Firm Management Ownership

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A lot of research has been done on the incentive problems that arise when decision-making in a firm is in the province of managers who are not stockholders of the firm i.e. otherwise known as Principal-Agent conflicts.

These are conflicts, which do arise as a result of separation of ownership and management. This results in a number of issues such as Agency costs e.t.c, which amongst other consequences results in a loss of firm value.

Various opinions and theories from economists have arisen as a result of research into these conflicts and hence to determine firm performance given these conflicts.

Theories such as the convergence of interest theory, entrenchment theory, behavioural and managerial theories amongst a host of others have resulted from varying research into these conflicts and determinants of firm performance.

Jensen and Meckling (1976), demonstrate that when the owner- manager sells equity in the firm to outsiders and both parties are utility maximisers, the owner-manager's interest will diverge from that of the new principals.

An owner-manager situation is said to exist where the management and shareholding of the business is borne by a single entity.

Agency theory further suggests, that the divergence between the agent's decisions and those decisions that will maximise the welfare of the principal widens as the dispersion of ownership expands.

Alchian and Demsetz (1971), and Jensen and Meckling (1976) gave an insight which views the firm as a team whose members act from self interest but realise that their destinies depend to some extent on the survival of the team in its competition with other firms. (Agency Problems and theory of the firm, pg 289).

Moreover, given that managers (CEO) have no special gene or chromosome that automatically align their personal interest with outside investor's personal objectives (Brealey&Myers; Corporate Finance); they further stated that managers will act in shareholders' interest only if they have the right incentives (Principles of corporate finance, section 12.3).

Berley and Means (1932), and a further analysis by Baumol (1959), Jensen and Meckling (1976) and Grossman and Hart (1980) hypothesize that firm value is a function of ownership structure. 1 (Griffith)

They emphasize that when control is distinct from ownership, and the dispersion of shareholding is far too great to enforce maximisation of shareholder wealth, those in control may deploy assets in ways that benefit themselves rather than the owners.

Hence the objective of this dissertation is aimed at addressing these issues.

Objective of study

This study examines the impact of CEO ownership otherwise referred to as shareholding on firm performance. Specifically, this dissertation tests the hypothesis that the CEO's level of ownership has a notable impact on firm value.

In this study, we extend previous research and literature in several directions to include the following:

The analysis of control and insider ownership as measured by the Chief Executive Officer (CEO) shareholdings in the Nigerian Banking setting.

Explore the variants in the relationship between executive ownership and corporate value for various market capitalisation phases.

CEO ownership and the incentive problems as a solution to the Agency Conflicts.

Investigation into the notion that an entrepreneur or manager in a firm will choose a set of activities for the firm such that the total value of the firm is less than it would be if he were the sole owner.

We try to explain the outcome of our research given the background of the banking industry in our study.

Significance of Study

The evidence provided in this paper indicates that there exists a significant positive influence between the CEO shareholdings and firm performance.

We use the Returns on Asset (ROA) and Return on Equity (ROE) as proxies in the determination of firm performance in this study.

1.2 Outline and organisation of study

The remainder of this paper is organised as follows;

Chapter two reviews preceding literature and the operating environment of the Banking industry on subject matter, Chapter three discusses the economic theory and the economic model employed in this research.

Chapter four discusses the results of our findings, summary statistics, implications and limitations of study, while chapter five gives the concluding remarks.



2.1.1 Agency problems and the theory of the Firm

The theory of the firm (managerial and behavioural) evolves from a series of research and investigations into the incentive problems that arise when decision-making in a firm is in the province of managers who are not the firm's security holders.

The theory of the firm aims to answer the questions such as

The existence of firms

The boundaries of a firm

The organisation of a firm

This theory rejects the classical model of an entrepreneur or owner-manager, who single-mindedly operates the firm to maximize profits and rather favours theories that revolve around the motivations of a manager who controls but does not own the firm. The Firm

The firm has been described in various terms by the varying researchers, one of such research was the insight of Alchian and Demsetz (1972) and Jensen and Meckling (1976), which views the firm as a set of contracts amongst factors of production.

The theory further explained, The firm is viewed as a team whose members act from self interest but realize that their destinies depend to some extent on the survival of the team in its competition with other teams.

Jensen and Meckling (1976) described the firm as a black box, operated so as to meet the relevant marginal conditions with respect to inputs and outputs, thereby maximising profits, and or more accurately, present value.

Ronald Coase in his paper titled the nature of the firm (1937) pointed out that economics had no positive theory to determine the bounds of a firm.

He characterized the bounds of the firm as that range of exchanges over which the market system was suppressed and where resource allocation was accomplished instead by authority and direction. He focussed on the cost of using markets to effect contracts and exchanges and argued that activities would be included within the firm whenever the cost of using markets were greater than the costs of using direct authority.

Alchian and Demsetz (1972) object to the notion that activities within the firm are governed by authority, and correctly emphasize the role of contracts as a vehicle for voluntary exchange. They emphasize the role of monitoring in situations in which there is joint input production or team production.

Jensen and Meckling support the importance Alchian and Demsetz attached to monitoring but believe that the emphasis placed on joint input production is too narrow and therefore misleading.

They stated, Contractual relations are the essence of the firm, not only with employees but with suppliers, customers, creditors, and so on.

The firm is stated as a form of legal fiction, which serves as a nexus for contracting relationship, characterised by the existence of divisible residual claims on the assets and cash flows of the organisation, which can generally be sold without permission of the other contracting individuals.

