significant
and negative effect on, the bank’s ROA. Although board independence is traditionally
supported for its unbiased monitoring which may lead to improved performance, the study
reveals that the boards of the banks need to have reasonable number of executive managers
(insiders) who bring different knowledge and skills to the boards. These insiders may
improve the board’s decisions with respect to investment, strategic planning, and other
relevant decisions. Insiders have both knowledge and incentives to do a better job; they are
well-informed about their banks, and they have their human capital as well as their financial
capital (especially if they are owner managers) committed to their banks. This result is
consistent with the results of other studies of (Baysinger and Butler 1985, Vancil 1987;
Weisbach 1988; Klein 1998, Hall and Liebman 1998; Bhagat et al. 1999; and Bhagat and
Black 2000).
In a well-organized bank, the Bank Size (i.e., with larger amount of total assets) offers great
help to the bank’s mobility taking advantage of its financial strength pursuing available
business opportunities effectively, avoiding potential threats, and overcoming its
weaknesses. Through their created economies of scale, larger banks lower their average
costs which affects their banks’ profitability positively and enables them to exercise market
power through stronger brand image or implicit regulatory (too big to fail) protection.
However, the positive effect of a growing bank’s size on its profitability turns to be negative
after a certain limit due to bureaucratic problems and poor expenses management. In
addition to this cost issue, Bank Size also controls for product and risk diversification which
leads to a negative relationship and effect between Bank Size and ROA since increased
diversification leads to higher credit risk and consequently to lower returns. Therefore, the
study reveals this negative correlation and effect by Bank Size on profitability, measured by
ROA. Meanwhile, the above-mentioned larger amount of total assets reduces the ROA ratio
to a great extent which leads to the aforementioned negative correlation and effect between
Bank Size and the outcome ROA. This result is consistent with the results of studies
conducted by (Berger et al. 1987; Boyd and Runkle 1998; Miller and Noulas 1997;
33

Eichengreen and Gibson 2001; Pasiouras and Kosmidou 2007; Kosmidou 2008; and
Athanasoglou et al. 2008).

4.3.2.1 Model Summary - ROA
Table 9 reveals the correlation between the independent variables (Board Independence and
Bank Size) and the dependent variable ROA. In this model, the R square of 27.7% is the
amount of variance explained in the ROA by these two predictors. The difference between
R square and the Adjusted R square is 3.2% (i.e., 27.7% - 24.5%). This small shrinkage
means that if the model were derived from the population rather than from the sample, it
would account for 3.2% less variance in ROA.
Table 9 – ROA Model summary
Model

R

R Square

ROA

.526

Adjusted R

.277

.245

Square


.92978

4.3.2.2 ANOVA - ROA
Similar to the ROE “ANOVA”, the ROA “ANOVA” shown below under Table 10, indicates
that the value of F is also highly significant (at the 1% level) meaning that the Model is a
significant fit of the data.

34

Table 10 – ROA ANOVA
Model

Sum of Squares

df

Mean Square

F

Sig.

8.801

.001

Regression

15.218

2

7.609

Residual

39.767

46

.864

Total

54.984

48

4.3.2.3 Coefficients - ROA
Table 11 ROA “Coefficients” shows that the two predictors (Board Independence and Bank
Size) make significant contributions to the model. Board Independence makes a significant
and negative contribution at the 1% level, and Bank Size makes a significant and negative
contribution at the 5% level.
Table 11 – ROA Coefficients

Model

Unstandardized
Coefficients
B

Unstandardized
Coefficients
Std. Error

Standardized
Coefficients
Beta

t

Sig .

(Constant)
BRD.INDP
BNK.SIZE

3.604
- 1.653
- .993

.535
.468
.486

-.443
-.257

6.733
- 3.529
- 2.044

.000
.001
.047

4.3.3 The Effects on Profitability, measured by Profit Margin
Profit Margin is an indication of a company’s pricing strategies and how well it controls
costs. It is found that Ownership Concentration, Age, and Board Committees are the three
corporate governance independent variables which have significant relationships with the
dependent variable, Profit Margin.
35

Ownership Concentration has a significant impact on Profit Margin. This impact could be
positive, helping the bank’s decision-making, reducing agency costs, and leading to higher
profit rates, better performance, and better profit margin (Claessens et al. 1997; and Fuentes
and Vergara 2003). However, the study indicates that Ownership Concentration has a
significant and negative effect on Profit Margin allowing the bank’s controlling shareholders
to expropriate the bank’s resources for their own private benefits by different ways, such as
through related-party transactions (which leads to a negative effect on the growth rate of the
bank’s net assets), or through transferring the resources from one entity in which the
controlling shareholders own less to other entities in which they own more. These negative
effects lead to lower profit rates and lower profit margin. This result is consistent with the
results of the studies conducted by (Jensen and Meckling 1976; Leech and Leahy 1991;
Slovin and Sushka 1993; Shleifer and Vishny 1997; Thomsen and Pedersen 2000; Joh 2003;
Cronquist and Nilsson 2003; and Karaca and Eksi 2012).
Similar to the aforementioned impact on ROE, Bank Age also has a significant and positive
correlation with, and consequently a significant and positive impact on, Profit Margin due to
the learning curve principle referred to under No. 4.3.1.

