Importance of Corporate Governance on Firm's Performance: A Comprehensive Analysis

In this document we will discuss about Importance of Corporate Governance on Firm's Performance and below are the summary points of this document:- Corporate governance practices have a significant impact on a firm's financial performance and internal efficiency. The influence of corporate governance extends to the overall performance of business organizations, fostering sustainable competitiveness and a favorable investment environment. Implementing effective mechanisms for corporate governance is essential for firms to enhance their performance and adhere to best practices in the field.

Running Head: IMPORTANCE OF CORPORATE GOVERNANCE ON FIRM’S
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IMPORTANCE OF CORPORATE GOVERNANCE ON FIRM’S PERFORMANCE
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1IMPORTANCE OF CORPORATE GOVERNANCE ON FIRM’S PERFORMANCE
Table of Contents
Research Objectives...................................................................................................................2
Research Questions....................................................................................................................2
Literature Review.......................................................................................................................3
Research Methods....................................................................................................................14
Conclusion................................................................................................................................14
Reference..................................................................................................................................16

2IMPORTANCE OF CORPORATE GOVERNANCE ON FIRM’S PERFORMANCE
Research Objectives
The research on the importance of corporate governance on firm’s performance is
conducted for achieving the objectives, which includes following:
 For measuring the impact or importance of the practices of the corporate governance
on the company’s financial performance. Implementations of the standards of the
corporate governance improve the financial performance of the firm as well as it
positively influences the internal efficiency of firms (Tricker, 2015).
 For measuring the degree to which the corporate governance influences the business
organization’sperformance. Corporate governance helps in affecting the performance
of business, creating sustainable competitiveness as well as feasible business
environment for the investments and growth for the corporate as well as national
economy (McCahery, Sautner &Starks, 2016).
 For taking into considerations, the best practices in relation to corporate governance
in the business organizations,which can influences the firm’s performance. The
practices of the corporate governance help in increasing the performance of the
company (Krechovská & Procházková, 2014).
Research Questions
The development of the research can be donewith the objective of answering certain
questions, which is mentioned below:
1. How the different aspects of the corporate governance do creates the positive impact
on the company’s performance?
2. What are the reasons for which the firm’s performance is influenced by the corporate
governance?

3IMPORTANCE OF CORPORATE GOVERNANCE ON FIRM’S PERFORMANCE
3. Why it is necessary for the firms for developing and implementing effective
mechanism for corporate governance for their effective performance?
Literature Review
The concept of the corporate governance provides the deep insights about the various
aspects of the code of conduct that has to be followed by the business organizations. Hence,
because of this reason, the corporate governance has become the practices and process which
governs the business activities of the firm. The system helps in managing and controlling the
business organizations. As per many views, corporate governance is considered one of the
major means for the creation of long-run value of the business organization (McCahery,
Sautner & Starks, 2016). The principles of corporate governance help in the management and
controlling of the different operations of the business. There are certain element such as
rights of the shareholders, their equitable treatments, stakeholder’s role in corporate
governance, maintaining of the transparency by disclosure of various information,
responsibility of the members of the board of directors and the others.All these aspects have
to be taken into considerations by the management for the development of the corporate
governance mechanism (Chan, Watson &Woodliff, 2014). The presence of the effective
mechanism of corporate governance helps in the management of the company for
establishment of the effective internal control over the accounting and financial related tasks.
The strong presence of the internal control within the organization helps in reducing the
possibility of the corporate failures because of corporate frauds and errors. The reason behind
this failures and scandal was due to the lack of the practices of the corporate governance (Al-
Najjar, 2014). This has affected the economy of the world; this has started the measures for
the implementation of the corporate governance in the organizations. Acknowledgement of
the corporate governance has helped in reducing the risk of the shareholders. This helps in
ensuring that the shareholders get the return on the investments. This has emphasized for

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determining the concept of agency for motivating the managers for increasing the return of
the shareholders. Payment such as bonuses and different facilities is provided to the managers
for increasing the return on the investments (Abdallah & Ismail, 2017).
A different aspect of the corporate governance in the organizations has major
importance in the firm’s performance. The mechanism of the corporate governance in the
business in the organization has outfitted for bringing the modifications or changes in the
decisions of investment such as changes in the policies in compensation management,
altering the policies of accounting, board decisions related to different financial aspects.
Hence, it becomes easier for the companies to monitor and implement different aspects of the
financial performances (McCahery, Sautner & Starks, 2016). At the same time, the presence
of the mechanism of the effective corporate governance assists in the establishment of the
certain committees for monitoring of the firm’s financial performance such as remuneration
committee, audit committee and others. Effective corporate governance helps in assisting the
management of the company by making the correct investment decisions regarding the
financial projects so that the company becomes profitable and beneficial from them. The
firm’s members have the responsibility for reviewing the mechanism for implemented
reporting with the objective for accelerating their financial performances. In addition to this,
all of these aspects help in ensuring the effective shareholder’s return (Aguilera &Crespi-
Cladera, 2016).
The healthy operating performance of the company is facilitates superior corporate
governance. The company that has inferior rating on the part of corporate governance
produces the less return in comparison to the superior governance. The risk of the company
plays the important role in the performance of the company because if the company takes
greater risk than the return is expected to be higher (Mishra &Mohanty, 2014). Hence, due to
the volatility of its nature, the firm specific risk hinders the policy makers of the firm and the

