Full Project – AN EVALUATION OF OWNERSHIP STRUCTURE ON EARNINGS MANAGEMENT OF SELECTED COMMERCIAL BANKS IN NIGERIA (Secondary Data)

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CHAPTER ONE

INTRODUCTION

1.1 Background to the study

The question whether the ownership structure influences a firm’s profit has kept researchers busy for many decades now. Most would agree that it started when Berle and Means (1932) started to investigate the subject. In this book, the authors are quite philosophical about the topic. They argue that stock owners are not necessarily engaged with the company anymore. They also find that when a company has many owners, the mangers have more power in the company then when the ownership is held by a low number of individuals. Later on, the question coined above becomes more and more interesting for researchers to look into from various different angles. All of them have in common that the demeanor is corporate performance. What differs it the factors influencing the performance of the companies they have researched. One of the most common ways to look into the subject is to see whether managerial ownership has an influence on the performance of corporations.

Many scholars have identified relevance and reliability as the key qualitative characteristics determining the usefulness of accounting information for making economic decisions. Accounting earnings information is relevant when it influences user’s decisions by helping them to form predictions and/or confirm or correct past judgments. Accounting earnings information is reliable if it can be depended upon to faithfully represent, without bias or undue error, the transactions or events that it professes to represent.

Morc et al. (1988) and Coles et al. (2012) for example try to find a relationship between the two without a conclusive result. Park and Jang (2010) find a positive relationship. The main argument between these researches is whether the agency costs can be reduced. In other words, this means that people want to know whether managerial ownership aligns the interests of the owners and the managers. The quality of accounting information is influenced by an array of factors, most of which stem from the demand for such information for use in contractual arrangements and from the incentives and opportunities of management to manage the reported numbers (Gabrielson, Gramlich&Plenborg, 2002). Both the demand for quality accounting information for contractual purposes and management incentives to adjust the reported earnings are likely to be influenced by whether the equity of the company is privately held or publicly traded (Fryman, Gray, Hessel&Rapaczynski, 1999).

To minimize the occurrence of earnings management measures, then the company needs to implement good corporate governance mechanism in the system of control and management of the company. Poor corporate governance practices are often blamed to be one cause of the crisis. Mechanism of good governance is to ensure the owners or shareholders who earn returns of the undertaken activities by the agent or manager (Schleifer&Visny, 1997).

Corporate governance practices can work well when applying the principles consisting of transparency, accountability, fairness and responsibility. Corporate governance is a system that regulates and controls, the company is expected to provide and increase the company’s value to its shareholders.

Ownership structure of a firm can be categorized into two groups: proportion of shares owned by insiders and outsiders; proportion of shares owned by institutional versus individual shareholders. For the insider and outsider shareholders category, Dahliwal, Salamon and Smith (1982) found that managerial ownership is negatively associated with earnings manipulation. Managerial ownership is a variable that might reduce the agency costs as the motivations of managers are aligned closely to the objectives of other shareholders.

Institutional investors are large investors, other than natural person, who exercise discretion over investment of others. Organizations which are considered as institutional investors are insurance companies (life and non-life), pension funds, investment trusts (including unit trusts), financial institutions (including banks, finance companies, building societies and credit cooperatives), investment companies, and other nominee companies associated with the above categories of institutions (Lang and McNichols, 1997). Institutional investors have the opportunity, resources and ability to monitor, discipline and influence a manager’s decision in the firm (Monks and Minow, 1995).

As literature posits, managers of firms that are highly concentrated stand the chance to be highly monitored (Ramsey& Blair, 1993). A firm is said to be highly concentrated if a significant portion of its equity is in the hands of few individuals (Roodposhti&Chasmi, 2010). Few individuals with more stakes have more reason to be worried about their investments and hence monitor the management of the firm’s affairs. Evidence documented in favour of this hypothesis exist (e.g. Ramsay and Blair, 1993). However, other studies documented evidence suggesting that ownership concentration actually induces earnings management (e.g.Haliouis&Jerbi, 2012). The argument here is that, large shareholder have the capacity to pressure the managers to improve earnings so that their market value may improve, and due to this excessive pressure, the managers will then have to resort to earnings management.

Also, the banking sector in Nigeria is very important to the economy, as a source of employment and economic growth. Therefore, understanding the characteristics of the ownership structure on the earnings management within this sector is vital to enhance the reliability and transparency of reported earnings, which would improve the ability of investors to determine the fair value? These are the important issues that inform the trust of this study.

1.2 Statement of the Problem

The empirical investigation of this relationship has produced very vast literature that used different samples, covered many time-periods and revealed mixed results. There are various divergent views about the role of ownership structure. Warfield, Wild and Wild (1995); Bradbury, Mak and Tan (2006); Soongso (2012); Khanna and Pelapu (2000); Choi, Jean and Park (2004) are of the view that ownership structure have positive influence on earnings management while others such as (Sacchs& Warner, 1995;Koh, 2007’ Omar & Hind, 2012; have contrary view that ownership structure reduces earnings management. Available literature in this area is mixed and to the best of our knowledge, there is no study in Nigeria that has attempted to resolve the mixed result especially in selected commercial banks in Nigeria. Therefore, to what extent does ownership structure influences earning management?