Longer good reputation and

interaction between the bank age and the market share lead to higher profit margin. This
result conforms to the results of the studies of (Stathopoulos et al. 2004; and Athanasoglou
et al. 2005).
Board Committees, which include Audit, Remuneration/Compensation, and Nomination
Committees, also have significant and positive relationships with, and consequently
significant and positive impacts on, Profit Margin. They control the bank management’s
opportunistic behavior, monitor closely the bank activities, and reduce the bank’s risk-taking
appetite.

They facilitate the board functions and responsibilities, and hence board

effectiveness.

The Committees oversee the bank’s operations, focusing on the bank’s

compliance to rules and regulations, and addressing any financial errors, misstatements, or
irregularities. The Audit Committee helps the board of directors in auditing, monitoring,
supervising, and controlling the financial and managerial issues of the bank, as well as

36

facilitating the board’s relationship with internal and external auditors. It also monitors,
verifies, and safeguards the integrity and credibility of the process of accounting, auditing,
and financial reporting; enhances transparency for bank’s stockholders and creditors; and
resolves disagreements between management and external and internal auditors. The Audit
Committee also ensures that the bank has an effective internal control and reliable financial
reporting system, and that it complies with the regulatory requirements and the bank’s code
of conduct. The Remuneration/Compensation Committee recommends and monitors the
level and structure of remuneration for bank’s management and compensation to the board
members properly for their ordinary and extra-ordinary efforts. The Nomination Committee
recommends the right people to the board and to the bank’s shareholders. This result
corroborates the results of the studies of (Pincus et al. 1989; Anderson et al. 2004; and Barth
et al. 2004).

4.3.3.1 Model Summary – Profit Margin
Table 12 indicates the correlation between the three predictors (Ownership Concentration,
Age, and Board Committees) and the outcome Profit Margin. In this model, the R square of
32.6% is the amount of variance explained in the Profit Margin by the above three
predictors. The difference between R square and the Adjusted R square is 4.4% (i.e., 32.6%
- 28.2%). This small shrinkage means that if the model were derived from the population
rather than from the sample, it would account for 4.4% less variance in Profit Margin.
Table 12 – Profit Margin Model summary
Model

R

R Square

Adjusted R Square


Profit Margin

.571

.326

.282

.1860

37

4.3.3.2 ANOVA – Profit Margin
Similar to the above ROE and ROA “ANOVA”, Table 13 regarding the Profit Margin also
indicates that the F value is extremely significant (at 0% level) which means that this Model
is also a significant fit of the data.
Table 13 – Profit Margin ANOVA
Model

Sum of Squares

df

Mean Square

F

Sig.

.771

3

.257

7.425

.000

Residual

1.591

46

3.460E-02

Total

2.362

49

Regression

4.3.3.3 Coefficients – Profit Margin
For the Profit Margin “Coefficients” , Table 14 shown hereunder indicates that there are
three predictors (Ownership Concentration, Age, and Board Committees) that make
significant contributions to the model. Age makes a significant and positive contribution at
the 1% level; Board Committees also makes a significant and positive contribution at the 5%
level; and Ownership Concentration makes a significant and negative contribution at the 5%
level.
Table 14 – Profit Margin Coefficients

Model

Unstandardized
Coefficients
B

Unstandardized
Coefficients
Std. Error

Standardized
Coefficients
Beta

t

Sig .

(Constant)
OWN.CONC
AGE
BRD.COMT

.117
-.205
4.839E-03
.264

.142
.097
.002
.101

-.265
.304
.330

.822
- 2.117
2.783
2.621

.416
.040
.008
.012

38

Table 15 below shows a summary of the aforementioned regression results in regard to the
subject three models.
Table 15 - OLS Regression Results
Model 1
(Dependent Variable ROE)

Coefficients
Constant

t- statistics

-.652

Coefficients

Model 3
(Dependent Variable Profit
Margin)

3.604

3.272
-.993

t- statistics

Coefficients

6.733

.117

0.822

0.685

-0.190

.177

AGE

Model 2
(Dependent Variable ROA)

t- statistics

4.839E-03

2.783

BNK.SIZE

-2.003

OWN.CONC

-1.854

.

-.205

-2.117

BRD.COMT

0.096

1.712

.264

2.621

BRD.INDP

-1.854

2

Adjusted R

.

