Trustee board diversity, governance mechanisms, capital structure and performance in UK charities

• DOI: https://doi.org/10.1108/CG-08-2017-0185
• Pages: 478-508
• Published date: 07 February 2018
• Date: 07 February 2018
• Author: Mohamed H. Elmagrhi,Collins G. Ntim,John Malagila,Samuel Fosu,Abongeh A. Tunyi
• Subject Matter: Corporate governance,Strategy

Trustee board diversity, governance

mechanisms, capital structure and

performance in UK charities

Mohamed H. Elmagrhi, Collins G. Ntim, John Malagila, Samuel Fosu and Abongeh A. Tunyi

Abstract

Purpose – This paper aims to investigate the association among trustee board diversity (TBD), corporate

governance (CG), capital structure (CS) and financial performance (FP) by using a sample of UK

charities. Specifically, the authors investigate the effect of TBD on CS and ascertain whether CG quality

moderates the TBD–CS nexus. Additionally, the authors examine the impact of CS on FP and ascertain

whether the CS–FP nexus is moderated by TBD and CG quality.

Design/methodology/approach – The authors use a number of multivariate regression techniques,

including ordinary least squares, fixed-effects, lagged-effects and two-stage least squares, to rigorously

analyse the data and test the hypotheses.

Findings – First, the authors find that trustee board gender diversity has a negative effect on CS, but this

relationship holds only up to the point of having three women trustees. The authors find similar, but

relatively weak, results for the presence of black, Asian and minority ethnic (BAME) trustees. Second, the

authors find that the TBD–CS nexus depends on the quality of CG, with the relationship being stronger in

charities with higher frequency of meetings, independent CG committee and larger trustee and audit firm

size. Third, the authors find that CS structure has a positive effect on FP, but this is moderated by TBD

and CG quality. The evidence is robust to different econometric models that adjust for alternative

measures and endogeneities. The authors interpret the findings within explanations of a theoretical

perspective that captures insights from different CG and CS theories.

Originality/value – Existing studies that explore TBD, CG, CS and FP in charities are rare. This study

distinctively attempts to address this empirical lacuna within the extant literature by providing four new

insights with specific focus on UK charities. First, the authors provide new evidence on the relationship

between TBD and CS. Second, the authors offer new evidence on the moderating effect of CG on the

TBD-CS nexus. Third, the authors provide new evidence on the effect of CS on FP. Finally, the authors

offer new evidence on the moderating effect of TBD and CG on the CS–FP nexus.

Keywords UK, Charities, Governance mechanisms, Capital structure and performance,

Trustee board diversity, Women and ethnic minority trustees

Paper type Research paper

1. Introduction

In this paper, we examine the relationship among trustee board diversity (TBD), corporate

governance (CG), capital structure (CS) and financial performance (FP) in small- and

medium-sized enterprises (SMEs) with specific focus on a sample of UK charities. The non-

profit sector is economically vital worldwide. In the UK, as at 31 March 2017, the number of

charities registered was 165,277, with a total yearly income of £70.93bn and creating over a

million jobs (Charity Commission, 2017). Charities in the UK also continue to receive a large

amount of donations and grants from the general public/central government to support their

services, despite severe public-sector budget cuts following the recent global financial

crisis. Thus, failure of charities can lead to significant reputational damage to the sector in

Mohamed H. Elmagrhi is

based at the Department of

Accountancy, Finance and

Economics, Huddersfield

Business School, University

of Huddersfield,

Huddersfield, UK.

Collins G. Ntim is based at

Centre for Research in

Accounting, Accountability

and Governance,

Department of Accounting,

Southampton Business

School, University

of Southampton,

Southampton, UK.

John Malagila is Lecturer in

Accounting at Centre for

Research in Accounting,

Accountability and

Governance, Department

of Accounting,

Southampton Business

School, University

of Southampton,

Southampton, UK. Samuel

Fosu is Lecturer in Finance

at the Department of

Finance, Birmingham

Business School, University

of Birmingham,

Birmingham, UK.

Abongeh A. Tunyi is based

at Accounting and Financial

Management Group,

Sheffield University

Management School,

University of Sheffield,

Sheffield, UK.

