Dynamic relationship between corporate board structure and firm performance: Evidence from Malaysia

• Date: 01 January 2021
• DOI: http://doi.org/10.1002/ijfe.1808
• Published date: 01 January 2021

RESEARCH ARTICLE

Dynamic relationship between corporate board structure

and firm performance: Evidence from Malaysia

Muhammad T. Khan

1

| Qadri M. Al-Jabri

2

| Naveed Saif

3

1

Department of Accounting and Finance,

Faculty of Economics and Business,

Universiti Malaysia Sarawak (UNIMAS),

Kota Samarahan, Malaysia

2

Department of Accounting and Finance,

Laureate College, Jeddah, Kingdom of

Saudi Arabia

3

Institute of Management Science,

University of Science and Technology

Bannu, Bannu, Pakistan

Correspondence

Muhammad Tahir Khan, Department of

Accounting and Finance, Faculty of

Economics and Business, Universiti

Malaysia Sarawak (UNIMAS), Kota

Samarahan, Malaysia.

Email: tahikhan_07@yahoo.com

Abstract

Corporate governance is being acknowledged by almost all kinds of business

communities and firms as an ultimate driver to improve the firm financial per-

formance. This study examined the association between corporate board struc-

ture and corporate financial performance using a dynamic panel model.

Principles of corporate governance deliver an explicit board structure for the

purpose to facilitate the board members, which helps in making good deci-

sions. The board of directors consists of the CEO, the chairman, the internal

directors, and the external non-executive directors to work for the share-

holders. This study undertakes different corporate governance attributes

including non-executive directors, board size, and CEO duality and examines

its effect on firm performance. The dynamic panel model is used, and

preestimation and postestimation tests were conducted for the validity of the

model. This study found a significant effect of board size, CEO duality, and

non-executive directors on firm performance. The findings show that most of

the governance variables are endogenous by nature. Results are consistent

with agency theory. This study provides the theoretical and empirical evidence

and applies a superior model (dynamic panel model) to better explain the asso-

ciation between corporate board structure and corporate firm performance in

listed firms.

KEYWORDS

board structure, corporate governance, dynamic model, firm performance, system GMM

1|INTRODUCTION

The Principles and Codes of Corporate Governance

(CG) gain importance after facing the Asian Financial

Crisis (AFC 1997–1998) by listed firms in Asia and the

Global Financial Crisis (2008) in Western countries. Fail-

ure in CG practice, lack of transparency, and no audit

structure are being considered as the main reasons

behind this crisis and other financial scandals and fraud

(Gupta & Sharma, 2014; Sinnakkannu & Nassir, 2008).

AFC 1997/98 triggered the importance of CG mecha-

nisms in East Asian Countries and its essential role in

business operations, and listed firms are acknowledged.

Before AFC 1997/98, there was a tiny role of CG struc-

ture and principles of CG in the practice of listed compa-

nies in Malaysia. These crises affect negatively the

corporate financial performance (FP) of listed companies

in emerging economies in East Asia including Malaysia

(Haji, 2014). After these crises, many emerging econo-

mies take serious steps and consider the CG structure as

the standard set of rules for the company's structure to be

implemented in the company's practice. CG structure

indeed became the need of the listed firms after various

scandals in Malaysia such as Perwaja Steel Berhad,

Received: 11 March 2019 Revised: 3 October 2019 Accepted: 4 October 2019

DOI: 10.1002/ijfe.1808

Int J Fin Econ. 2019;1–18. wileyonlinelibrary.com/journal/ijfe © 2019 John Wiley & Sons, Ltd. 1

644 © 2019 John Wiley & Sons, Ltd. Int J Fin Econ. 2021;26:644–661.wileyonlinelibrary.com/journal/ijfe

Malaysian Airline System, and Megan Media that were

largely criticized and accused on the poor board structure

in a corporation (Bin & Yi, 2015). CG refers to “the pro-

cess and structure used to direct and manage the business

and affairs of the company towards business prosperity

and corporate accountability with the ultimate objective

of realizing long-term shareholder value while taking

into account the interest of other stakeholders”

(MCCG, 2017).