The view of a firm as a set of contracting relationships among individuals also defines the notion of firm personalisation as mis-leading. Questions such as what should be the objective function of a firm. The firm is not an individual; rather it is a legal fiction that serves as a focus for a complex process in which the conflicting objectives of individuals (some of which may represent other organisations) are brought into equilibrium within a framework of contractual relations. (Jensen and Meckling; 1976).

Eugene F. Fama also described the firm as just the set of contracts covering the way inputs are joined to create outputs and the way receipts from outputs are shared among inputs. According to him, dispelling the tenacious notion that a firm is owned by its security holders is important because it is the first step toward understanding that control over a firm's decisions is not necessarily the province of security holders.

In the theory of the firm, management and risk bearing are viewed as different inputs/ factors of production each faced with a market for its services that provides alternative opportunities and in the case of management, motivation towards performance.

This model however poses a number of issues such as

Agency Problems (i.e. Principal-Agent problems).

Agency Costs

These issues would be dealt with briefly.

2.1.2 Agency Problems

This arises generally as a result of the inadequacy of the theory of the firm.

Jensen and Meckling (1976) demonstrate that when the owner-manager in the classical theory sells equity in the firm to outsiders, and both parties are utility maximisers, the owner-manager's interest will diverge from that of the new principals.

The agency theory further suggests that the divergence between the agent's decisions and those decisions that will maximise the welfare of the principal widens as the dispersion of ownership expands.

An agency relationship is defined as a contract under which one or more persons (the principal (s) engage another person (the agent) to perform some service on their behalf which involves delegating some decision making authority to the agent. Jensen and Meckling further stated that if both parties to the relationship are utility maximisers; there is good reason to believe that the agent will not always act in the best interests of the principal.

This divergence can be limited by establishing the right incentives for the agent and by incurring monitoring costs designed to limit the aberrant activities of the agent.

In addition, in some situations some additional resources are expended such as bonding costs to guarantee that his actions would not harm the interests of the principal or to ensure that the principal would be compensated if such actions are taken, monitoring costs to ensure that the agent does not deviate from the contract.

These incentives, monitoring costs, bonding costs and resources are generally regarded as Agency Costs.

But according to Jensen and Meckling, it is generally impossible for the principal or the agent at zero cost to ensure that the agent will make optimal decisions from the principals' viewpoint.

This theory (Jensen and Meckling) forms a basis of this research. Agency costs

In most agency relationships, the principal and the agent will incur costs as discussed above, witness divergence of interests such as agent's decisions and those decisions, which would maximise the welfare of the principal. The naira equivalent of the reduction in welfare experienced by the principal as a result of this divergence is a cost of the agency relationship, which is classified residual loss.

The costs to the agency relationship are defined as the sum of:

Monitoring costs by the principal

The bonding costs by the agents.

The residual loss.

It is worthy to note that agency costs arise in every case involving co-operative effort (inclusive of principal- agent) between two or more parties even if there's no clear-cut principal agent relationship.

Hence agency costs and its importance to the theory of the firm bears a close relationship to the issue of monitoring and shirking of team production described by Alchian and Demsetz (1972) in their paper on the theory of the firm.

i. A Descriptive analysis

Here we consider the effect of outside equity on agency costs by the comparison of a manager/agent who owns 100% of the residual claims on a firm with his behaviour when he sells off a portion of those claims to outsiders.

Case 1: if a wholly owned firm is managed by the owner; owner-manager, he will make operating decisions that maximise his utility. These decisions will involve not only the benefits he derives from pecuniary returns but also by the utility generated by non-pecuniary aspects of his entrepreneurial activities such as the physical appointments, personal relations (friendship, respect, and so on.) with employees. The optimum mix (in the absence of taxes) of the various pecuniary and non-pecuniary benefits is achieved when the marginal utility derived from an additional naira of expenditure (measured net of any productive effects) is equal for each non-pecuniary item and equal to the marginal utility derived from an additional naira of after-tax purchasing power (wealth).

Case 2: assuming the owner-manager sells equity claims on the firm which are identical to his own such as share proportionately in the profits of the firm, agency costs would be generated by the divergence between his interests and those of the outside shareholders, since he would bear only a fraction of the costs of any non-pecuniary benefits he takes out in maximising his own utility.

Hence, prospective minority shareholders (or prospective outside shareholders) will realise that the owner-managers interest would diverge somewhat from theirs; hence the price which they would be willing to pay for the shares would reflect the monitoring costs and the outcomes of the divergence of interests between the principal and the agent.

As the owner-managers fraction of the equity falls, his fractional claim on the outcomes fall and this will tend to encourage him to appropriate larger amounts of the corporate resources in the form of perquisites. This also makes it desirable for outside equity holders/minority stockholders to expend more into monitoring his behaviour.

According to Jensen and Meckling (1976), the likely most important conflict arising from this is the fact that as the manager's ownership claims falls, his incentive to devote significant effort to creative activities such as searching out new profitable ventures falls. He may in fact avoid such profitable ventures simply because it requires too much effort or trouble on his part to manage or learn new technologies.

This eventually can result in the value of the firm being substantially lower than it otherwise could be.

This further reinstates Berley and Means paper (1932) and by Jensen and Meckling (1976) that firm value is a function of ownership structure.

The actual value of a firm at a given scale is dependent on the agency costs incurred; agency costs at any level reduce the value of the firm.

