Ownership Concentration and Corporate Performances in the Northeast Asian Countries:
3) Effects of Ownership Structure on Firm’s Technical Efficiency In the previous section, the relationship between the technical inefficiency of
firms and ownership concentration was examined, and estimation results summarized in the table above.
For Korean firms low ownership concentration was typically associated with low levels of technical efficiency as inferred by the estimation results above.
However, no clear relationship was found between the estimated level of technical efficiency and ownership concentration.
The statistical relationship between the estimated technical inefficiency and ownership concentration indicates that, in Korea, the technical inefficiency decreases as ownership concentration increases. In contrast, the technical efficiency increases as ownership concentration increases. Moreover, as debt equity, corporate size (assets size), and market share increase, the technical efficiency of firms tends to increase, but decreases when market competitiveness increases. Nevertheless, no statistically significant relationship was found between the estimated technical inefficiency and ownership concentration for Japan.
Ownership Concentration and Corporate Performances 21
Figure 5. Ownership concentration and technical efficiency A) Korea
B) Japan
IV. Summary and Implications
In this research, the relationship between corporate governance structure and corporate performance was compared among three Northeast Asian countries, namely Korea, Japan, and China. Accounting corporate performances and technical efficiency measures were examined, and these variables were explained by their association with corporate performance measures and debt equity ratio, direct ownership, market share, log of total asset and concentration ratio of top 3 firms.
In the case of Korea, ownership concentration was shown to have positively affected all of the corporate accounting performance variables such as profit margin, return on shareholders’ funds, return on total assets, and return on
Ownership Concentration and Corporate Performances 22
capital employed. All estimations were statistically significant. Furthermore, it was also found that ownership concentration positively affected corporate performance by influencing technical efficiency of firms.
Unlike Korea, in Japan, no positive effects of ownership concentration were found both on the accounting corporate performance such as profit margin, return on shareholders funds, return on total assets, and return on capital employed and the technical efficiency.
In the case of China, ownership concentration positively affected profit margin and return on total assets, while no positive effects of ownership concentration were found on return on capital employed and return on shareholders’ funds.11 Due to insufficient data on labor, the relationship between technical efficiency and ownership concentration was not examined.
It has been shown that the difference in the relationship between corporate performance and ownership concentration among the 3 countries can be attributed to the different corporate governance structures. The various corporate governance systems typical of industrialized countries are products of those countries’ histories, as well as their social and commercial cultures and specific institutional, historical and technological settings. In short, they are products of path-dependent institutional development.
Under the Korea’s Chaebol structure, controlling shareholders, who are the real owner of firms, exercise ownership rights even with small proportion of shares held. This is possible through the pyramid ownership control and cross-shareholding among subsidiaries. Consequently, the owner’s interests and corporate interests are identical under such a structure, thereby leaving controlling shareholder with less incentive to pursue their private interests. As a result, technical efficiency of firms may increase.
Korea’s unique corporate governance structure including the Chaebol structure as well as the huge disparity between corporate ownership and control has been pointed out as the main weakness of Korean economy that led to the recent financial crisis. Furthermore, there have been many controversies regarding the process of pursuing global standards through active corporate restructuring, specifically adopting Anglo-American corporate governance model, in recent years.12 On the other hand, it is a clear fact that corporate performance has
11 According to Xiaonian Xu and Yan Wang (1999), a typical listed stock company in China has a mixed ownership structure with three predominant groups of shareholders—the state, legal persons (institutions), and individuals—each holding approximately 30% of stocks. The five largest shareholders accounted for 58.1% of the outstanding shares in 1995 compared with 57.8% of Czech Republic, 79.2% of in Germany, 33% in Japan, and 25.4% in the US. Empirical analysis shows that the mixed and concentration of stock ownership do indeed significantly affect a corporate performance. First, there is a positive and significant correlation between ownership concentration and profitability. Second, the firm’s profitability is positively correlated with the fraction of legal person’s shares, but it is either negatively correlated or uncorrelated with the fractions of state shares and tradable A-shares held mostly by individuals.
Third, labor productivity tends to decline as the proportion of state shares increases.
12 The new corporate governance model is largely based on “the OECD Principles of Corporate Governance”.
Ownership Concentration and Corporate Performances 23
improved as ownership concentration increased.
The corporate governance structure in Japan has also distinct characteristics.
