EFFECTS OF BOARD NATIONALITY AND ETHNIC DIVERSITY ON THE FINANCIAL PERFORMANCE OF LISTED FIRMS IN NIGERIA

ABSTRACT

This study examined the effect of board nationality and ethnic diversity on firms’ performance in the Nigeria stock exchange. With the aim of investigating the level of influence ethnic diversity and board nationality would affect firm performance in terms of profitability and growth in a developing economy, the study made use of ROA, ROE and Tobin’s Q for financial measures. The study analysed date from 60 non-financial firms with periodic observations from 2012-2015 using the ordinary least squares regression method. Yemeni formula was used to calculate the sample size out of the remainder 119 listed non-financial after 57 listed firms from the financial sector were removed. The total sample size was further streamlined to 60 based on a common reporting period (January 1st to December 31st) to ensure consistency. The Findings indicate that ethnic diversity and board nationality has no significant influence on the performance level of firms in both profitability (ROA and ROE) and growth (Tobin’s Q). Findings also reveal that the average board size of the listed non financial firms in Nigeria meets the countries corporate governance requirement of nine (9) members and the average board has a combination of at least two of the three ethnic groups in Nigeria. The board composition of sampled firms still reveals the presence of family members in same board which is against the central board composition code of corporate governance. This study encourages a diverse board since there is no significant effect on financial based performance; it is still advisable to be diverse except cost outweighs benefits. Diversity always tends to have effects on the way the board members make a decision, or strategic moves. It sets a control, brings innovation and could also slow down the rate of decision making.

Key words: Ethnic diversity, Board nationality, financial performance, Corporate Governance

CHAPTER ONE

INTRODUCTION

1.0 BACKGROUND TO THE STUDY

Board diversity in corporate governance structure is beginning to be of growing importance when it comes to the interest of shareholders and firm performance nowadays. With evidence shown from notable studies from, (Erhardt, Werbek & Shrader, 2003; Lee & Far, 2004; Bergen

• Massey, 2005; Robertson & parker, 2007: Adams and Ferreira, 2007; Harris and Raviv, 2008; Ferreira, 2010). Recently, scholars like: (Marimuthu, 2011; Darmadi, 2011; Omoye, Alade, & Eriki, 2013; Cimerovaa, Dodda, & Frijnsa, 2014), and much more have also investigated board diversity and its effects to an entity. There is an accelerated focus on the study of board composition: board independence; board size and board diversity, (Carter, Simikins & Simpson, 2003; Erhardt, Werbek & Shrader, 2003; Garba & Abubakar, 2014 & Heyvon, 2014).

The promotion of diversity in the board has been a frequent subject of recent in literature due to the potential benefits from having a wealth of different individual quality and experience on in a single board. Hambick & Mason, (1984), observed that management heterogeneity has a greater tendency to bring about quality decision making. Similarly, with Hambick and Mason, Other studies such as that of Wiersema & Bantel (1992); Watson, Kumar, & Michaelsen, (1993); Cox, (1993) has also spelt out the importance of corporate board diversity. The work of Adams & Ferreira, (2009) in particular highlighted the potential benefits of corporate board diversity to a firm as it brings about: Creativity, variety of views and perspectives; more resource accessibility and more connections; Public relations, legitimacy and investor relations and finally career incentives through mentoring and signaling. Carter, D’souza, Simkins, & Simpson (2007) looked into Fortune 500 board narrowing their scope by using gender and racial diversity between the year 1998-2002 and they observed that gender and racial diversity have positive effects on firms’ performance. However, various forms of diversity, such as race, sex, age, and ethnicity could result in tension, conflict, and hinder corporation and affect communication thereby reducing firm’s performance. This satisfies the definition of Ferreira, (2010) that a corporate board of a firm is viewed as the composition of separate individuals who are controlled by different bias and varying preconceived notions and are affected by social constraint & power relation. Diversity in culture is the representation of people of distinct groups of affiliation in one social system, Cox, (1993). These definitions have been reflective in the empirical work of Darmadi (2011) who investigated listed firms in Indonesia stock exchange between the diversity of the board and financial performance of the firms. In his study, he selected three elements of diversity which are gender, nationality, and age, using 169 listed firms and discovered that there was no influence of diversity on firm’s performance. Also, Cultural Heterogeneity may have also resulted in conflicts which have enhanced the performance of an organization; it is linked positively with better problem-solving options, Omoye, Alade, & Eriki (2013).

