Is CEO Duality Always Negative? An Exploration of CEO Duality and Ownership Structure in the Arab IPO Context

• Published date: 01 March 2009
• DOI: http://doi.org/10.1111/j.1467-8683.2008.00724.x
• Date: 01 March 2009
• Author: Nicholas S. Tohmé,Salim Chahine

Is CEO Duality Always Negative? An

Exploration of CEO Duality and Ownership

Structure in the Arab IPO Context

Salim Chahine* and Nicholas S. Tohmé

ABSTRACT

Manuscript type: Empirical

Research Question/Issue: This paper examines the relationships between initial public offering (IPO) underpricing, CEO

duality, and strategic ownership in 12 Arab countries of the Middle East and North Africa (MENA) region.

Research Findings/Results: Using all IPOs from January 2000 until the end of July 2007, we document an average IPO

underpricing of 184.1 per cent. Underpricing is higher in IPO f‌irms that have CEO duality. However, strategic shareholders,

such as corporations and other industry-related investors, are likely to play a monitoring role whereas underpricing is

found to be lower in f‌irms with both CEO duality and strategic shareholder ownership. Moreover, the negative relation

between underpricing and strategic blockholding is greater for foreign strategic ownership than it is for domestic strategic

ownership.

Theoretical Implications: This paper examines the level and determinants of IPO underpricing in the MENA region. It

provides evidence on the role played by foreign strategic owners in reducing agency conf‌licts and information asymmetries

within an environment where f‌irms may be affected by the cultural issues related to political ties and family involvement.

Practical Implications: Our results contribute to the existing debate on the appropriate regulations for an effective and

stable f‌inancial system in Arab countries. They offer policy-makers additional evidence on the positive impact of market

openness to foreign shareholders.

Keywords: Corporate Governance, CEO Duality, Ownership Issues, IPO Pricing, Agency Theory, MENA Region

INTRODUCTION

An initial public offering (IPO) represents a signif‌icant

shift made by a company in movingto the public arena.

IPO research has allowed for the study of numerous f‌irm

and market characteristics, as well as a greater understand-

ing of market and investor behavior. Arguably one of the

main topics of interest in IPO research has been the existence

and nature of IPO underpricing, or the discount observed in

the difference between the IPO offer price and the closing

share price on the f‌irst day of the IPO f‌irm’s trading. IPO

underpricing gained regularity and the dramatic levels

observed during signif‌icant interest through its pronounced

the dot-com bubble period from roughly 1997 till 2001

(Ljungqvist, 2004). The existence of IPO underpricing as a

prevalent phenomenon is now well documented. Moreover,

research has covered a broad range of countries in docu-

menting underpricing (see Loughran, Ritter and Rydqvist,

1994, for a summary of underpricing in 39 countries).

However, there is still no evidence on the level and deter-

minants of underpricing in the Arab markets, where estab-

lished IPO and corporate governance research may be

affected by specif‌ic social and cultural legacies.

The Arab f‌inancial markets and, more broadly speaking,

the markets of the Middle East and North Africa (MENA)

region, have passed through a recent market bubble, garner-

ing greater interest about not only the opportunities these

markets present, but also about their nature and character-

istics. A number of factors contributed to the development

of this bubble, such as the swift increase in regional wealth

and liquidity riding on the wave of rising oil prices and the

shift of Arab investment away from the US markets follow-

ing 9–11 (Khalaf and Wallis, 2006). The boom clearly

emerged in early 2005, with some of the biggest signs

*Address for correspondence. American University of Beirut, The Olayan School of

Business, Bliss Street, P.O.Box: 11-0236, Beirut, Lebanon.

Tel: 961.1.374374; Fax:961.1.750214; E-mail: sc09@aub.edu.lb

123

Corporate Governance: An International Review, 2009, 17(2): 123–141

© 2009 TheAuthors

Journal compilation © 2009 BlackwellPublishing Ltd

doi:10.1111/j.1467-8683.2008.00724.x

coming from regional investors’ reactions to Arab IPOs,1

such as the Aabar Petroleum Investments Company IPO

which was oversubscribedan immense 800 times and exhib-

ited f‌irst-day initial underpricing of 434 per cent, or the

equivalent of US $716.1 million. Such examples of under-

pricing have been common in the Arab markets and it is

therefore important to understand any potential mecha-

nisms that would reduce the amount of money left on the

table at the time of an IPO.

Despite their recent growth, Arab f‌inancial markets

remain less developed than their western counterparts in a

number of key respects, such as their weak regulatory

frameworks and markets for corporate control. Internal cor-

porate governance mechanisms thus become more relevant

in solving agency problems within IPO f‌irms. Arab f‌irms

however suffer from the legacy of fragmented culture and a

discontinuous history that is not conducive to the develop-

ment of sound management practices (Ali, 1995). Arab IPO

f‌irms, for example, tend to have concentrated ownership

and are often affected by political ties and family involve-

ment. Consequently, typical governance mechanisms such

as board size and the proportion of outside directors may

not be effective in monitoring and addressing the various

agency problems within IPO f‌irms. Instead, other mecha-

nisms such as leadership structure of the board–dual or

independent–are indicative of the exercise of power and the

extent of managerial domination of Arab owners who

usually act as board members. As such, the choice of the

leadership structure and its interplay with external monitor-

ing ref‌lects the desire of Arab owners to exert good gover-

nance practices and has thus a signif‌icant role in mitigating

agency problems.

