2nd International Conference on Innovation Challenges In Multidisciplinary Research &
Practice, December 17-18, 2014. ICMRP © 2014 Kuala Lumpur, Malaysia. Global
Illuminators, Kuala Lumpur, Malaysia.
IMPACT OF INSTITUTIONAL OWNERSHIP ON STRATEGIC DECISIONS: AN
ANALYSIS OF NON-FINANCIAL SECTOR OF PAKISTAN
Sadaf Rabeea
Mohammad Ali Jinnah University
Correspondence: rabeeasadaf1212@yahoo.com
ABSTRACT
This study investigates the relationship between institutional ownership and firm’s strategic
decisions. These strategic decisions include, leverage or capital structure decisions, dividend
decisions and investment decisions. Using industry level data of 170 non- financial firms
(belonging to eight different sectors during a time period of 2003-2011) of Pakistan,
characterized by a large percentage of institutional investors having multiple equity stake in
different firms across a wide spectrum of industries, this study shows the two novelties. First
the previous studies have identified the impact of institutional ownership on individual strategic
decisions; dividend or leverage. This study however explores the impact that institutional
ownership collectively has on various strategic decisions of firm. Secondly, this study
recognizes the joint determination of strategic decisions by considering the endogenity among
them. The issue of endogenity is addressed by considering a system of equations using Three
stage least Square (3SLS). The findings suggest a collective two way relation between leverage,
dividend and investment decisions. The study reports that firms with large institutional
ownership have a significant adverse impact on the leverage or capital structure decisions.
However this study does not find significant evidence for the relationship that institutional
ownership exerts on dividend decisions and investment decisions.
Keywords: Institutional Ownership, Strategic Decisions, 3SLS, Endogenity.
1. INTRODUCTION
The traditional view of corporation, as argued by Berle and Means (1932), is characterized by
ownership that is widely spread between many small shareholders, yet control is concentrated
in the hands of few managers. This ownership structure creates in the conflict of interest
between managers and shareholders and results in agency problem (Fama, 1980; Fama &
Jensen, 1983). The empirical studies have shown that ownership of firms in many countries of
the world is typically concentrated in the hands of a small number of large shareholders (La
Porta et al., 1999; Barca and Becht, 2001). This ownership structure leads towards an equally
important agency conflict between large controlling shareholders and minority shareholders.
On the one hand, large shareholders can benefit minority shareholders by their role in
monitoring managers (Shleifer and Vishny, 1986, 1997). These large shareholders can be
dangerous if they hunt for their private goals (Shleifer and Vishny, 1997; and Burkart et aI.,
1997). Institutional ownership is defined in literature as the percentage of firm’s shares that is
owned by institutional investors. Institutional ownership can also be defined as “one minus
percentage of shares held by individual investors” (Chung and Zhang, 2002). Institutional
investors serve to monitor the firms in which they invest. This means that these investors have
a due concern related to management of firm and its various strategic decisions.
The purpose of this study is to find out the relation that institutional ownership has on
firms’ strategic decisions about leverage or capital structure, dividend decision and decision
related to investment. Literature provides evidence about a number of studies stressing the
importance of institutional investor in the strategic decisions of the firms. The decisions include
investment decisions (Cul and Xu, 2005; Kochhar and David, 1996), dividend policy decisions
(Jain, 2007; Rubin and smith, 2009; Chen et al., 2005; Afza and Hassan, 2011; Gharaibeh et
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2nd International Conference on Innovation Challenges In Multidisciplinary Research &
Practice, December 17-18, 2014. ICMRP © 2014 Kuala Lumpur, Malaysia. Global
Illuminators, Kuala Lumpur, Malaysia.
al., 2013; Azzam, 2010; Mitton, 2004) and leverage or capital structure decisions (Najjar and
Taylor, 2008; Bokpin and Akro, 2009; Li et al., 2009; Jiraporn et al., 2012).
The dependence of strategic decisions on each other creates a problem of endogenity.
This leads to two way causal relationship between them. Leverage or capital structure decisions
are affected by dividend decisions (Najjar, 2009) and dividend decisions are also have an
impact by leverage of firm (Asif et al., 2011). This study provides additional evidence on the
relationship among firms’ strategic decisions and ownership by institutions using a dataset
from developing economy of Pakistan. In order to capture endogenity problem, this study has
incorporated an advanced empirical technique to provide a more strong explanation of the
endogeneity issue on the relationship among firm’s strategic decisions. Three Stage-Least
Square technique provides us more robust result because it captures cross equation impact of
endogenous and exogenous variables.