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ability of the planning departments for forecasting and planning their related activities and
their cash flows and so on. Generally, these risks ae related to the return on the stock of the
company. However, the risk of the firm specific is related directly to the company’s
performance (Arora & Sharma, 2016). Hence, the corporate governance is the important area
in the research that deals with the many arrangements of the governance that is used for the
control of the corporation that includes the objectives of maximizing the wealth of the
shareholders. The effectiveness of the corporate governance helps in guaranteeing the value
of the shareholders and bestpossible uses of thefirm’s resources that allows the access to the
capital and improving the confidence of the investors (Francis, Hasan & Wu, 2015).
In the stability of macroeconomics, corporate governance plays the important role
because it provides the environment that is suitable for the society welfare as well as growth
of the economy. The corporate governance is defined as the set of the relationship that exists
between the management of the company, their board, shareholders and the other
stakeholders (Dalwai, Basiruddin &Abdul Rasid, 2015). Corporate governance helps in
providing the structure by which the companies set the objectives, means of achieving the
objectives and provides the way of monitoring the performances is determined. If the
corporate governance is good then it helps in allocating the proper motivation to the board as
well as the management of the company for following the objectives that is in the company’s
interests and shareholder’s interest.In addition, it also facilitates the effectiveness of
monitoring in such a way that it boosts the company for using the resources of the company
more efficiently (Chang, Yu & Hung, 2015).
As per the past evidences, it has been observed that whether it is developed or under
developed country, the corporate governance has helped in increasing the financial
performances. Results of the past has also showed that the presence of the outside directors
have abnormal return on the investments (El-Chaarani, 2014).

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According to Jun-Koo Kang, the examination has been done on the role of the
mechanism of corporate governance during the turnover of the top executive in the Japanese
corporation. The research has been find that it is consistent with the evidence of the data of
US, that the likelihood of the turnover of the non-routine is significantly in relation to the
industry adjusted negative operating income, excess stock returns and return on the assets.
The sensitivity of the turnover of the non-routineexecutive to the performance of the earnings
for the firms that ties to the main bank is higher than the firms without ties (Amba, 2014).
The relationship that exists between the board of directors and financial performance
of the company has helped in the setting of the rules for the corporate board that leads to the
overall performance of the company. As per past studies, it has been find that, the
measurement of the corporate governance can be done by the different variables such as
board ownership, board effectiveness, size of board, composition of board, compensation of
board, duality of CEO, independence of the directors and experience and education of the
CEO of the board (Zagorchev& Gao, 2015). Detailed literature on these variables is shown
below:
Ownership of Board
The board ownership aspect of the company is the encouraging aspects of the
members of board. The personal interest of the board is merged in the matters of the company
which results in the taking the better decisions that is beneficial for the others stakeholders.
Moreover, there is positive relationship exists between the ownership of the board and
financial performance of the company. As per Fama and Jensen, this aspect is known as
“two-edged knife” that have optimal and maximum benefit in the enhancement of the
financial performance of the company. According to Sanjana S Gaur, the lack of the
concentration of the ownership leads to the problems of agency that result in the inferior

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performances. Apart from this, the positive effect on the independence of the board on the
performances of the company reduces in the company that has higher concentration of
ownership. In addition to this, higher concentration of the ownership reduces the positive
effects of the board competence and its size (Kilic et al., 2015).
Composition of Board
The existence of the outside members of the board has positive relationship with the
performance of the company. The board is responsible for the development of the mission,
values, policies and tracking overall for the organization. People with the distinct opinions,
values as well as the relationship with the different communities and people that comprises
with the board of directors as well as it follows that the characteristics of the individual
people who are responsible for serving the board that influences the missions, policies and
the overall directions of the company. Hence, the representatives of the diversified
populations on the board of the directors have the impact directly on the policies, missions as
well as directions of the overall organizations (Baldenius, Melumad&Meng, 2014).
Board Effectiveness
The corporate governance of the company provides the way of dealing the problems
of agency and it cost. Hence, it can be said that the effective corporate governance can
resolve that agency problems. The objectives of the board and management are not same.
However, it depends upon the total compensation given by the board and company to the
management for meeting the interest of the shareholders. This compensation helps in solving
the problems between the management and shareholders and ultimately it results in boosting
the confidence of the shareholders. Agency cost is reduced by the presence of the board
(Conheady et al., 2015).
Board size and structure