Agency theory predicts the potential for opportunistic

behavior under CEO duality (i.e., a dual leadership structure

where the CEO acts simultaneously as the chair of the board

of directors). This opportunistic behavior may be even more

signif‌icant in Arab f‌irms where management styles are

usually affected by the bureaucratic legacy of colonial status

and the “Bedouin” orientations. It also results from the use

of hierarchical authority and patriarchal approach by Arab

managers who show evident nepotism in selecting upper-

level management (Ali, 1990). Arab CEOs who also serve as

chairman of the board are therefore likely to appoint related

board members who will be less involvedin monitoring and

overall issues concerning corporate governance (Prevost,

Rao and Hossain, 2002), which may increase underpricing

(Certo, Daily and Dalton, 2001).

There are, however, numerous potential benef‌its of CEO

duality and these benef‌its are perhaps very important to a

company that is either young, such as a startup, or going

through a signif‌icant change, such as that involved in an

IPO. Having a focused leadership with a single individual

might therefore increase a f‌irm’s responsiveness, if agency

problems can be kept in check (Pfeffer and Salancik, 1978),

particularly in an inherently unstable and rapidly changing

business environment. Within this framework, the presence

of external strategic shareholders is perhaps one such

mechanism to control the power of CEOs and mitigate

agency problems. Strategic block-holders – such as corpo-

rations and other industry-related investors – who are

long-term investors concerned with fostering their strategic

interests and securing the access of their investee-f‌irms to

new markets and technology (Douma, George and Kabir,

2006), may further improve the effectiveness of corporate

governance (Claessens, Djankov and Lang, 2000).2They do

so by introducing the necessary checks and balances for

agency problems of CEO duality, while allowing for the

benef‌its of focused leadership. However, not all strategic

shareholders will necessarily have the same impact on

underpricing, particularly in the context of the Middle East.

More specif‌ically, it is quite conceivable that foreign strate-

gic shareholders may have greater experience, monitoring

capabilities, and credibility than domestic (i.e., regional)

strategic shareholders. First, domestic strategic sharehold-

ers are more likely to offer inferior technical collaborations

and organizational and f‌inancial resources than foreign

strategic shareholders (Chibber and Majumdar, 1999;

Djankov and Hoekman, 2000; Khanna and Palepu, 2000).

Second, their monitoring role is usually affected by the

existence of ties and networks in the domestic business

environment (Claessens et al., 2000; Dharwadkar, George

and Brandes, 2000; Douma et al., 2006). Within this frame-

work, this paper undertakes a study of underpricing in 12

of the MENA region’s IPO markets, comprising the coun-

tries of Bahrain, Egypt, Jordan, Kuwait, Lebanon, Morocco,

Oman, Qatar, Saudi Arabia, Sudan, Tunisia, and the United

Arab Emirates. The IPO markets of these regions are sur-

veyed from January 2000 till the end of July-2007, produc-

ing a sample of 127 MENA IPO.

The remainder of this paper is organized as follows: the

second section presents a brief review of the literature and

introduces our main hypotheses; the third section includes

the data and research methodology; the fourth section pre-

sents descriptive statistics and empirical f‌indings; and. the

f‌ifth section concludes and discusses some future research

avenues in Arab IPO markets.

REVIEW OF LITERATURE AND

HYPOTHESES

Despite recent recommendations in developed countries,

the separation between the chief executive off‌icer job and

the duties of the chairman is not an easy task in an envi-

ronment dominated by family companies such as in the

Arab world (Omran, Bolbol and Fatheldin, 2008).3The Arab

world has a relatively closed and highly concentrated

political system with a poor mode of national governance.

This naturally spills over to its system of corporate gover-

nance, as the majority of Arab f‌irms are either government-

or family-owned with stock markets still in a rudimentary

stage. Despite rapid changes because of competition for

trade openness and the need for more external f‌inancing,

Arab f‌irms are still affected by their cultural and historical

legacies, which do not encourage internally driven

improvements in the effectiveness of corporate governance

practices.

A substantial body of research has focused on the associa-

tion between f‌irm performance and CEO leadership, i.e.,

dual versus independent board structure, (see Dalton, Daily,

Ellstrand, and Johnson, 1998; Daily, McDougall, Covin and

Dalton, 2002 for a review of literature). From a stewardship

124 CORPORATE GOVERNANCE

Volume 17 Number 2 March 2009 © 2009 TheAuthors

Journal compilation © 2009 BlackwellPublishing Ltd