According to Jensen and Meckling, since the relationship between the stockholders and the managers of a corporation fits the definition of a pure agency relationship, it is natural to expect that the issues associated with the separation of ownership and control as in the theory of the firm are intimately associated with the general problems of agency.

An explanation to curtail this effect leads to the need of this research, which leads to a theory of ownership/capital structure of the firm and the effects of the CEO shareholding on firm performance.

Hence this literature is guided towards the structuring of contractual relationships (including compensation incentives) such that managers or CEO's would make choices that would maximise the Principals welfare, given that uncertainty and imperfect monitoring exists.

2.2 The classical theory

Alchian-Demsetz stated that the classical firm could be viewed as a contractual structure with:

Joint input production

Several input owners

One party who is common to all the contracts of the joint inputs.

The right to renegotiate any inputs contract independently of contracts with other input owners

Holds the residual claim

Has the right to sell his central contractual residual status

Here the central agent; the owner has the role of management and risk bearing.

In the classical model, the entrepreneur or owner- manager single-mindedly operates the firm to maximise profits. Hence the incentive problems are not met here. The two functions are attributed to the entrepreneur; Management and Risk bearing.

A situation wherein the manager is also the firm's sole security owner such that there is clearly no incentive problem is examined.

The varying opinion offered by both theories

Classical: When he is the sole security holder, a manager consumes on the job through shirking, perquisites, or incompetence, to the point where these yield marginal expected utility equal to that provided by an additional dollar of wealth usable for consumption or investment outside of the firm (Fama). The manager is induced to make this specific decision because he pays directly for consumption on the job.

Theory of the firm: Here the manager is no longer the sole security holder and in the absence of some form of full ex-post settling up for deviations from contract, a manager has the incentive to consume more on the job than agreed in his contract.

Here the manager is seen to perceive that on an ex-post basis, he can beat the game by shirking or consuming more perquisites than previously agreed.

This does not necessarily imply that the manager profits at the expense of other factors.

This generates the incentive problems and Agency Costs; which are costs generated in curtailing deviations from contracts.

We discuss the McConnell and Servaes theories, Stulz theory and our reference theory would be the Morck et al theory which postulates the Entrenchment hypothesis and the convergence of interest hypothesis.

2.4.1 McConnell and Servaes (1990)

McConnell and Servaes found a significant curvilinear relationship between Tobin's q (proxy for firm performance) and the portion of common shares owned by corporate insiders. The curve slopes upward until insider ownership reaches approximately 40-50% and then slopes slightly downwards.

They document a non-linear relationship between ownership structure and market valuation of the firm.

They also find a significant positive relationship between q and the fraction of corporate insider holdings.

2.4.2 Stulz (1988)

In his paper, Stulz analysed the way in which executive control of selection rights affects firm value. In his model, the divergence of interest amid management and outside shareholders obtains solely from the fact that a successful tender bid influences the interests of manager and outside stockholders differently.

It is shown that the quality presented in a tender bid is a growing function of the fraction of selection rights of the target controlled by management, while the probability of a hostile takeover falls within that fraction.

Here when management increases its control of voting rights, shareholders wealth increases and then decreases when the managements control of voting right increases.

Stulz further demonstrated that because the likelihood of a hostile takeover is zero, the value of the firm is at a bare minimum when executive ownership is 50%.

Holderness and Sheehan (1988)

In their paper, they conducted an assessment of non-privately owned corporations with concentrated ownership, by analysing 114 corporations having majority stockholders and listed on the New York or American Stock Exchanges. Corporations are classified as having a majority stockholder when one person or entity owns at least 50.1% but less than 95% of the common stock. Holderness and Sheehan noted that investment policies, accounting proceeds and Tobin's q-values are analogous for majority owned and diffusely held firms.

These findings are inconsistent with the entrenchment hypothesis discussed by Morck et al (1988).

Hamid Mehran (1995)

In his paper of executive compensation structure, ownership and firm performance, he stated that firm performance is positively related to the percentage of equity held by firm managers and to the percentage of their compensation that is equity based.

This, he was able to establish by examining the compensation structure of 153 manufacturing firms selected randomly in 1979-1980. This examination provides supporting evidence to advocates of incentives compensation and that the form rather than the level of compensation is what motivates managers to increase firm value.

He stated also in his theory that firms in which insiders hold a higher percentage of stock ownership use less equity-based compensation.

Morck et al (1988)

Morck et al investigated the correlation between executive ownership and the market appraisal of the firm, as measured by Tobin's q (Proxy for firm performance), with the use of a 1980 cross section review of 371 Fortune 500 firms supplied by Corporate Data exchange.

They find that there is a positive relationship between insider ownership and performance efficiency for low levels of ownership, supposedly because 'ownership leads to better alignment of interest'.

Morck et al examined two hypotheses namely;

The entrenchment hypothesis

The convergence of interest hypothesis

The entrenchment hypothesis

This theory suggests that with effective control of the firm, the CEO/manager will indulge in non-value maximising behaviour. The management's self-indulgence is expected to be less compared to an instance where there is control but no claim on the firm's cash flows.

This hypothesis also predicts that the firm value will be less when management is free from control checks.

In this hypothesis, the CEO feels or encounters no threats to his control and as such shirks.

The convergence of interest hypothesis

This hypothesis proposes that as management ownership increases so does the value of the firm (Jensen and Meckling; 1976). They further suggested a uniformly positive relationship between CEO ownership and value of the firm. The larger the ownership, the higher the market value of the firm.

