Relationship between Corporate Governance and Financial performance of Banks

ABSTRACT

An international wave of mergers and acquisitions has swept the banking industry as boundaries between financial sectors and products have blurred dramatically. There is therefore the need for countries to have sound resilient banking systems with good corporate governance, which will strengthen and upgrade the institution to survive in an increasingly open environment. In Nigeria, the Central Bank unveiled new banking guidelines designed to consolidate and restructure the industry through mergers and acquisition. This was to make Nigerian banks more competitive and be able to operate in the global market. Despite all its attempts, the Central Bank of Nigeria disclosed that after the consolidation in 2006, 741 cases of attempted fraud and forgery involving N5.4 billion were reported. In the light of the above, this research examined the relationships that exist between governance mechanisms and financial performance in the Nigerian consolidated banks. And also to find out if there is any significant relationship between the level of corporate governance disclosure index among Nigerian banks and their performance. The Pearson Correlation and the regression analysis were used to find out whether there is a relationship between the corporate governance variables and firm‟s performance. In examining the level of corporate governance disclosures of the sampled banks, a disclosure index was developed guided by the CBN code of governance and also on the basis of the papers prepared by the UN secretariat for the nineteenth session of ISAR (International Standards of Accounting and Reporting). The study therefore observed that a negative but significant relationship exists between board size, board composition and the financial performance of these banks, while a positive and significant relationship was also noticed between directors‟ equity interest, level of governance disclosure and performance. Furthermore, the t- test result indicated that while a significant difference was observed in the profitability of the healthy banks and the rescued banks, no difference was seen in the profitability of banks with foreign directors and that of banks without foreign directors. The study therefore concludes that there is no uniformity in the disclosure of corporate governance practices by the banks. Likewise, the banks do not disclose in general how their debts are performing, by providing a statement that expresses outstanding debts in terms of their ages and due dates. The study suggests that efforts to improve corporate governance should focus on the value of the stock ownership of board members. Also, steps should be taken for mandatory compliance with the code of corporate governance while an effective legal framework should be developed that specifies the rights and obligations of a bank, its directors, shareholders, specific disclosure requirements and provide for effective enforcement of the law.

TABLE OF CONTENT

Title Page ………………………………………………………………………………….. i

Declaration………………………………………………………………………………… ii

Certification……………………………………………………………………………….. iii

Dedication…………………………………………………………………………………. iv

Acknowledgements………………………………………………………………………… v

Table of Content…………………………………………………………………………… vi

List of Tables………………………………………………………………………………. vii List of Figures……………………………………………………………………………… viii

Appendices………………………………………………………………………………… ix

Acronyms and Definitions…………………………………………………………………. x

Abstract…………………………………………………………………………………….. xi

CHAPTER ONE: Introduction

1.0Background to the Study……………………………………………........................ 1 

1.1Statement of Research Problem…………………………………………………….. 6 

1.2Objectives of Study…………………………………………………………………. 10 

1.3    Research Questions11

1.4    Research Hypotheses12

1.5Significance of the Study…………………………………………………………… 13 

1.6Justification of Study……………………………………………………………….. 14 

1.7Scope and limitation of Study………………………………………………………. 16 

1.8Summary of Research Methodology……………………………………………….. 17 

1.9Sources of Data ……………………………………………………………………. 18 

CHAPTER TWO: Literature Review and Theoretical Framework

2.0Introduction   ………………………………………………………………….…… 25 

2.1What is Corporate Governance?.................................................................................. 26 

2.2Historical Overview of Corporate Governance …………………………..…………28 

2.3Corporate Governance and Banks…………………………………………………... 30 

2.4Elements of Corporate Governance in Banks ……………………………...………. 34 

2.4.1Regulation and Supervision as Elements of Corporate 

Governance in banks……………………………………………….. 36 

2.5Corporate Governance Mechanisms………………………………..………………. 41 

2.5.1Shareholders …………………...…………………………………….42 

2.5.2Debt Holders………………………………………………………….43 

2.6Linkage between Corporate Governance and Firm Performance Practices………..46 

2.7The Role of Internal Corporate Governance Mechanisms in Organisational Performance…………………………………………………………………………. 48 

2.7.1Role of Auditor……………………………………………………… 48 

2.7.2Role of the Board of Directors…………………………………….... 49 

2.7.3Role of Chief Executive Officer…………………………………….. 50 

2.7.4Role of Board Size………………………………………………….. 51 

2.7.5Role of CEO Duality………………………..……………………… 52 

2.7.6Role of Managers…………………………………………………… 52 

2.8Regulatory Environment for Banks in Nigeria……………………………………… 53 

2.9Governance Standards and Principles around the World…………………………… 56 

2.9.1United Kingdom…………………………………………………….. 56 

2.9.1.1The Cadbury Report (1992)………………………………………… 57 

2.9.1.2The Greenbury Report (1995)………………………………………. 58 

2.9.1.3The Hampel Report (1998)…………………………………………. 58 

2.9.1.4The Higgs Report (2003)……………………………………………. 59 

2.9.1.5The Combined Code of Corporate Governance (2003)…………….. 60 

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2.9.2OECD……………………………………………………………….. 61 

2.9.3Australia…………………………………………………………….. 63 

2.9.4United States……………………………………………………….... 64 

2.9.5Standards and Principles Summary…………………………………..   67 

2.10Corporate Governance and the Current Crisis in Nigerian Banks………………….. 68 

2.11The Current Global Financial Crisis………………………………………………... 70 

2.12Prior Studies on Specific Corporate Governance Practices and Firm-Performance…………………………………………………………………………. 76 

2.12.1Board Composition……….…………………………………………..77 

2.12.2Board Size…………………………………………………………….79 

2.12.3Shareholder‟s Activities……………