1.1 STATEMENT OF PROBLEM

Several countries such as Norway (since 2006, 40% of the board are female), Spain, Iceland, France, Singapore and Malaysia (30% of the board are female) have succeeded in passing a regulation for a specific quota of female in board, Adam & Ferreira, (2009); Ahern & Dittmer, (2012); Heyvon, (2014), of which many countries are yet to implement their percentage quota. Nevertheless, certain aspects of diversity (apart from gender) such as ethnic, racial, education, Industrial background seem neglected in determining board composition. The central thought should be, is there a perfect prescription as pertaining to the diversity in corporate board? Authors such as Metz & Harzing, (2009); Marimuthu & Kolandaisamy, (2009); Matlala, (2011); have laid emphasis on the importance of female directors and their positive effect on performance and earnings. The term board diversity cuts across so many variables such as age, race, gender, culture, religion, the level of education and background experience Swartz & Firer, (2005); Ferreira (2010); Kulkarni, (2012). In view against corporate failures in all over the world, countries have been taking critical steps to ensure prevention of future occurrences, and one of such measure is diversity in board of corporate firms. These steps/measures were taken to strengthen corporate governance in firms, especially those listed. One of such actions was CEO duality brought into recognition, separating the role of a chairman from that of a typical CEO. The separation of the responsibilities of CEO from Chairman of a board, executives, non-executive, and independent non-executive directors are forms of diversity. Walker, (2007) review was based on board size and Composition in FTSE 100 and UK banks and a prescribed 50% independent directors rule was proposed. In 2016, Parker review, (2016) was issued by Earnest and Young and the major resounding voice echoed the necessity for racial and ethnical diversity in board. (Margot; made a speech, November 2, 2016) at Sir, parker’s dinner made a statistics of 1.5% of board members in the FTSE 100 are black and minority ethnic and majority of the firm’s board has white ethnic at the whole board composition. This is a sign of deficiency in racial and ethnic diversity in UK board.

Margot, in 2016; made a speech at Sir, Parker’s dinner, November 2, 2016, he stated that: “People from different backgrounds bring different experiences and perspectives, and it’s long been recognized that greater diversity in the boardroom can help create constructive and challenging dialogue. Having this diversity around the table helps ensure the board will fulfil its duties to the fullest and take well-grounded decisions.”

Giving the effects of ethnic groups in a country like Nigeria, leading to tribalism and discrimination. A Dearth of literature has been written on the effects of the board, ethnic diversity on firms’ performance, Omoye, Alade & Eriki, (2013). Foreign expert rate is a part of UK corporate governance and other countries have incorporated it into their books. For instance, Richard, (2000) looking at ethnic and racial diversity, were able to draw out the inference that foreign investor, board participation increases performance of firms in Korea, Ruigrok, peck & Tacheva (2007) also observed that in Swiss corporation, foreign directors tend to be more independent. This study has a direction towards investigating the possible influences that national and ethnic diversity has on the performance of the firm. Unlike previous studies such as (Campbell & Mínguez-Vera, 2008; Marimuthu & Koladaisamy 2009), have dwelt on gender diversity, board independence and focused on the whole listed firm as well as listed banks in a country. Other studies have been able capture and make use of financial performance parameters lie profitability ( ROE, ROA, ROI etc.) and Market value ( Tobin’s Q, Earnings predictability, earnings management etc.), but non have been able to look at the growth aspect of financial performance dealing with market share growth and asset growth. To the best of knowledge, no prior literature have been able to compare this study among various industries and non has made use of non-financial measures. No Nigerian based study has examined data from post-IFRS periods concerning this study or has made a comparative study between the pre-IFRS and pos-IFRS. This study is concerned about investigating the listed firms in Nigeria except for the firms that belong to the financial service industry. This study makes use of financial performance profitability indicator such as ROE, ROA and financial growth indicators such Tobin’s Q ratio for financial performance measurement. The study also differs from prior Nigerian based studies due to the fact that it pulls from post-IFRS data. Also, its method of data analysis and stationary test which will make use of ordinary least square panel regression random model and unit root test respectively.

1.2 RESEARCH QUESTIONS

The following research questions are used to structure the research objective. The research questions direct the researcher into giving answers to the study’s overall objective as shown below.

• What level of influence does ethnic diversity have on the firms’ performance?
• How can the presence of foreign directors affect firms’ performance?

1.3 RESEARCH OBJECTIVES

The study is aimed at investigating the influence board diversity has on the earnings persistence of firms. The streamlining of board diversity in board size, national and ethnic diversity furthers breaks the main objective into specific objectives which are to:

• Determine the influence of ethnic diversity on firms’ performance.
• Ascertain whether the presence of foreign directors affects firm’s performance.