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The board’ structure and size of the company is considered to the important factor.
The size of the company should not be that much large that it adds to the cost of the
organizations and results in the huge financial burden that is higher than the cost of agency.
The size of the board should not be too less that; it leads to the decisions, which is weak and
biased(Chen, 2015). The non-executive directors of the company make the efforts as well as
measures for ensuring that the effective running of the organizationsand monitors the
management’s performance foe retaining the reputation of the company in the market.
Moreover, in case of size of board, there are two thoughts. One thoughts is that, the board,
which is smaller contributes in the organization’sbest interest. However, there is the second
thought that, the larger the board size, the better result is expected for improving the
organization’s performances (Chen, 2015).
Compensation of Board
The shareholders of the company should have to attach the financial benefits to the
compensations for which have to paid by the management of the company. If the behavior of
the management is not favorable then the compensation becomes the mechanism of the
corporate governance for encouraging the management for running the company in the
shareholder’s interests. The issues of the agency that exist between the management and the
shareholdersare solved by the board compensation and ultimately it contribute to the
performances of the company (Mishra &Mohanty, 2014).
Board Independence
The most important aspect of the corporate governance is the independence of board.
If the board is independent, there is less chances of financial pressure and unbiased decisions.
The decisions of the company will be enhanced by its objectivity and credibility if the board
consists of large number of independent directors. The system of independent directors will

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bring transparency in the value and financial statements. The board’s transparency also
enhances protection and supervision of increase in the shareholders equity. Moreover, the
independent directors are also responsible for supervision of the of the management hierarchy
in the unbiased and better way(Liu et al., 2015). The performance of the company increases if
the independent members are higher than that of the dependent member. On the board of the
directors, the non-executive directors of the company, performs on the part of the
shareholders who are external are expected for monitoring the strategy as well as the decision
making process of the organization. According to the Taher Hamza, there is negative as well
as significant relationship between the independence of board and return of the equity. As per
his suggestion, if the company is appointing directors that are more independentthen there is
failure in the enhancement of the return of stock. Moreover, the company with the
committees of independent audit exhibits the higher returns of the equity (Liu et al., 2015).
Duality of CEO
The duality of the CEO is defined as if one person has the responsibility of CEO as
well as Chairman of the Board. This duality leads to monopoly of the decisions and highly
biased decisions that lacks the board members performance and reductions of the company’s
performance. This creates the imbalances of power in the company and the one person’s
influence in all the matters of the firm results in ineffective decisions and highly biasedness.
Therefore, by keeping in mind this aspect of the duality, the companies moved from the
structure of duality to the non-duality and do the separation of CEO and Chairman of Board
(Yang & Zhao, 2014).
Negative Impact of CEO Duality on the Firm Performances

10IMPORTANCE OF CORPORATE GOVERNANCE ON FIRM’S PERFORMANCE
Frequency Percent Valid Percent Cumulative
Percent
Valid Strongly
Agree
14 23.3 23.3 23.3
Agree 25 41.7 41.7 65.0
Partially
Agree
11 18.3 18.3 83.3
Disagree 9 15.0 15.0 98.3
Strongly
Disagree
1 1.7 1.7 100.0
Total 60 100.0 100.0
Figure 1: Frequency Table of CEO duality (Peni, 2014)

11IMPORTANCE OF CORPORATE GOVERNANCE ON FIRM’S PERFORMANCE
Figure 2: Graph of CEO duality (Peni, 2014)
Education and Experience of Board
The backbone of the company is its board of directors. They are responsible for the
monitoring of the business operations and safeguarding the interests of the shareholders.
They are also responsible for the evaluation of the management and taking the decisions that
is helpful for the organizations. Hence, for this the board must have good education and
experience level, so that they could inspect the currently prevailing situation very effectively
for taking decisions and measures accordingly. The basic role and responsibility of the board
is the firm’s internal corporate governance (Hassan, Marimuthu &Johl, 2015). Hence, each of
the board member should be equipped with the knowledge of the management such as
accounting, finance, marketing, legal issues, information’s systems as well as other areas that
is interrelated. The requirement of this suggests that each of the members of the board should