After these crises, regulatory bodies of the CG had

taken the serious and effective steps to strengthen the

policies and impose the strict restrictions to implement

the CG structure in the company's practice. After differ-

ent scandals and failure of listed firms due to lack of good

governance structure and its implementation in the com-

pany structure, it was decided to adopt the CG reforms in

the company practice. Malaysian Institute of Corporate

Governance (MICG) introduced Malaysian Codes of Cor-

porate Governance (MCCG) in 2000 that were

implemented and adopted by the listed companies in

their structure from June 2001 (Kallamu, Ashikin, &

Saat, 2015) for the purpose of enhancing the governance

structure; security of minority shareholders, audit, and

transparency is a set of rules and regulation that helps

the firm to adopt and implement the proper governance

structure to diminish the misalignment between manage-

ment objectives with those of the shareholders and to

progress the overall corporate FP. However, the applica-

tion of the CG mechanism is different in different coun-

tries, which depends on a political situation, business,

industrial, economic, and social environment (Guo &

Kga, 2012).

This paper will demonstrate the importance of cor-

porate board structure and its impact on corporate per-

formance. This paper offers some evidence to better

explain the CG–FP relationship that remains weak in

previous studies. This paper argues the difference

between the results and inconsistency; the reason

might be the research methodology that was adopted

by these researchers. Previous studies reported the

results regarding the relationship between CG and FP

in the listed firms in emerging economies using tradi-

tional static models. Recently, Flannery and Hankins

(2013a) and Wintoki, Linck, and Netter (2012) reported

the issue of dynamic endogeneity between regressor

and considered these static models as biased estimation

approach. Wintoki et al. (2012) reported that static

models ignore the issue of endogeneity between CG

variables, while most of the CG variables are endoge-

nous in nature. Previous literature reported that there

are two main sources of endogeneity known as

“unobservable characteristics across firms and simulta-

neity.”However, Wintoki et al. (2012) reported that

the association between CG and FP is dynamic and

argued that corporate performance and governance var-

iables are affected by past FP. Hence, the relationship

between CG and FP is affected by another source of

endogeneity that is called “dynamic endogeneity”

(Hoang, Nguyen, 2016).

Specifically, this study re-examines the CG–FP rela-

tionship in a dynamic framework using dynamic panel

model, that is, two-step system generalized methods of

moments (GMM) that helps to control the autocorrela-

tion, the heteroscedasticity, and the issue of endogeneity.

This approach will improve the traditional ordinary least

squares (OLS), fixed effect (FE), and random effect

(RE) that normally ignore the endogeneity in the model.

Some of the studies examined the association by examin-

ing the usually one or two CG variables only, while some

used the index approach to examine the relationship.

The main objective of this paper is to examine the

relationship between CG mechanism and FP in the listed

firms in Malaysia taking dynamic endogeneity into

account and using a dynamic panel model (system

GMM). This paper will report the level of FP of the listed

firm in Malaysia and the level of compliance of CG in the

listed firm in Malaysia. This paper is constructed empiri-

cally for the purpose of better explaining the various CG

mechanisms such as board size (BS), non-executive direc-

tors (NEDs), and chief executive officer (CEO) duality

(CEOD) and with the support of the associated theories

such as agency theory (AT), stewardship theory (ST), and

resource dependence theory (RDT). This paper under-

takes difference proxy used as CG and examines its

impact on firm FP on the basis of theoretical and empiri-

cal evidence.

This paper contributes to present a clear picture of

the CG–FP relationship in Malaysian listed firms. This

paper aims to fill the gap in the existing literature and

provides empirical evidence about CG and FP relation-

ship. It contributes to the existing literature in the fol-

lowing ways: first, it provides comprehensive

knowledge regarding CG and the related issues; sec-

ond, it takes different CG mechanisms individually to

report the results regarding the relationship for each

governance variables; third, it provides information

regarding the compliance level of listed companies in

Malaysia with Codes of CG; fourth, this study takes

the dynamic endogeneity into account and used a

dynamic model to better explain the relationship; and

last, this study uses the superior estimation approach

“two-step system GMM”as the previous literature used

OLS and FE to examine the association between CG

and FP. Significantly, this paper not only benefits the

current students and scholars who are doing a study

regarding CG mechanism and FP, investors, and

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