The Morck et al model (1988) found a significant non-monotonic relationship between Tobin's q (performance proxy) and management ownership. Tobin's q increases as management ownership increases from zero (0) to five (5%) percent, but declines as management ownership increases from 5 to 25%, and increases at a slower rate as management ownership rises beyond 25%. The results indicated conditions for entrenchment are extensively correlated with administrative ownership beyond the 5% level, but the convergence of interest outcome exists all through the entire band of ownership.

The Morck et al model is further supported by the findings of Chen et al (1993) who examines the correlation between ownership composition and business value using samples of Fortune 500 firms in 1976, 1980 and 1984. They found that corporate value as measured by Tobin's q is a function of management ownership. Specifically, q rises when management ownership is between 0 and 7%. It falls as ownership increases to 12%. Beyond this range, q continued to fall in the 1976 sample and started to rise in the 1980 and 1984 samples.

The Chief Executive Officer/Management.

The relationship between an agent, hereafter referred to as the CEO and the Principal is such as a contract/factor amongst the set of contracts/factors, which includes the application of human capital as an input to create output. Here, they are seen to rent their wealth; human capital to the firm and the rental rates signalled by the managerial labour market is likely to depend on the success or failure of the firm.

The management amongst a host of other functions serves to oversee the contracts amongst factors and to ensure the viability of the firm.

The CEO heads the internal control of a company through the firm's board of directors.

The board is viewed as a market induced institution, the ultimate internal monitor of the sets of contract called a firm, whose most important role is scrutinize the highest decision makers within the firm. In the team or nexus of contracts view of the firm, one cannot rule out the evolution of boards of directors that contain many different factors of production (or their hired representative), whose common trait is that their marginal products are affected by those of the top decision makers. (Jensen and Meckling; 1976).

The talent of a manager, which describes his performance, is informed by his previous associations with success and failure. The CEO of a firm, like the coach of any team, may not suffer any immediate gain or loss in current wages obtained from the current level of performance but the measure of success or failure of his team impacts his future wages, hence this gives the CEO/manager a stake in the success of the team.

The talent of a manager is depicted by the ability to elicit and measure the productivity of lower managers, so there is a natural process of monitoring from higher to lower levels of management.

In a team or nexus of contracts view of the firm, each manager is concerned with the performance of the managers above and below him, since his marginal product is likely to be a positive function of theirs.

However, higher levels of management are affected than the lower ones, all managers realize that the managerial labour market uses the performance of the firm to determine each manager's outside opportunity wage. (Jensen and Meckling; 1976).

In summary, as a result of this measure of performance determination, all managers below the very top level have an interest in seeing that the top managers choose policies and engage in ventures, which provide the most positive signals to the managerial labour market.

A theory of corporate ownership structure

This theory aims to determine the impact of ownership variables such as equity held by manager (S i ), outside equity (S o ; held by anyone outside of the firm) and debt (B; held by anyone outside of the firm) on the total market value of the firm.

We also seek to determine the optimal size of the firm i.e. level of investment in this theory.

The total market value of equity is given as S= S i + S O and the total value of the firm is given by V=S+B.

Management, Ownership and Firm Performance

This section reviews the influence that the level of CEO ownership of a firm's common stock on the value of the firm.

Prior studies on corporate governance suggest that insider ownership is one possible solution for reducing agency problems caused by separation of ownership and control.

Much emphasis has however being placed on the relationship between management/ insider ownership and the value or the performance of the firm.

In this study, we use the ROA and ROE to measure firm performance.

Truly superior managers possess skills that can elevate the market values of their firms above the levels achieved by their less able peers.


The Nigerian Banking Industry

2.8.1 Introduction

As the prime movers of economic life, Banks occupy a significant role and position in the economy of every nation. The financial system is vital for saving and investment and thereby for economic growth. The performance of banking institutions as such serves as drivers for economic growth and performance. Economists, monetary authorities, policy makers amongst a host of interest groups, recognise the ability of banks to achieve their desired results and to outperform previous year's performance from year to year.

Previous studies have shown that the greater the resistance of banks to adverse financial conditions, the better for monetary policy and ultimately the economy. (Sobodu and Akiode; 1998)

The impact and consequences of Bank failures such as erosion of Public confidence amongst a host of others draws considerable attention of Banking regulators and monetary authorities to Banking Institutions.

This has resulted into different classification of Banks according to performance, Classifications such as problematic/non problematic (Sinkey 1975a), failed/surviving (Siems, 1992), financially successful and non- financially successful (Arshadi and Lawrence, 1987), vulnerable and resistant (Korobow and Stuhrm 1975) are terms that have been used to describe the performance of Banks.

In Nigeria, terms such as distressed and healthy are used to describe Bank performance.

In Nigeria, conventional Banks hold a bulk of the deposits in the financial system and as such they constitute a major channel through which monetary policy can be effectively conducted, co-ordinated, monitored and assessed and generally serve as bankers to other financial institutions. By implication, they attract the greatest attention and indeed the most supervision.

We outline in this study, a brief background history of the Nigerian Banking Industry, trends and its consequences on Bank performance in Nigeria.

2.8.2 The Banking Sector Pre-2004

The Nigerian Banking sector could be said to have transformed and evolved into maturity since inception in 1892 having undergone various phases.