2.156

0.396

1.395

0.277

0.326

0.180

0.245

0.282

6.264

2

R

1.093

-3.529

0.214

BRD.MTNG

-1.653

-0.727

-2.044

8.801

7.425

0.004

0.001

0.000

F-statistics
p-value for F- test

39

5 Summary and Conclusion
The study was made on a sample of top fifty conventional and Islamic banks from Yemen
and the GCC countries. I used the aforementioned SPSS which included using descriptive
statistics summarized as mean, standard deviation, minimum, and maximum in order to have
information about the respective banks’ practices and characteristics related to the subject
corporate governance and bank performance. Pearson correlation matrix shows that there is
a correlation between many of the variables.

The study investigates the relationship

between, and consequently the effect of, internal corporate governance (categorized as
ownership structure, board structure, audit function, and other respective variables such as
bank size, age, and type) on bank’s profitability, measured by ROE, ROA, and Profit
Margin. These bank performance “profitability measures” were regressed on twenty two
corporate governance predicting variables, classified into the aforementioned categories.
It is found that the two predictors, Age and Number of Board Meetings, have a positive and
significant effect on bank’s profitability measured by the outcome ROE, the result which
corroborates the results of the studies referred to hereinabove. Meanwhile, I found that the
two predictors, Board Independence and Bank Size, have a negative and significant effect on
bank’s profitability, measured by ROA, the result which conforms to the results of the
studies conducted by the aforementioned researchers. Finally, it is found that there are three
corporate governance independent variables, Ownership Concentration, Age, and Board
Committees, of which Age and Board Committees have a positive and significant effect
while Ownership Concentration has a negative and significant effect on bank’s profitability,
measured by the dependent variable Profit Margin. This result is also consistent with the
results of the studies indicated above.

These result-references are stated under No. 4

“Analysis and Discussion”.
It is also found that the above three empirical results support the theoretical framework of
the study, and that the study hypotheses are empirically validated about the banks operating
in Yemen and the six GCC countries in accordance with the above-stated analytical

40

methods. Consequently, it is concluded that there is a significant relationship between
corporate governance and bank’s profitability; and that bank’s profitability, measured by
ROE, ROA, and Profit Margin, is significantly affected by ownership concentration, board
meetings, board independence, and board committees, as well as by bank age and bank size.
It is worth-mentioning that the external auditors’ reports of Al-Ahli Bank of Kuwait and all
the Saudi banks taken in the sample have been signed by two of the big four CPA firms
simultaneously, which could mean additional bank governance that has not been taken into
consideration.
Results may be of interest to banks’ stakeholders, regulators, and policy makers. Future
researches could provide additional views about this relationship between bank performance
and internal corporate governance; as well as relationship between bank performance and
external corporate governance, such as government regulations.

41

6 Research Limitations
It is known that such a case study cannot be generalized as it is designed to investigate into,
and understand, specific elements. Consequently, the findings of this study cannot be
generalized to all banks since the sample was limited to banks operating in Yemen and the
GCC countries, and excluded all other banks operating elsewhere. The study will also be
limited to the aforementioned specific elements and variables; therefore, it cannot be
generalized to all other elements and variables of the banking industry.

Additionally,

information confidentiality and unavailability of information are two major limitations that
prevented me from collecting complete, correct, and accurate data. Moreover, the study
concerns the above specific countries; thus, the findings cannot be generalized to other
countries since each country and/or region has its own characteristics. Moreover, as stated
above, I could not find much literature talking about the effects of corporate governance on
bank performance in the Arab World, except what is referred to above.

42

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50

Appendix
Table A – OLS Regression

OLS Regression Results
Dependent Variables
(1)
ROE
Constant
TYPE
AGE
BNK.SIZE
OWN.CONC
FOREIGN
ALIGN.IN
DUALITY
BRD.COMT
EXT.AUDT
BRD.MBRS
BRD. NONX
BRD.INDP
BRD.MTNG
CG.RPRT
REM.COMT
NOM.COMT
AUD.COMT
R2
Adjusted R2
F-statistics
p-value for F- test
MAX VIF
Observations

(2)
ROA

(3)
Profit Margin

-0.190

6.733

0.822

0.493
3.272
-2.003
-1.854
-0.665
-1.285
-1.501
0.096
0.575
-0.963
0.171
-1.854
2.156
-0.183
0.067
-0.440
-0.290
0.214

0.549
0.685
-2.044
.
0.394
0.097
1.301
1.712
1.209
0.957
1.200
-3.529
0.396
1.159
1.300
0.329
1.663
0.277

1.161
2.783
-0.727
-2.117
-0.654
-0.805
0.003
2.621
0.680
-0.522
-0.082
.
1.395
.
.
.
.
0.326

0.180
6.264
0.004

0.245
8.801
0.001

0.282
7.425
0.000

50

50

50

51

Table B – Regression Results
1) ROE:
Model Summary
Adjusted R
Model

R

Std. Error of the

Square

Estimate

R Square

.367

2

.135

.116

5.78838

.463

1

a
b

.214

.180

5.57592

a. Predictors: (Constant), age
b. Predictors: (Constant), age, brd.mtng

c

ANOVA
Model
1

Sum of Squares

Mean Square

244.941

1

244.941

Residual

1574.752

47

1819.692

2

194.755

Residual

1430.183

46

31.091

Total

1819.692

48

Sig.