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possess the quality and contributes positively and significantly, to the decisions of the
management that translates into the performance of the company. It is believed that if the
directors of the company possess the professional education and if they have acquired the
training of the professional education then they can perform much better in comparison to the
members who do not have related skills and educations (Hassan, Marimuthu & Johl, 2015).
They must have the knowledge for copping up of with the matters of organizations.
Each of the members of the board is expected to contribute in the organization’s
performance. The essential factor that contributes to the working of the company positively is
the competency of directors. The experiences of the directors contribute positively for
boosting the performances of the company. However, there is the conflict in the organization
over the experience of the board and financial performance of the company as the member
who are old age; they have higher aggression that results in the risky decisions. If the board
members have these characteristics then it results in the risky decision making which
ultimately undermines the performance of the company (Peni, 2014).Apart from this, the
members who are old age are not updated with the current innovation, which leads to lack of
good decisions in the organizations. Hence, the board of the directors should must establish
the rules and regulations regarding the firm’s executives especially in relation to the CEO of
the firm for ensuring that the executives are striving towards the shareholder’s goal.
Therefore, for the decision regarding the strategic direction as well as the overall making of
the policy of the company so that the regulatory authority of corporate must makes an effort
for establishment of the important regulations for confirming to the better functioning of the
mechanism of the governance (Peni, 2014).
Measurement of the financial performance of the company

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The measurement of the success of the company is done by its performance that is
done by the analysis through the different techniques and tools. Some analyst uses the
techniques for the measurement of the financial performance. However, many investors aim
to ascertain the financial performance by the tool of return on assets and return on equity for
ascertaining the company’s financial performance (Churet& Eccles, 2014).
Performance of a firm
The financial performance of the firm is referred as the measurement of the
organization’s efficiency and effectiveness of the operations of internal and external actions.
The growth of the organization depends upon the performance of the organization. The
performance of the company is measured through its financial statements. Management of the
company will provide quality disclosure of its operations by the support of performance of
the company. For the growth of the organization, measurement of the company’s current
performance will fill the gap for attaining the objectives of the organizations (Amba, 2014).
Therefore, it can be said mechanism of effective corporate governance majorly
influence the company in order to improve the overall performances.
Following is the research sample that includes the listed companies of seven different
industries that is manufacturing, constructions, utilities, transportation and warehousing,
mining, quarrying and oil and gas, agriculture, fishing, forestry and hunting that shows the
relationship between corporate governance and firm’s performance. These industries are
classified, that is based on the classification of North American industrial classifications. The
statistics of it is shown below:
Variables Mean Standard Dev. Minimum Maximum
Board size 5.85 1.29 5 11
Gender 0.88 1.04 0 7

14IMPORTANCE OF CORPORATE GOVERNANCE ON FIRM’S PERFORMANCE
Duality 51.4% 50.1% 0 6
Education 1.48 1.31 0 0
Board Age 48.4 4.2 35.8 61.6
ROA 11.8% 7.8% -19.2% 39.5%
Figure 3: Descriptive Statistics of Variables (Azeez, 2015)
Research Methods
For fulfilling the objectives of the research, the qualitative analysis has been taken
into the considerations. In addition, thematic and secondary analysis is taken into the
considerations. The research methodology used in the analysis is descriptive method. It is
been applied by various qualitative and quantitative research based on the study of different
theories and analysis of statistics of the cases studies. In the research design, the analysis has
been done on the previous works done on the same issues and research topic. The outcome of
the analysis of the previous research done is combined with the framed research questions for
reaching to the conclusion. The mentioned prior research is authentic in this study.
Conclusion
Hence, it can be concluded from the analysis of the importance of corporate
governance on firm’s performance that corporate governance plays the vital role in the
performance of the company. It has been analyzed that mechanism of the corporate
governance plays the vital role in the performance of the company. Under this study, it has
been analyzed that the different aspects of the corporate governance creates the positive
impact on the overall performance of the company. It has been find that the variables such as
ownership of board, education and experience of board, effectiveness as well as duality of
CEO has positive relationship with performance of the firm but the size of the board have
negative relationship with the firm’s performances. It is because the bigger the board size, the
bigger will be the delay in the decision-making processes and conflict of interest. It is

15IMPORTANCE OF CORPORATE GOVERNANCE ON FIRM’S PERFORMANCE
concluded that the ownership of the board is considered as the board members
encouragements for doing it in the best efforts. Hence, the problem of fault decision making,
management and governance system can be overcome by experienced and more educated as
well as qualified board that enables them for taking quick and better decisions because it
contributes positively for minimizing the risk and protecting the interest of the
shareholders.The duality of CEO has negative effect on the performance of the organization
as it weakens the mechanism of control. Moreover, this will be helpful and majorly useful in
providing the deep insights on this research topic as well as future researchers for using this
study as a reference.

16IMPORTANCE OF CORPORATE GOVERNANCE ON FIRM’S PERFORMANCE
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