Banking in Nigeria commenced with the African Banking Corporation (ABC) which was later bought over by the British Bank of West Africa in 1894. The ABC Bank reportedly enjoyed virtual monopoly of banking business for more than 30 years with the European Business Empire as its clientele. This period was occasioned by a lack of banking legislation and regulation but operated under the colonial companies ordinance (which precedes the company and allied matters act; CAMA which is presently in use)

This period was described as the free banking era. In the absence of formal regulations, standards or framework of banking practices, the ease of establishing a bank in the pre-legislation years witnessed the birth of two indigenous banks namely, National Bank of Nigeria and the African Continental Bank, with foreign banks being the dominant commercial banks (Barclays bank, bank of British West Africa and the British and French bank)

The latter years of the 1960's saw a gradual return to normalcy and introduction of regulatory policies to ensure adequate market capitalisations and liquidity in a bid to prevent more bank failures. Financial ratios such as cash reserve ratios, adjusted capital ratios were introduced in a bid to keep tabs on banks.

In this period, competitions amongst banks were minimal as most banks were comfortable with profit positions achieved with little effort. Policy stability enhanced bank performance in this period.

A banking reform was thus borne out of a need for a regulatory environment, legal framework to control banking operations (Erastus Akingbola, Nigerian Tribune (2007)).

This reform was borne from a number of conferences and meetings which culminated into a banking ordinance which was set to regulate banking practices and ensure that standards were enforced. The role of the bank which was to be similar to the central banks of northern America and Western Europe was to establish the Nigerian currency; the Naira, control and regulate the banking system, serve as a bank's banker, and carry out the government's economic policy in the monetary fields.

The Central Bank of Nigeria act (1952) which established the apex body was subsequently sequel and borne from this reform, which set the body as an apex regulatory organisation to overlook its functions.

Obideyi (2002) described this phase as the beginning of banking regulations in Nigeria which lasted until the end of 1958.The banking regulation was further consolidated in the years 1958 through to 1969.It also marked the transfer of all banking regulatory authorities to the apex bank.

Another phase of the reforms was between 1969 and 1985. Following the magnitude of economic problems which occurred in the Nigerian economy within this period, the apex bank adopted a deregulatory regime in 1986; this was one of the core elements of the structural adjustment programme (SAP).

The deregulation era which continued until 2004, brought about a number of reforms to the industry participants i.e. the regulators and operators. Some of the reform measures implemented include: adoption of floating exchange rate system; interest rate deregulation; expanded investment spectrum for banks; banking license liberalization; credit control deregulation; monetary policy shift from direct to indirect tools, open market operations (OMO) ; emergence of the discount houses sub-sector, amongst a host of other policies.(Obideyi; 2002).

The deregulation brought about the liberalisation of banking licenses which in turn created the proliferation of banking institutions. Some of which were regarded as wonder banks such as the Umanna, Umanna otherwise known as cowboy banking, a system where a bank is set up with minimum capital requirement, and offers high deposit rates to the public to attract funds (e.g. in multiples of 1500% in some cases!!!!) within a short time frame.

The liberalisation cum banking deregulation and the ease of obtaining banking license witnessed an increase of deposit commercial banks from forty (40) in 1986 to one hundred and twenty one (121) by 1992, finance houses(smaller banks) rose from ten (10) to over four hundred (400) while mortgage institutions rose from one (1) to two hundred and fifty (250).

This form of banking which existed thus resulted from a lack lustre performance which was characterised by: Insider abuses; Poor and ineffective management; Overstretched human resources; Poor credit skills which often led to bad loans and erosion of bank capital; weak regulatory structure and incapacity; Low capital base (a pre consolidation study showed that the capital base of the 4 th biggest bank in South Africa had more capital than all the banks in Nigeria put together!!(Banks pre-consolidation was in excess of 89), Overtrading on insufficient capital, Unhealthy competition which included de-marketing of competitors as desperate strategy, unethical practices, Poor asset quality, Poor corporate governance, Public confidence in many banks was at its lowest, Liquidity stress resulting in insolvencies, and Massive bank failures effectively reducing the number of banks from 121 in 1992 to 89 by 2004. (Obideyi, 2002)

This all were consequences of a poor regulatory framework which led to the post 2004 reforms.

2.8.3 Post 2004 Reforms

A major reform was launched by the CBN in 2004 to address the shortcomings of the deregulations of the pre-2004 banking era.

A major emphasis of the reform programme was the raise of the minimum capital requirement of banking institutions from N2billion to N25billion with an intent to reduce the smaller players which could not operate profitably in a narrow margin market amidst stiff competition with a view to phase out the weak and distressed condition experienced by the banking sector.

The reform was also designed to address the weak governance structure of most banks most of which were family entities; encouraging the diffusion of shareholding from such structures and promoting best practices in corporate governance while entrenching the stock market.

The reform was designed to serve as a catalyst for foreign direct investment inflow together with financial deepening, which would achieve a sound and secure banking system that depositors can trust and public confidence would not be in doubt, build domestic banks that investors can rely upon to finance investments in the Nigerian economy; enable banks play more active role in national development, create a favourable environment domestic banks emerge as competent and competitive players in the regional and global financial markets in which industry consolidation is fostered and systemic risks reduced; less intervention in the market with the view to promote more self regulation; expanding the savings mobilization base in support of investment and growth through market-based interest rates; Improving the regulatory framework and procedures so as to pre-empt distress while promoting growth; fostering competition in the provision of banking services; laying the basis for minimal inflationary growth or conducive enabling environment; drive down cost structure of banks, improving banks efficiency and encouraging competition with the goals of lowering interest rates and providing affordable credit to the economy; meet international benchmarks and minimum requirements for the integration of regional financial system; and fight corruption and white collar crimes through improved transparency and accountability, and insisting on sound corporate governance practices in the financial services sector.- (Erastus Akingbola (2005), Nigerian Tribune)

The consolidation was achieved through mergers and acquisitions, foreign direct investments, amongst others.