1.4 RESEARCH HYPOTHESIS

• H0: Ethnic diversity has no significant effect on firms’ performance
• H0: The presence of foreign directors has no significant influence on firms’ performance

1.5 SIGNIFICANCE OF STUDY

This study firstly tries to explain the possible influence of board nationality, size and ethnic diversity on the performance of a firm. The performance of a firm is critical to its eventual health and life span. Two key contributions are made in this study. Firstly, we make contributions to the culture and finance literature by providing bedrock can be used as a base in the assessment of the impact of Nationality and ethnicity within a board of a firm. Second, we contribute to the literature on board diversity (which has predominantly focused on board independence and gender diversity) by introducing cultural diversity in the form of ethnic diversity, a thus-far overlooked aspect of board diversity. Thus far, the lens through which boards of directors have been viewed is board size and proportion of independent directors (Coles et al., 2007; Dennis and Sarin, 1999; Anderson et al., 2000). Potential users of this research, such as shareholders, students, researchers, management and board of sampled firms would be able, to observe trends based on the effects of each of the independent variables (board nationality, board ethnic diversity) on the dependent variable firms’ performance. This will be able to influence the BOD and shareholders’ decisions on future director appointments in firms, of which could benefit the interest of shareholders. Lastly, this study would help improve corporate governance in firms and will help push researchers into future investigations

This study has great significance due to the fact that few studies of this nature have been carried out in African countries and other less developing countries like. Similarity based on Hofstede (1980, 1983), Schwartz (1994, 2007) and Gray (1988) cultural areas of cultural distance, landmark studies which were able to explain the evolution of accounting subculture influenced by societal values. From the division of cultural areas into: (1) more developed Latin. (2) Less developed Latin. (3) More developed Asian. (4) Less developed Asian (5) near eastern (6) African (7) Germanic (8) Anglo (9) Asian-colonial and (10) Nordic. From this we could deduce that if this study covers the scope of Nigeria then it represents the whole “African”. The reason being that the cultural values for “African” are the same. Harvested (1980, 1983) cultural values are: Individualism, power distance, uncertainty avoidance, masculinity. (a) Measurement and disclosure: optimism, conservatism, transparency and secrecy (b) Authority and enforcement: statutory control, flexibility, uniformity and professionalism. The “African” is characterized by secrecy and conservatism based on measurement and disclosure and based on authority and enforcement: statutory control and uniformity so Nigeria could be a minute representation of Africa based on Gray, (1988) and Hofstede, (1983)

1.6 JUSTIFICATION OF STUDY

The wake of previous scandals in Nigeria and necessary improvement needed in proper governance, acting in the interest of shareholders. Prior studies on cultural diversity such as (Cimerovaa, Dodd & Frijnsa, 2014; Cox, 1993; Marimuthu & Koladaisamy, 2009; Marimuthu, 2011; Mazur & Białostocka, 2010; and Nederveen, Van Knippenberg & Van Diererdonck 2013) have been studies conducted outside of Nigeria; this study is taking a deep look at the Nigerian stock exchange.

The recent parker review made emphasis on a research work by (Atewologun, 2016) on the low representation of ethnic minorities in the UK board, several implications and solutions where prescribed. This is scarcely being viewed and visited in countries with individuals of diverse ethnic backgrounds such as Nigeria. A very few, to the best of knowledge, have laid emphasis on the possible effect of ethnic diversity (Omoye, Alade, & Eriki, 2013). However, most of the empirical research on board diversity was mainly derived from the developed countries’ perspective, such as the U.S. (Hillman et al. 2002; Gul et al. 2011), the U.K. (Conyon & Mallin 1997; Brammer et al. 2007) and Australia (Nguyen & Faff 2006; Kang et al. 2007). Owing to the differences between the developed and the developing countries, for examples, in terms of their regulatory, cultural, economic environments, size of capital markets and effectiveness of governance mechanism (Aguilera 2005; Kang et al. 2007; Petrovic 2008; Li & Harrison 2008; Veen & Elbertsen 2008), more evidence should be drawn from the developing countries, in a way to contribute to the limited literature on board diversity. Rather than relying on research results from other countries, researchers need to take national circumstances into account in examining board diversity (Ruigrok et al. 2007)

1.7 SCOPE AND LIMITATIONS OF STUDY

The study covers the whole listed firms in Nigeria stock exchange with the exclusion of the financial service sector/industry, cutting across all the remainder, ten industries which are a total of 119 { 176 (total) – 57 (financial service sector) } firms as at the time of the study. The study is limited to the sample size of at least 5% of the total number of listed firms as supported by (Krejecie & Morgan, 1970). A systematical approach was used in selecting samples from each industrial sector on the stock exchange, of which about 50% samples each were selected from each industry so as to avoid bias. The study is narrowed down to board nationality and ethnic diversity as an aspect of board diversity. The study made use of financial measurement variable; specifically profitability and growth variables. The profitability variables used are ROE and ROA, while the growth variable used is TOBIN’S Q ratio. The ROE, ROA and Tobin Q formula would be used to calculate the value of the firm’s level of financial performance. Panel data regression will be used to determine the relationship, degree of movement and level of influence between the dependent variable and the independent variables.