The theoretical support for the relationship between institutional ownership and its
impact on the strategic decision and ultimately firm value is based on different arguments
namely “monitoring hypothesis”, “Strategic alignment” and “conflict of interest” hypothesis.
Monitoring hypothesis (Shleifer et al., 1968) is based on agency theory perspective. It states
that a higher ownership concentration allows a firm to make better and accurate strategic
decision because of institutional expertise and a high level of information gathering, processing
and correcting skills. Institutions that have a large stake in firm have more ability and incentive
to monitor the firm. Strategic alliance (Pound, 1988) hypothesis state that a higher ownership
concentration can cause problems and reduces firm value by creating an agency issue among
institutional and individual equity holders. Small shareholders are hence harmed and decision
making is hijacked by institutional owners. The conflict of interest hypothesis proposes that a
higher concentrated ownership will compel the institutional owner in the favor of manager and
hence their votes are biased for the managers for obtaining own benefits.
Research Questions
1. How institutional ownership affect the leverage decisions of firms in Pakistan?
2. What is the impact of institutional ownership on firms’ dividend decisions in Pakistan?
3. Does institutional ownership influence the firms’ investment decisions in Pakistan?
2. LITERATURE REVIEW
The concept of ownership and management of firm as separate entity was introduced by Berle
and Means (1932) that provide a foundation to agency theory. According to agency theory, the
firm is owned and managed by two different parties; owners (principal) and managers (agents).
This agency relationship is characterized by allocation of some power to agents (managers).
Since both parties have their own interest, that is the why the managers least act in the way that
is demanded by owners (Jensen and Meckling, 1976).The situation becomes worse when the
ownership disperses; the ability to exercise ownership rights also disperses (Walsh & Seward,
1990 According to Shleifer and Vishny (1986) concentrated owners have a remarkable affinity
to managers’ monitoring and controlling in contrast to those board of directors having little or
no investment in company. These owners have sufficient resources in comparison with small
investors. Due to their monitoring activities, managers are compelled to do what is best for
individual as well as large owners (Agrawal and Mandelker, 1992). In spite of the benefits,
controlling by owners has some costs too. This type of owners some time values their own
benefits at the expense of firm value and profitability. So it will give harm to other shareholders
of firm. Many studies report negative relationship between controlling owners and firm value
and profitability (Thomsen et al., 2006) and this result into conflict of interest between them.
Moreover, these owners enjoy their control over firm decisions even when they are
incompetent to do so (Shleifer and Vishny, 1997). Besides monitoring role, institutional
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investors are said to be ‘better informed investors’ as compared to other owners because they
have to bear low average cost to acquire better and accurate information. So these investors are
more efficient and enjoy economies of scale in information gathering and processing than other
retail investors. Yan and Zhang (2009) study the role of information of different types of
institutional owners. They argue that in spite of commonalities; institutional investors are no
more homogenous. They are heterogeneous because of their varying investment horizons: and
also because of their difference in their informational roles. Various studies are of view that
institutions that trade very often due to their informational gain (Wermers, 2000) or
overconfidence (Barber and Odean, 2000) are termed as short term institutions. On the other
hand, those institutional owners who possess limited information behave carefully (Yan and
Zhang, 2009). Boehmer et al., (2005) report that greater institutional ownership is related with
improved efficiency of price information. So the institutional investment in firm improves
firm’s informational climate. Burns et al., (2010) conduct a study on institutional ownership
and financial misreporting. Using data of US companies, it finds that financial misreporting
and institutional ownership are positively related due to ownership of institutions having short
investment horizon. Institutional ownership is active player for monitoring firms’ different
activities. In a recent study conducted in China, Aggarwal et al., (2013) report the association
between institutional ownership and financial fraud. This study finds that firms with higher
mutual fund ownership have lesser incidences of fraud.
There is not any comprehensive theoretical support to leverage of firm but there are
certain conditional arguments (Myers, 2001). The capital structure debate is attributed to
Modigliani and Miller (1958, 1963). According to this study, the value of firm is not affected
by the source used by it to for financing; whether debt or equity. This study results into two
main capital structure theories include trade-off theory (Modigliani and Miller, 1963 and
Jensen and Meckling, 1976) and the pecking order theory (Myers and Majluf, 1984). The tradeoff theory states that a firm will consider it financing decisions by evaluating marginal cost and
benefits associated with them. Pecking order theory states that there is a pecking and order in
the use of internal to external funds. The firm will prefer internal funds to external debt. When
firm needs more funds, it borrow from outside and gain the benefits of low informational cost.
The previous literature reports mixed evidence on ownership and capital structure relations.