At the conclusion of the consolidation reform on December 31, 2005, only 25 banks survived out of 89.

2.9 Critical Analysis

These studies have furthered our understanding on corporate governance structure; bank performance in Nigeria, and a background to help understand operational environment of banks, however they are limited in that they have ignored the interactive nature of the process determining ownership structure and corporate value.

They indicate the varying arguments as to whether and how ownership structure affects the value of the firm.

This study seeks to resolve some of the disagreements and arguments by focusing specifically on how the level of the CEO ownership influences the performance of the firm.

This study also employs the use of financial ratios such as the Return on Asset (ROA) and the Return of Equity (ROE) which are used as proxies for Bank performance.


3.1 Data Description

Data concerning the CEO and firm specific information are obtained from the annual reports of Sixteen (16) Nigerian Banks and from the internet websites such as, the, the Bankscope database and the Nigerian stock exchange.

In this research paper, we include firms whose CEO characteristics and firm data are available.

The study was conducted for 16 Publicly Quoted Nigerian Banks over a six (6) year period, which includes the data set of principal stock ownership information.

These firms maintain their books in Naira, incorporated in Nigeria and are listed and traded on the Nigerian Stock Exchange.

The CEO ownership (%) = number of shares

number of outstanding shares.

In chapter four, we describe our result which is the impact of the percentage of CEO Shareholding on the Bank performance proxies. We also discuss the trend and characteristics depicted by our data.

We put into perspective that in the presence of diffused ownership, a small percentage of ownership (shareholding) may be all that is needed to gain some degree of control. (Tan, Chng and Tan 2001).

This is termed the risk neutral effect of size on ownership (Demsetz and Lehn, 1985).

3.1.1 Performance measure

As stated in chapter 2, truly superior managers possess skills that can elevate the market values of their firms above that obtainable and achieved from their less able peers.

The value of the firm's managerial talents and skills is proxied here using the Return on Equity (ROE) and the Return on Assets (ROA) ratio of the firm.

The return on Assets describes how profitable a company's assets are deployed into profit generation.

It is given as

ROA = Net Income/ Total Assets.

The Wikipedia describes it as what the company can do with what it has got. i.e. how many naira of earnings they derive from each naira of assets they control.

The ROA describes the efficiency of management in using its assets to generate earnings.

Since the ROA varies over different industries and best describes performance of a given industry, it is of significance in our study because we consider common samples in the same industry i.e. banking.

We also consider the Return on Equity which describes the return of ownership interest of the common stock owners. This is needful to our research as this gives a clear idea of how much management is able to give as returns to investors and earnings growth. This ratio is one of the most important ratios in the sense that it indicates to investors a firm's efficiency in generating profits for every naira invested in net assets.

It is also a useful ratio in comparing the profitability of firms within the same industry.

It is given as

ROE = Net Income/Total Equity.

Net income is the earnings of a firm after tax and interest deductions.

Total Equity is given as the total assets less total liabilities or the capital received from investors.

3.2 The Model

In this section, we specify the regression model to test for the effect of CEO shareholding on firm performance using the ordinary least squares regressions.

Our studies however show a non-linear relationship between CEO ownership, management ownership and firm performance. This is supported by previous studies by J.M Griffith, Chen et al and McConnell and Servaes, (1990).

In order to capture the relationship between the CEO ownership and firm performance, we specify the underlisted equation.

ROA= β 0 + β 1 pceo + β 2 pceo 2 + β 3 pceo 3 + ε t ................. (1)


ROE= β 0 + β 1 pceo + β 2 pceo 2 + β 3 pceo 3 + ε t ................. (2)

We refer to equation (1) as the ROA equation and equation (2) as the ROE equation.

Where PCEO= percentage of CEO Shareholding

PWMGT=Percentage of management shareholding without the CEO.

PMGT= Percentage of Management Shareholding (CEO Shareholding inclusive)

MVE=Market value of equity.

The assumptions of the Panel regression model is summarised as follows 1 :

The dependent variable is a linear function of the explanatory variables.

All explanatory variables are non-random.

All explanatory variables have values that are fixed in repeated samples, and as n ∞, the variance of their sample values 1/n∑ (X jt -X j ) 2 Q j (j=2, 3,...., k) where the Q j are fixed constants.

E (u t ) = 0 for all t.

Var(u t )= E(u t 2 )=σ 2 = constant for all t.

Cov (u t u j ) = E (u t u j ) = 0 for all j t.

Each u t is normally distributed.

There are no exact linear relationships among the sample values of any two or more of the explanatory variables.

These assumptions are hence tested and explained using the E-Views 6 software to test and explain the relationship in eqns. (1, 2) above.

