Is internal and external mechanism of governance enriching the performance of the banking sector of Pakistan?

Abstract

PurposeThe purpose of this study is to explore how governance mechanisms (internal and external) enhance the performance of the return on asset (ROA), return on equity (ROE), earning per share (EPS) and dividend payout ratios (DP) of the banks of Pakistan. The study incorporates not only the internal factors of governance (board size, out-ratio, annual general meeting, managerial ownership, institutional ownership, block holder stock ownership and financial transparency) but also the external factors (legal infrastructure and protection of minority shareholders, and the market for corporate control).Design/methodology/approachThe sample size of the study consists of 30 banks (public, private and specialized) listed at the Pakistan Stock Exchange (PSE) for the period 2008-2014. The panel data techniques (fixed or random effect model) have been used for the empirical analysis after verification by Hausman (1978) test.FindingsThe results revealed that not only do the internal mechanisms of governance enhance the performance of the banking sector of Pakistan but external governance also plays a substantial role in enriching the performance. The findings conclude that for a good governance structure, both internal and external mechanisms are equally important, to accelerate the performance of the banking sector.Research limitations/implicationsInternal and external mechanisms of corporate governance can also be checked by adding some more variables (ownership i.e. foreign, female and family as internal and auditor as external), but they are not added in this work due to data unavailability.Practical implicationsThe study contributes to the literature and could be useful for the policy makers who need to force banks to mandate codes of governance through which they can create an efficient board structure and augment the performance. The investments from different forms of ownership can be accelerated if they follow the codes properly.Social implicationsThe study facilitates the bankers in incorporating sound codes of corporate governance to enhance the performance of the banks.Originality/valueThis work is unique as no one has explored the impact of external mechanism of governance on the performance of the banking sector of Pakistan.