7.310

.010

a

6.264

.004

b

48

389.509

F

33.505

Total
2

Regression

df

Regression

a. Predictors: (Constant), age
b. Predictors: (Constant), age, brd.mtng
c. Dependent Variable: roe

52

Coefficients

a

Standardized
Unstandardized Coefficients
Model
1

B
(Constant)

Std. Error

Beta

5.683
.147

.054

-.652

3.425

.177

.054

1.093

.507

(Constant)
age
brd.mtng

t

1.828

age
2

Coefficients
Sig.

3.109

.003

2.704

.010

-.190

.850

.443

3.272

.002

.292

2.156

.036

.367

a. Dependent Variable: roe

2) ROA:
Model Summary
Adjusted R
Model

R

Square

R Square

Std. Error of the
Estimate

.459

2

.211

.194

.96069

.526

1

a
b

.277

.245

.92978

a. Predictors: (Constant), brd.indpndnc
b. Predictors: (Constant), brd.indpndnc, bnk.size

c

ANOVA
Model
1

Sum of Squares

df

Mean Square

11.607

1

11.607

Residual

43.377

47

54.984
15.218

2

7.609

Residual

39.767

46

.864

Total

54.984

48

12.577

.001

a

8.801

.001

b

48

Regression

Sig.

.923

Total
2

Regression

F

53

c

ANOVA
Model
1

Sum of Squares

df

Mean Square

F

11.607

1

11.607

Residual

43.377

47

54.984
15.218

2

7.609

Residual

39.767

46

54.984

a

8.801

.001

b

.864

Total

.001

48

Regression

12.577

.923

Total
2

Regression

Sig.

48

a. Predictors: (Constant), brd.indpndnc
b. Predictors: (Constant), brd.indpndnc, bnk.size
c. Dependent Variable: roa

Coefficients

a

Standardized
Unstandardized Coefficients
Model
1

B
(Constant)
brd.indpndnc

2

(Constant)
brd.indpndnc
bnk.size

Std. Error
2.729

.483

3.604

.468

-.993

.486

t

.535

-1.653

Beta

.332

-1.713

Coefficients

a. Dependent Variable: roa

54

Sig.

8.217

.000

-3.546

.001

6.733

.000

-.443

-3.529

.001

-.257

-2.044

.047

-.459

3) Profit Margin:
Model Summary
Adjusted
R Square
.118
.193

Std. Error of
the Estimate
.2062
.1973

.326
.282
a. Predictors: (Constant), OWN.CONC

.1860

Model
1
2
3

R
.369a
.475b

R Square
.136
.226

.571c

b. Predictors: (Constant), OWN.CONC, AGE
c. Predictors: (Constant), OWN.CONC, AGE, BRD.COMT

d
ANOVA

Model
1

2

3

Sum of
Squares
Regression
Residual
Total
Regression
Residual
Total
Regression
Residual
Total

df

Mean Square

F

Sig.

.322
2.040
2.362

1
48
49

.322
4.250E-02

7.576

.008a

.533
1.829
2.362

2
47
49

.266
3.892E-02

6.847

.002b

.771
1.591
2.362

3
46
49

.257
3.460E-02

7.425

.000c

a. Predictors: (Constant), OWN.CONC
b. Predictors: (Constant), OWN.CONC, AGE
c. Predictors: (Constant), OWN.CONC, AGE, BRD.COMT
d. Dependent Variable: PROFIT.M

55

Coefficientsa

Model
1
2

3

(Constant)
OWN.CONC
(Constant)
OWN.CONC
AGE
(Constant)
OWN.CONC
AGE
BRD.COMT

Unstandardized
Coefficients
B
Std. Error
.554
.071
-.285
.103
.417
.090

Standardi
zed
Coefficien
ts
Beta
-.369

t
7.825
-2.752
4.651

Sig.
.000
.008
.000
.009
.024
.416
.040
.008
.012

-.268
4.258E-03
.117
-.205

.099
.002
.142
.097

-.348
.300
-.265

-2.706
2.328
.822
-2.117

4.839E-03
.264

.002
.101

.340
.330

2.783
2.621

a. Dependent Variable: PROFIT.M

56

Ssrn id2284814

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