3.3.1 Hypothesis testing

To explain the particular relationships between the estimated co-efficients in our model, we carry out the following tests. Endogenous variables

H1: We regress Firm performance (ROA and ROE) as a function of CEO ownership. We find that generally, the greater a CEO's stake in a firm, the stronger will be his incentive to efficiently manage the firms assets in place and would spot potential profitable opportunities which would maximise the wealth of shareholders (firm value), hence our proposition that increase in CEO Shareholding level would enhance his performance towards better firm management, thereby leading to higher firm value.

H2: We regress the stake of the CEO ownership as a positive function of Firm performance (ROA and ROE)

Morck et al (1988) and McConnell and Servaes (1990) assume a unidirectional causality from ownership structure to Tobin's Q (performance proxy), this research paper allows for the possibility that they may be jointly determined as depicted in eqns (1, 2), hence our second hypothesis.

We test for the Granger causality for these functions. Exogenous variables

Market value of equity (MVE) as stated above is the product of the total number of outstanding shares (issued shares) and the shares price estimated as at 24 th of June 2008. The share price as discussed above depicts the talents of the CEO and as a result, the higher the share price, the higher is the market value of a given fraction of ownership.(Tan,Chng and Tan;2001)

H3: Here we test the relationship of Firm performance (ROA and ROE) to a cubic relationship with management shareholding. This hypothesis seeks to discover the relationship between firm performance and management shareholding.

H4: Here we test for the cubic relationship between management ownership without the CEO and Firm performance (ROA and ROE).

The analysis of our results in discussed in chapter four.


4.1 Data Analysis and Findings

Our data describes the results for the percentage of CEO ownership and performance proxies (ROE and ROA) amongst other information obtained from our data sources.

Our data show a positive relationship such that for each increase in the percentage of CEO shareholding, the proxies for firm performance also increase and vice versa. (See graphs in appendix for details).

We find that some firms had inconsistent and less CEO shareholding over some period; this was as a result of CEO transition, often within the financial year of the firm. In this scenario, the ousted CEO still has some shareholding in the firm oftentimes as a member of the Board of directors, while the new CEO has little or no shareholding.

We find that CEO Shareholding is dependent on a number of factors, some of which are years of tenureship, age of the firm, CEO age, and founding CEO status amongst a host of others. This suggests the shortfall in the fluctuation of CEO ownership recorded for some firms over the years. It also explains the performance of some banks over the others who have experienced changes CEO Handovers within our reference period. (2001-2006).

Also some companies wherein the CEO has little or no shareholding is occasioned by institutional shareholding or management shareholding wherein the CEO is an outsider or an expatriate. In this case, the board oftentimes own a large shareholding.

We also find that ROE and ROA for firms with consistent CEO's and increasing CEO Shareholdings were higher than for firms with inconsistent CEO tenure. Our performance proxies were greatest for firms with the highest PCEO (CEO Shareholding) such as Zenith, Diamond, Stanbic IBTC, Oceanic, Intercontinental, Access and Guaranty Trust Banks.

Table two presents the summary statistics of CEO ownership and ROE,ROA for 2001,2002,2003,2004,2005 and 2006 in panels A,B,C,D,E and F respectively.

4.2 Results and discussions

4.2.1 Regression results

Our hypothesis testing reveals a non-linear relationship between CEO Shareholding and our proxies for firm performance. Our results are measured in percentages and in naira value. Hypothesis one: Performance proxy against CEO Ownership

Our regression results for 2001 are presented in table 1.

A: ROE against CEO Ownership

The first column contains the quadratic model in which ROE is regressed against CEO ownership (PCEO). This confirms that a non-linear relationship does exist between CEO Ownership and ROE. This test is examined to show much of management's influence is attributable to the CEO. It also is designed to depict how much of the firm value is attributable to the CEO. The maximum is reached is reached at 24.8%,11.03%,10.41%,10.0%,17.96%,24.31% levels of CEO ownership for years 2001,2002,2003,2004,2005 and 2006 respectively. In column two, a cubic model is used. The estimated co-efficients are statistically significant and the explanatory power of this model is greater than the quadratic model. The cubic model explains the rise and fall in firm value at given levels of CEO shareholding.

The increase in the firm value at lower levels is consistent with the theory that the market disciplines the CEO and forces the CEO to make the most of the wealth of shareholders (Fama; 1980, John M. Grifith, 1999). The fall in value can be ascribed to the incapability of the market to exert discipline once the CEO has obtained adequate control to prevent ouster either through the managerial labor market (Fama,1980) or the takeover market (Jensen and Ruback; John M. Griffith).

The ROE/CEO Equation is significant at the 1% and 27% level and with an adjusted R 2 of 61%, 9.48% in the years 2001 and 2002 respectively. The ROE/CEO Equation is insignificant in the years 2003, 2004, 2005 and 2006.The years 2001, 2002, depict that CEO ownership is greater in this years and shows a positive cor-relation between CEO stock ownership and firm performance. The year 2003, 2004, 2005, 2006 depict the wealth constraint wherein it becomes more difficult for a CEO to hold a large proportion of a firm with a high market value (Chung and Pruitt (1996)). These years witnessed an increasing market capitalisation for the firms and follows necessarily in the year 2005 and 2006 when the Central Bank of Nigeria requested that all banks in the country consolidate their market capitalisation in order to shore up their capital base. This period saw a depletion of CEO ownership where banks had to merge or be bought over in a bid to remain in business. We also find that the period 2004-2006 witnessed quite a high turnover of CEO transition. This could possibly be due to the consolidation in which the Consolidation was also aimed at reducing family ownership(s).