The role of that main bank in corporate governance and inter corporate shareholding is well documented. Although Japanese banks rigorously monitor firms and have an enormous influence on the firms by owning their shares, the views toward the performance of firms in such a main bank system have not always been positive. Opposing views exist regarding the performance of firms in the main bank system.13
In China, state shareholders possess strong control rights over shares in listed company allowing them to exercise control even beyond their proportion of shareholding. Various governmental organizations acting as representatives of state shareholders influence firms enormously and hold control rights over organizing the board of directors as well as electing management. However since they have no incentives to manage state (national) assets and have insufficient capacity to monitor a large number of firms of which they are in charge, principal-agency problems tend to prevail and thus preserving the value of state assets remains difficult as well.14
It is likely that the difference in ownership structure (or corporate governance structure) among the 3 Northeast Asian countries has led to differences in ownership concentration and corporate performance. In Korea, for example, controlling shareholder managerialism could have influenced corporate performance as ownership concentration rises. On the other hand, it is not likely that state shareholders and main banks, respectively, have made much positive effort to increase corporate performance.
13 According to a survey by Campell and Keys (2002), there are two views on the role of main banks, but the main banks are likely to enhance the value of firms that have a tie with the main bank. Examples of important studies and their main conclusions are as follows: Aoki Patrick and Sherd (1994) highlight the significant role of governance by the main bank for Japanese firms.
The main bank monitors the firms effectively as they are well-informed about the firm (Diamond, 1984). The main bank’s equity stake in the client firms mitigate agency costs between creditors and shareholders (Prowse, 1990). The main banks sometimes intervene in the management of client firms that perform poorly by appointing bank employees to the board of directors in those firms (Kaplan and Minton, 1994: Kang and Shivdasani 1995; Mork and Nakamura, 1999). In the case of financial distress, the main bank acts as a guarantor for other creditors, reducing the cost of restructuring of the client firm (Hoshi and Kashyap, 1990). On the contrary, several studies showed that there are costs with having a main bank, which in turn leads to the reduction of firm value. Firms relying on the main bank for financing are likely to be constrained in raising additional capital when the banking sector as a whole faces financial difficulty (Kang and Stulz, 2000). The main bank can extract surplus from the client firms due to its monopolistic power of information production (Rajan, 1992). The main bank has an incentive to force the client firms to undertake low risk project (Weinstein and Yafeh, 1998).
Firms that do not depend on bank borrowing exhibit higher profitability than the matched sample of firms that have a main bank (Kang and Shivdasani, 1999). Main bank borrowing is negatively related to the firm value which is consistent with the view of the main bank extracting surplus from client firms (Hiraki, Inoue, Ito, Kuroki and Masuda, 2003). Several changes in Japan’s economic situation with which banks are faced have weakened especially the governance role of the main bank (Kotaro Tsuru, 2000).
14 Lee Keun and Dong Hoon Hahn (2002), “Chapter 7. Corporate Structure and Relationship between Chinese Firm and Bank,” in Chinese Firm and Economy, Bakyoungsa, pp.189-235.
Ownership Concentration and Corporate Performances 24
Alchian and Demsetz (1972) view the nature of firm as a “nexus of contracts”.
From their point of view, if contracts between interest groups are made so as to increase efficiency, corporate performance should improve. In terms of incentive contract, meaning assigning firm’s residual control and residual return to the same entity, it can be explained that corporate performance in Korea improves as ownership concentration increases, but this is not true for Japan and China.
In Korea, ownership and control are not separated and therefore the proportion of individual shareholding is relatively higher than in Japan or in China. Also, the ownership of stock by financial institutions is not to exceed certain limits.
Thus, increasing ownership concentration implies that matching residual control and residual return in ownership structure is higher, which, in turn, contributes to enhancing corporate value.
In Japan, on the other hand, mostly banks and life insurance companies act as the principal controlling shareholders of firms. Main banks, although partly, tend to solve information asymmetry by participating in the management of firms. However, under Japan’s seniority system (or Japan’s hierarchical incentive system), no additional incentives are provided for dispatched managers. Hence, in terms of the corporate governance structure, matching residual control and residual return has little tendency to increase, thereby contributing little to increasing corporate performance.
Unlike Japan, in China, the state is usually the principal controlling shareholder.
In fact, most listed companies now initially were state-owned enterprises and have become listed companies. Although the country still sends state bureaucrats to firms, they face problems of degraded professionalism and moral hazard. This can be explained from the viewpoint of the theory of firm, as, in this case, residual control belongs to the bureaucrats, but residual return goes to the state instead. Thus, the mismatch between residual control and residual return and, as a result, concentration of ownership does little to contribute to increasing corporate performance.15
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