Changhati and Damanpour (1991) report that the level of institutional investment has a
significant relation with firm’s leverage and return on equity: larger institutional ownership
means low degree of indebtedness. Najjar and Taylor (2008) in their work on ownership and
capital structure of Jordanian firms and report no clear evidence of firm’s capital structure
choices, nor any significant relationship of firm’s ownership and leverage. In a study on capital
structure and ownership, Sheikh and Wang (2012) argue that there is a positive relation
between leverage and concentrated ownership in the case of Pakistani firms listed at KSE. This
positive relationship confirms the monitoring of large shareholders to make them act in the way
that is in best interest of blockholders and small owners as well. A negative relation between
leverage and institutional holdings is found by Michaely and Vincent (2013). This study argues
that firms having higher level of institutional ownership are low leveraged. This means that a
change in institutional ownership causes an opposite change in leverage of firm.
H1: The degree of stock ownership by outside institutions is negatively related to the debtto-equity ratio of the firm
The research in the domain of firm payment and dividend policy become a puzzle Since Miller
and Modigliani (1961) finds that a firm value is not affected by its dividend policy. The
dividends payment reduces agency conflicts and arising agency cost between firm’s
management and its owners. Rozeff (1982) observes that high dividend paying firms face low
agency costs. The study attempts to optimize the dividend payout by considering two market
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imperfections; agency cost of debt and transaction cost related to issuing external finance.
Increased dividend lowers agency cost of debt but increases the transaction cost of external
financing. These two costs are used simultaneously to determine optimal dividend payout. In a
research conducted by Truong and Heaney (2007), the results report that firms pay more
dividends when profitability increases and firm has lesser investment opportunities. The results
of this study are consistent with previous studies. Grinstein and Michaely (2003) find that
repurchases increases with the increase in firm’s institutional ownership. According to their
findings, the results suggest that institutions give more preference to firms that repurchase
more. In developing economy of Egypt, Abdelsalam et al., (2008) link governance and firm’s
dividend policies to discuss in the case of a rising economy of Egypt. The results provide strong
support for the positive association between firm’s dividend policy and firm performance. This
study also reports a significant association between the firm’s dividend and institutional
shareholding. Najjar (2009) employ Pooled Panel Tobit and Logit model to examine the impact
of dividend behavior in Jordan firms. The dividend payout ratio is the dependent variable in
this study and it is in the form of dummy variable. This study report that there is not any
significant difference between the developed and developing market for the factors determining
the firms’ dividend policy such as capital structure, institutional shareholding, profitability,
business risk, asset structure, growth rate and firm size. This study reports partial negative
relationship of corporate dividend payout and its proportion of shares owned by institutional
owners. In a research on developing market Shah et al. (2011) investigate the relationship of
dividend policy of firms in relation to their ownership structure. This study report that dividend
payment level increases with the rise of ownership by insiders. Moreover, the study also reports
a positive relation of managerial ownership and firm dividend payment.
H2: The percentage of stock ownership by outside institutions is positively related to the
dividend payment of the firm
Academic literature and studies claim institutional investors to have an excessive focus on short
term earnings leading firms’ managers to make decisions enhancing short term earnings at the
cost of firm long term goals and value. This claim is attributed to short term performance
pressure that leads some institutional investors to rely on short term earning performance and
overall shortsightedness on current earnings (Porter, 1992). Bushee (2001) classifies
institutional investor’s preference for long term or short term earnings of firm on the basis of
their investment horizon and fiduciary standards that are being faced by these institutional
investors. The institutional investors having short term focus and invest on the basis of short
trading profit are termed as ‘Transient institutions’. These institutions are the main trigger of
managerial myopic behavior. The other two types of institutions are “dedicated” and “quasiindexer”. These two types of institutions have stable, longer term ownership and are less
focused on short-term earnings (Bushee, 1998). On the basis of fiduciary requirements, nearterm earnings are preferred by those institutions having strict standards (banks) and those
having fairly relaxed fiduciary standards mostly value long term earnings or capital gains
(Bushee, 2001). Critics of this view point argue that if investors are not valuing long term
investment horizon, they are lowering their expected earnings (Jenson, 1988). Contrary to
myopic investment hypothesis, ‘superior investor hypothesis ’proposes that large institutional
owners are intended to analyze the information prior to any decision making. Barber and Odean
(2008) use attention based model of decision making in the context of common stock
purchases. Choosing a common stock to buy presents investors with a huge set of possibilities.
When selling, they argue, most investors consider only stocks they already own or those stocks
that have recently caught their attention; an investor is less likely to purchase a stock that is out
of the limelight. Consistent these predictions, they find that individual investors display
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attention-based buying behavior. The institutional investors, on the other hand, are the value
strategy investors; they do not display attention-based buying.