Chung and Pruitt,1996 mentioned in their paper that in a case of increased(ing) capitalisation, a risk averse CEO found in this position, would reduce his/her shareholdings in order to avoid under-diversification of personal wealth.

These findings support both the convergence of interest and the entrenchment hypothesis (Morck et al., 1988). Firm value increases as CEO ownership rises or interests converge with that of shareholders; firm value falls as CEO's control increases and then rises when management owns considerably a wider majority of the firm; which indicates the convergence of interest all through.

B: ROA against CEO ownership

A similar test in which the ROA as a performance proxy is regressed against CEO ownership depicts a similar result as in the case of the ROE.

The ROA/CEO Equation is significant at the 0% and 3% level and with an adjusted R 2 of 64.93%, 22.97% in the years 2001 and 2002 respectively. The ROE/CEO Equation is insignificant in the years 2003, 2004, 2005 and 2006.This results is consistent with the results obtained using the ROE as our performance proxy. Thus our hypothesis is that an increase in ownership spurs the CEO towards better firm management, leading to higher firm value. Hypothesis Two: Performance proxy against management holdings.

A: ROE against management holdings

Here the management ownership is introduced to examine the influence of management on firm performance (PMGT). A cubic model depicting management relationship with firm performance is shown on the third column. The estimated coefficients are statistically significant and the model shows that the ROE rises when the management ownership is between 15% and then falls in the23%, and then rises when management ownership is greater than 35%. This results support the convergence of interest and the entrenchment hypothesis. This shows that the value of the firm increases as managements shareholding rises or interests converge with that of shareholders; value of the firm falls as management's control increases and then rises when management owns significantly more than a majority of the firm.

The ROE/PMGT Equation is significant at the 34%, 37%, 20%, 2% and 3% level and with an adjusted R 2 of 20.18%, 24.50%, 17.66% and 97.76% in the years 2001, 2002, 2003, 2005 respectively. The ROE/PMGT Equation is insignificant in the years 2004 and 2006.

B: ROA against management holdings

The results of the ROA equation is consistent with our ROE equation in which the equation is significant at the 8%, 16%, 22%,2% and 3% level and with an adjusted R 2 of 19.51%, 34.71%, 5.45% and 98.52% in the years 2001,2002, 2003, 2005 respectively. The ROA/PMGT Equation is insignificant in the years 2004 and 2006. Hypothesis three: Performance proxy against management holding without the CEO Holdings

A: ROE against management holdings (Excluding CEO Holding)

The dominance of the CEO's Ownership is examined in this hypothesis (column four). The results show that if the CEO's ownership is excluded in the management shareholding ((PMGT-PCEO), PWMGT), the relationship between management's ownership excluding CEO and performance proxies is insignificant except in 2005.This result confirms our assertion that it is primarily the CEO's shareholding and its influence in the firm that affects firm value. This further depicts what appears in our previous regression/hypothesis which includes management holding. It shows that it is in point of fact the dominating effect of the CEO that is being reflected. As discussed in our ROE/ROA regression against the CEO wherein 2005 during the Banking consolidation where wealth constraints prevent the CEO from holding sufficient shareholding.

B: ROA against management holdings (Excluding CEO Holding)

The results here also show a consistent result as obtained in our ROE relationship wherein the relationship between management ownership excluding the CEO is insignificant except in 2005.

We conclude that the CEO shareholding in the firm is the major determinant of firm performance.

4.2.3 Our granger causality test shows that CEO does not granger cause firm performance but vice versa.


5.1 Conclusion and limitations of research

Our data was limited by inconsistent CEO tenure and separate financial year end for Nigerian banks.

This caused a data variation at different points of reference in our research.

Also, sufficient and current data was not available which served as a limitation for the purpose of our study which culminated into a limited sample size of sixteen (16). Inefficient data management system also served as a limitation as we couldn't obtain qualitative data for the purpose of our study.

Our study also revealed that indirect shareholding was not duly reported in the annual reports of the companies; this made our estimate of CEO Shareholding in some cases quite inaccurate.

Our measures of firm performance (proxies of ROE and ROA) shows a simple, perhaps a too simple measure of firm performance and could be misleading as they are vulnerable to measures that increase their value(s) which creates a belief that firms are performing much better than they actually are.

The ROE for example is taken to depict a strong performance when it rises as it shows that the rate of return that goes to shareholders equity also rises, but it could also imply that the firm has taken on more borrowing thereby decreasing shareholder equity. This inadvertently increases the leverage of the firm but makes the company stock more risky.

The ROE however gives a useful signal on financial success since it might indicate that the firm is able to generate profits without new injection of fresh capital into the firm.

The ROA can also be manipulated by boosting the net profit margin or by using firm assets to increase turnover. However, the ROA resolves the problem outlined for ROE concerning the use of debt to increase or manipulate the books.

The ROA gives a reliable picture of management's ability to pull profits from assets and projects into which the firm chooses to invest.

5.2 Summary of findings

This study shows that ownership structure and firm performance are jointly determined with CEO shareholding as causality for firm performance.

We find CEO shareholding increased averagely over the years; except for CEO transitions and we hold that CEO's in firms with higher growth opportunities buy and hold more stocks in the companies they control.

For further research, variables such as tenure of the CEO, Founder status, market value of equity and immediate successor would give a significant impact on firm value. It is consistent with the proliferation of Stock option schemes in Nigeria.


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