1.8 OPERATIONAL DEFINITION OF TERMS

Agent: An individual put in charge of a particular venture, business, undertaking and property, to represent the owner in management, maintenance and is expected to make accounts to the owner for activities/occurrences (positive or negative) affecting such property transparently. Unlike stewards, this individual is assumed to usually make action to feed his/her personal interest rather than that of the owner.

Agency theory: This theory makes the assumption of a conflicting relationship that exist between the principal and agent, where the agent has more knowledge of the business than the principal. Agency theory identifies the conflicting interest between both parties and seeks to solve them.

Board: A composition of directors both executive and non-executive of firm.

Board diversity: The composition of board members of a firm with a different background, gender, race, culture, work experience, age, education, and skill composition.

Board Nationality: Existence of members of board from various nations in a corporate board. This is the ratio of foreign board members to total board size. The potential advantages of foreign board membership have received serious attention in corporate governance studies globally

Board size: Number of board members of a corporate board, which includes directors both executive and non-executive of the firm.

Corporate Governance: The methods by which suppliers of finance control managers in order to ensure that their capital cannot be expropriated and that they earn a return on their investment.

Company: A group of organized individuals that have come together, and are registered as a firm, with the aim of pulling factor of production together and running business activities for profit making. (See Firm)

Diversity: A range of different individuals of different gender, background, race, ethnic group and nationality.

Ethnic diversity: Combination of large group of people with different heritage, origin, and race

Ex post factor: A research design is a method in which groups with qualities that already exist are compared on some dependent variable. Also known as “after the fact” research, an ex post facto design is considered quasi-experimental because the subjects are not randomly assigned – they are grouped based on a particular characteristic or trait

Firm: A company registered and established with the sole aim of profit making.

Financial performance: Quantitative reflection of the periodic financial state and the health of a firm usually revealed in a financial report. This is a measure of how well a firm can use assets from its primary mode of business and generate revenues. This term is also used as a general measure of a firm’s overall financial health over a given period of time.

Financial report: A yearly document showing the health status of a firm. Prepared by a firm with the purpose of revealing the true and fair total health status of the firm. This document is material to the stakeholder’s decision.

Mean: Mean is the average value of the series, obtained by adding up the series and dividing by the number of observations.

Median: Median is the middle value (or average of the two middle values) of the series when the values are ordered from the smallest to the largest. The median is a robust measure of the center of the distribution that is less sensitive to outliers than the mean

Panel data: Also known as cross-sectional time series data (longitudinal data) data derived from a number of observation overtime on a large number of cross-sectional units like individual, government, firm or household

Resource dependency theory: The theory stresses that, board members with different skills, different cultural backgrounds, different gender, among others, will act as a strategic resource to the firm which may result in superior performance

Return on asset: A measure of a company’s profitability, equal to a fiscal year’s earnings divided by its total assets, expressed as a percentage

Return on equity: A measure of how well a company used reinvested earnings to generate additional earnings, equal to a fiscal year’s after-tax income (after preferred stock dividends but before common stock dividends) divided by book value, expressed as a percentage.

Shareholder: Shareholders are people who have bought shares in a limited liability company. They own a part of the company in exact proportion to the proportion of the shares they own. Individuals or persons that own a portion or percentage of a company’s equity.

Social identity theory: a sense of belonging that dawns on an individual, especially when he finds himself in an environment where in which the people around him share same social groupings such as social status, social identity, cultural background, ethnical heritage, same age range or even same religion.

Stakeholder: Individuals, groups, associations, businesses and system that can affect or are affected by an organization’s activities

Stakeholder Theory: This theory alerts the firm on the need to satisfy the interest of every individual or community that has one thing or the other to do with the organization. The theory assumes that firms are meant to recognize the responsibility to all those who are affected by all of their operations. These individuals have a direct or indirect relationship with the firm, this means that they either can affect the firm or the firm can affect them

Steward: An individual put in charge of a particular venture, business, undertaking and property, to represent the owner in management, maintenance. This individual is assumed to usually makes proper and fair account to the owner for activities/occurrences (positive or negative) affecting such property transparently.

Stewardship theory: An assumption that a steward protects and maximizes shareholders‟ wealth through firm performance, because, by so doing, the steward’s utility functions are maximized.

Tobin’s Q: It is a statistic that might serve as a proxy for the firm’s value from an investor’s perspective. Tobin’s Q is the ratio of the stock market valuation of firms to their “replacement” costs.

Unit Root Test: a unit root test, tests whether a time series variable is non-stationary and possesses a unit root. The null hypothesis are generally defined as the presence of a unit root and the alternative hypothesis is either stationary, trend Stationarity or explosive root depending on the test used

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