Corporate governance and cost of equity: the moderating role of ownership concentration levels

Abstract

PurposeThe study analyzes the influence of corporate governance and ownership concentration levels on the cost of equity. Further, the authors extend the literature by investigating the moderating effect of ownership concentration levels (i.e. at 5%, 10% and 20%) on the relationship between corporate governance and the cost of equity.Design/methodology/approachThe study applies several robust panel regression techniques to a sample of 114 active non-financial companies listed on the Pakistan Stock Exchange from 2011 to 2016. Corporate governance was measured through a unique index comprising 30 governance attributes. The cost of equity was measured through the capital asset pricing model. Further, the authors construct three variables for ownership concentration levels, i.e. at 5%, 10% and 20%. To address the endogeneity problem, the one-lagged variable model and GMM approaches were also applied.FindingsThe results indicate that better corporate governance reduces the cost of equity, while ownership concentration at high thresholds would increase the cost of equity. Further, the authors find that ownership concentration at the 20% threshold moderates the relationship between corporate governance and the cost of equity. Thus, the authors argue that firms can minimize the risk faced by shareholders by implementing substantive corporate governance mechanisms. In addition, effective corporate governance mechanisms at high ownership concentration levels are imperative for managing the cost of equity.Originality/valueThe study reports novel evidence that ownership concentration at a high threshold moderates the effect of corporate governance on the cost of equity.

Ownership concentration and cost of equity in Pakistan: the moderating role of disclosure and governance quality

“…Overall, the current study provides valuable insights and implications for managerial purposes. Hashmi et al (2023) and Ali et al (2019) conducted their studies in the Pakistan context to test the relationship between ownership concentrations (OC), corporate governance and cost of equity (COE) but the current study is different from those studies in several ways. Hashmi et al (2023) developed a corporate governance index consisting of 30 governance attributes to measure the direct effect of corporate governance on the cost of equity.…”

“…Hashmi et al (2023) and Ali et al (2019) conducted their studies in the Pakistan context to test the relationship between ownership concentrations (OC), corporate governance and cost of equity (COE) but the current study is different from those studies in several ways. Hashmi et al (2023) developed a corporate governance index consisting of 30 governance attributes to measure the direct effect of corporate governance on the cost of equity. But current study establishes the moderating role of disclosure quality and corporate governance quality namely board independence and audit committee independence and treats them as separate variables to identify the individual variable effect on the proposed relationship between OC and COE.…”

“…Leech and Leahy (1991) demonstrated that ownership concentration (OC) could reduce UK companies' value, profit margin, and net asset formation. The study conducted by Hashmi et al (2023) in Pakistan reported that ownership concentration negatively impacts the cost of equity. In developing countries, agency problems are more common because majority shareholders have more control than minority shareholders and force management to work for their benefit which harms company value.…”

“…The findings of this study showed that there is an inverse correlation between corporate governance and equity costs. The study conducted by Hashmi et al (2023) showed that corporate governance features have the potential to lower the cost of equity by collecting data from Pakistani-listed firms. The mixed findings about the relationship between corporate governance and the cost of equity are present in the literature.…”

Nexus between Fair Pay and Say on Pay Votes

“…Similarly, Baker et al (1988) argued that compensation is primarily independent of performance, and traditional economic theory cannot expound it. (Amore and Failla, 2020)Under this perspective, the CEO-to-Employee pay ratio contributes to mitigating the agency problem by aligning the interests of shareholders with CEOs (Baeten et al, 2011, Waheed and Malik, 2019, Butt et al, 2022, Hashmi et al, 2023. Investors might not see the CEO-to-Employee pay ratio as a material indicator affecting the long-term health of the rm or pay gaps as fair because it is a natural outcome of an internal logic that rewards tournament participants based on their hierarchical position and contribution to the rm's success (Bebchuk et al, 2011).…”