Received 25 August 2017

Revised 2 December 2017

Accepted 3 January 2018

PAGE 478 jCORPORATE GOVERNANCE jVOL. 18 NO. 3 2018, pp. 478-508, © Emerald Publishing Limited, ISSN 1472-0701 DOI 10.1108/CG-08-2017-0185

particular, but the UK economy in general (Boateng et al., 2016). For example, it emerged

that “Kids Company”, a large UK charity that collapsed recently, received £3m UK

government grant following a ministerial direction despite advice that the grant was unlikely

to represent value for money for UK tax-payers only in the few weeks preceding its failure,

and in total, this charity received over £100m of UK tax-payers’ funds. Additionally, charities

in general are important as they provide a wide range of services to the local and

international community, including providing services to children and their families,

residential housing for the homeless and free services to victims of earthquakes and wars.

In spite of the importance of charities to local and the international community, CG

structures in the charity sector are often overlooked, leading to poor accountability and CG,

weak financial management and internal controls and lack of adequate transparency

(Newton, 2015). The weak monitoring and internal controls usually associated with charities

has often led to their ultimate collapse, and the recent collapse of the “Kids Company” in the

UK is a classic example. The UK Public Accounts Committee’s report into the failure of this

charity indicates that its insolvency was mainly caused by poor CG, CS and FP practices

(PACAC, 2016).

One way to strengthen CG quality in charities is to ensure that more trustees of women and

ethnic minority backgrounds are appointed to charity boards (Buse et al., 2016; Ntim,

2013a; Gyapong et al., 2016; Ntim, 2015). Indeed, recent global debate and public policy,

especially in the EU, UK and Scandinavian countries, has sought to affirmatively increase

diversity in corporate boards. It is argued that board gender and ethnic diversity can

enhance managerial monitoring and board independence by bringing diverse ideas,

perspectives and knowledge into board decision-making (Adams and Ferreira, 2009;

Carter et al., 2003, 2010; Elmagrhi et al., 2016; Ntim, 2016; Gyapong et al., 2016; Loukil and

Yousfi, 2015; Triana et al., 2013). The increased monitoring and independence often

associated with diverse boards may enhance legitimacy and trustworthiness of the board

and consequently encourage stakeholders to provide support to charities, including finance

(Ntim and Soobaroyen, 2013; Ntim, 2013c; Terjesen and Sealy, 2016). It is generally

accepted that board diversity, CG, CS and FP are interlinked with researchers suggesting

that boardroom diversity has a significant impact on critical corporate decisions, including

CG and CS choices (Goerzen and Beamish, 2005). However, there seems to be a lack of

empirical evidence relating to the impact of board gender and ethnic diversity on CS and

the influence of CS on FP in charities. Therefore, in this paper, we seek to make a number

of new contributions to prior studies by examining the link among TBD (i.e. gender and

ethnic), CG, CS and FP by using a sample of UK charities. Specifically, we investigate

the extent to which TBD drives CS and ascertain whether CG quality moderates the link

between TBD and CS. In addition, we examine the effect of charity CS on FP and

ascertain whether the charity CS–FP nexus is contingent on the quality of CG. A

theoretical perspective that captures insights from different CG and CS theories informs

our analysis.

Theoretically, agency theory (loosely incorporating signalling and perking order predictions)

suggests that there is often a potential conflict of interest (and related agency costs)

between the motives of principals (i.e. stakeholders, for example, donors) and agents (i.e.

enterprise management, for example, charity trustees) (Jensen and Meckling, 1976;

Grossman and Hart, 1982; Fama and Jensen, 1983). According to Jensen (1986),

substantial free cash flows in enterprises, such as charities, could signal agency problems

(costs) to principals because of the risk of cash misappropriation by charity trustees. To

signal efficiency in the use of cash flows, Jensen (1986) suggests that charities can use

debt financing as a useful CG mechanism to reduce such agency conflicts. This is because

debt financing would effectively bond the trustees (a signal of agents’ commitment) to

operate efficiently to be able to pay the interest and the debt (i.e. future cash flows).

Consequently, the use of high levels of debt may result in reducing agency costs often

associated with having more free cash flows in the hands of trustees. In the same way,

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