Empirical studies on the relationship between ownership structure and reported earnings management have reported unclear results and did not conclusively determine whether ownership structure affects earnings management. On one hand, several studies evidence supports the significant impact of stock ownership by management and institutions on earnings management (Velury& Jenkins, 2006; Koh, 2007). On the other hand, evidence contained in Sirger and Utama (2008) demonstrate that institutional and managerial ownership are not significantly related to the quality of earnings. In view of these mixed and inconclusive results, which are of foreign origin, we intend to find out to what extent that ownership structures actually impact on earnings management in an emerging economy such as Nigeria?

The identity of owner-investors of firms is important for understanding corporate strategy and risk-taking and various types of owners are likely to have different business priorities and objectives, and varying abilities to effectively reduce risks through diversification. Zou and Adams (2008) added that as a corporate governance mechanism, ownership structure can shape corporate strategies and influence how management are monitored and compensated in order to reduce agency incentive conflicts in firms. Therefore, ownership structure can have important implications for the performance of selected commercial banks. Furthermore, Peng, Tan and Tong (2004) contended that the myriad of corporate ownership and controls structures that exist in many emerging economies like the prevalence of state and family-owned enterprises can influence strategic decision making, such as risk transfer, in ways that are different from companies operating in more developed markets such the UK and US. These factors combine to make the examination of ownership-control structures and performance in transitional economies, such as Nigerian, an important subject for discussion.

Studies in this area in Nigeria have no combination of variables used in this study, especially the foreign ownership variable used. The works of Sandra (2012) used three independent variables (managerial ownership, institutional ownership and ownership concentration). In addition, the study, conducted by Bushee (1998) also used only one variable (institutional ownership).

Most researches in this area either conducted in conglomerate sector, banking sector (Farouk &Shehu, 2013 and Shehu&Jibril, 2012). Therefore, our research has chosen to cover the listed banking firms in Nigeria.

In view of this, the banking firms fall within the most vital sector saddled with the responsibility of providing banking services for the entire nation. Because of its vital position in the economy and highly profitable nature of the sector have made its nature of ownership and type distinct from other sectors. Therefore, the study seeks to ascertain the extent to which the ownership structure influences the earnings management of listed banking firms.

1.3 Objectives of the Study

The main objective of this study is to examine the evaluation of ownership structure on the earnings management of selected commercial banks in Nigeria. The specific objectives are:

To determine the impact of managerial ownership on the earnings management of the selected commercial banks in Nigeria.
To assess the effect of institutional ownership on the earnings management of the selected commercial banks in Nigeria.
To examine the influence of ownership concentration on the earnings management of the selected commercial banks in Nigeria.

1.4 Hypotheses of the Study

In relation to the above stated objectives, the following hypotheses are formulated in null form in order to achieve the desire objectives.

Managerial ownership has no significant impact on the earnings management of selected commercial banks in Nigeria.
Institutional ownership has no significant effect on the earnings management of selected commercial banks in Nigeria.
Ownership concentration has no significant influence on the earnings management of selected commercial banks in Nigeria.

1.5 Scope of the Study

The scope of this study covers a period of six years i.e. 2009 to 2014 and it is restricted to selected commercial banks in Nigeria on the stock exchange. The choice of selected commercial banks was informed by its uniqueness and it falls within the most vital sector saddled with the responsibility of providing banking services for the entire nation.

1.6 Significance of the Study

This study makes two principal contributions to the literature. First, the results of this study can be used as a consideration for investors in deciding to invest and for the creditor in making lending decisions.

It can be used to better understand the role of corporate governance practices and earnings management actions of the company in an effort to enhance shareholder value.

In addition, it also provide information and contribute to the development of science, especially research related to financial accounting and management behaviour, particularly in earnings management.

The result has an important policy implication for country’s reformers and regulators who are striving to improve transparency and quality of financial reporting in the country. That is, the degree of ownership structure is an important determinant of a country’s financial reporting quality and lower earnings manipulations.

Model Specification

In view of the discussion above, the various hypothesis and variables are combined into a functional relation to explain the relationship between ownership structure and earnings management. The empirical form of the model is set below:

DACCR_it=₀ +₁MGROS_it +₂INST_it +₃OWNCONS_it

Where, EM is earnings management measured by discretionary Accruals (DACCR).

MGROS is (managerial) ownership

INST is institutional ownership

OWNCONS is ownership concentration

₀ is intercept

₁ – ₆ is coefficient of slope parameter and

e is error term

Operational Definition of Terms

Earnings management: Earnings management is a method of manipulating financial records to improve the appearance of the company’s financial position. Companies use earnings management to present the appearance of consistent profits and to smooth earnings’ fluctuations.

Ownership Structure: An ownership structure concerns the internal organization of a business entity and the rights and duties of the individual holding the equitable or legal interest in that business. For instance, a shareholder who is also the owner of a corporation has certain rights.

Board Ownership: Board members are encouraged to own company shares on a long-term basis and most of them have substantial holdings, indicating a close alignment of directors’ interests with those of shareholders.

Total assets : Total assets refers to the sum of the book values of all assets owned by an individual, company, or organization. It is a parameter that is often used in net worth debt covenants. The value of a company’s total assets is obtained after accounting for depreciation.

Return on assets: The return on assets shows the percentage of how profitable a company’s assets are in generating revenue

Institutional ownership: Institutional ownership is the amount of a company’s available stock owned by mutual or pension funds, insurance companies, investment firms, private foundations, endowments or other large entities that manage funds on behalf of others.

Financial Performance : Financial performance is a subjective measure of how well a firm can use assets from its primary mode of business and generate revenues.

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