Corporate governance and ownership structure: Indonesia evidence

Abstract

Purpose The purpose of this study is to investigate simultaneous relations between corporate governance (CG) practice and cash flow right, cash flow leverage (the divergence between control right and cash flow right of controlling shareholders). The two ownership measures reflect alignment and expropriation incentives of controlling shareholders. This study also examines the effect of multiple large shareholders (MLSs) on CG practice. Design/methodology/approach The study uses publicly listed companies (PLCs) excluding those from the Indonesian finance sector during 2011-2013 as the samples of the study. Two-stages least squares regression models were used to test the simultaneous relations between CG practice and ownership structure variables. The study develops a CG instrument to measure CG practice based on ASEAN CG Scorecard, that comprehensively covers OECD CG principles and that can be used for panel data. Findings CG practice has a positive influence on cash flow right and has a marginally negative impact on cash flow leverage, while cash flow right and cash flow leverage have a marginally negative impact on CG practice. Further, the existence of large MLS complements CG practice, but as the control right of the second largest shareholders becomes closer to the largest shareholder, the complement relation becomes less important. State- or foreign-controlled PLCs practice better CG than other PLCs. Research limitations/implications Studies on CG/ownership structure need to treat CG and ownership structure as endogenous variables in their research design. In addition, the level of rule of law in a country should be taken into account when examining the relation between CG and ownership structure. The interrelation among CG, ownership structure, capital structure and firm performance has been studied in the context of dispersed ownership structure and strong rule of law. Thus, future study needs to examine the interrelation among these four concepts in countries with high concentrated ownership and weak rule of law. Practical implications To minimize the risk of expropriation, investors in the capital market need to select shares of PLCs that practice CG suitable for the ownership structure of PLCs, have high ownership by the largest shareholder and have no divergence between control and ownership right, and or have MLSs. PLCs may need to choose the level of CG mechanism in the context of their ownership structure and consider the benefits and costs implementing them. Social implications The study supports the “one size does not fit all” perspective on CG and, thus, it supports the recently enacted financial service authority (FSA) rule requiring PLCs to follow the “comply or explain” rule on the CG code for PLCs. The FSA needs to enforce the compliance of PLCs with CG rules and encourage PLCs to implement CG in substance, not just in form. To strengthen the positive impact of good CG practice in attracting investments in capital market, the regulator needs to improve investor protection rules and ensure strong rule of law. Originality/value The study is the first to examine the simultaneous relation between CG practice and both cash flow right and cash flow leverage of the largest shareholder. It is also the first that investigates the impact of MLS on CG practice. It explores the complement and substitution relation between the two concepts in reducing agency costs. In term of research design, the study develops a CG instrument that is based on OECD CG principles, that can be used for panel data and that uses public information.

Ownership and Debt Financing: Indonesia Evidence

“…Nevertheless, being a family owned with several particular characteristics like undiversified portfolios, concern with firm and family reputation, longer investment horizons, and desire to pass the firm onto their descendent may modify the negative effect of family owned on the employment of debt. These characteristics of family owned may be translated into a reduction of monitoring cost, thus adding to a more favorable lending condition which then leads to higher level of debt use in the financing decision [11]. This notion is confirmed by [16] with evidence that family ownership is associated with greater availability of credit and a lower cost of debt financing for family firms.…”

“…Literature on Indonesia has also been compiling evidences where firms with highly concentrated ownership structure suffer with agency problems between the controlling shareholders and minority shareholders [11,12,34,35]. This study therefore reveals the insights on how ownership concentration in Indonesia impacts the financing decisions and can perhaps be inferred to by her neighboring countries for which they are reported to share similar ownership concentration structure and thus fill the gap in the literature.…”

“…Moreover, Thiele and Wendt [13] state that succession is the priority of concerns in family-owned firms. Therefore, dilution of control is very much a worry and seeking external financing is not the main agenda in the financing decision [11]. The concern over the dilution of control over the firms leads managers to focus on internal financing, and should they need external financing debt will be the option comparative to outside equity since debt means a minimum level of intrusion which is then translated into lower risk of dilution of power over the firm.…”

“…Information asymmetry issues that occur between managers and potential outside financiers can well explain this financing preference and thus limit the firm's choice to external financing. In the context of family-owned firms, this type of ownership concentration is often characterized by informational opacity [11]; thus, asymmetric information problems are more serious. Another distinctive characteristic of family-owned firms is that they have full control over the firm's asset portfolio and thus are able to channel funds to themselves and the family [12].…”

“…On another strand, [20] in his study on publicly listed firms in Indonesia find that agency problem is very minimal in family-controlled firms, state-owned firms, or institutional-controlled firms comparative to publicly controlled firms or firms without controlling shareholders. This is according to [11] due to the lesser conflict between shareholders and managers. Nevertheless, with the presence of minority shareholders in a family-owned firm, a conflict between the two is likely to occur.…”