H3: The percentage of stock ownership by outside institutions is negatively related to the
investment of the firm
3. DATA AND RESEARCH METHODOLOGY
Data type used for this study is secondary. The secondary data has been collected from Balance
Sheet Analysis publication of State Bank of Pakistan, annual reports of companies, business
recorder and Karachi Stock exchange website. The time period of this study is comprised of 09
years; from 2003-2011.The selection of companies depends upon availability of the data.
Financial firms, firms with negative equity and the firms whose relevant data is incomplete or
not available are excluded from this study. The sample includes 170 non-financial firms listed
in Karachi Stock Exchange and grouped under 8 different sectors. The final sample comprises
of 170 firms distributed across eight different sectors as follows: Engineering (12), Chemical
(25), Construction & Material (13), Paper & board (5), Fuel & Energy (9), Food Producers
(32), Personal Goods (66), Others (8). Personal goods and food producer companies together
make above 50% of sample.
Measurement of Variables
Leverage
Leverage is measured by either debt to equity ratio or debt to assets ratio (Hassan and Butt,
2009: Lee and Kuo, 2013). This study preferably uses debt to equity ratio as it is being reported
in State Bank of Pakistan publication of Balance Sheet Analysis.
Dividend
The dividend decision of firm is captured by dividend yield. It is measured as the ratio of
dividend per share to the market price per share (Han et al., 1999: Asif et al., 2010).
Investment
This study capture the relationship of institutional ownership and investment decision by using
the ratio of Change in Fixed Assets to Total Assets as the investment decisions of firms have a
long term focus.
Institutional Ownership
Institutional ownership would be quantified as percentage of shares owned by institutional
investors to the total number of share outstanding (Michaely and Vincent, 2013).
Profitability
Profitability of firm can be measured either by using Return on Assets or by using Return on
Equity ratio. This study measures the profitability by using Return on Equity (Bhattacharya
and Graham, 2007; Hillman, 2003). Return on Equity is the ratio of net income to shareholders’
equity.
Size Of Firm
The other important explanatory variable is size of firm (Schuler, 1996). In order to quantify
the size of firm, the natural logarithm of book value of total assets is used. The same measure
was used by Lin and Chang (2011).
Tangibility
Tangibility of assets is measured as the ratio of fixed assets to the total assets of firm (Liu et
al., 2011).
Sales Growth
Sales growth is the rate at which a firm is growing annually. Sales growth is calculated as the
annual percentage change in sales of a company (Lin and Chang, 2011). It is the difference
between sales in the current year and the sales in the previous year divided by the previous
year's sales.
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Age of Firm
Firm age seems to influence the decisions related to leverage, dividend and investment. Firm
age is defined as the number of years elapsed since a firm was listed (Lev and Nissin, 2003).
Methodology
In method identified for this study, there is a potential causality or endogenous relationship
among leverage decisions, dividend decisions and investment decisions. A simple OLS
estimation to capture the relationship among variables would create biased and inconsistent
estimates as given by Demsetz and Villalonga (2001) and Cho (1998). So there is a need to
explore a more sophisticated technique for estimation. There are different ways to address the
issue of biased and inconsistent estimate. One is 2SLS and other is 3SLS and GMM. The main
difference between 2SLS and 3SLS is that in 3SLS, we are able to capture cross equation
impacts of error terms and system of equation is supposed to be correlated in 3SLS. 3SLS is
most appropriate technique for this data set because of the fact that some institutions have a
multiple ownership stake in different firms. So ownership and strategic decision making can
affect each other in many ways. 3SLS is a system that is designed to capture a relation where
equations in model have endogenous variables as exogenous. Since some of the explanatory
variables are endogenous variables in system, so error terms of the equations are correlated
which simply violates the assumptions of Ordinary Least Square (Chichernea et al., 2012).
We can estimate the relationship as,
LEVt = β0 + β1 ROEt+ β2 SALESGRt + β3 SIZEt+ β4 TANGt + β5 INSTt + β6 DPOt + ε1
3.1
DYt = β0 +β1 ROEt + β2 SALESGRt +β3 SIZEt + β4 TANGt + β5 INSTt + β6 LEVt +ε2
3.2
INVt = β0 + β1 ROEt + β2 SALESGRt + β3 SIZEt + β4 TANGt + β5 INSTt + β6 DYt+ ε3
3.3
where LEV, DY and INV are dependent variables in these system equations that show a
possible two-way relationship among them, since they also appear at the right side of the
equation as exogenous variables. ε1, ε2 and ε3 are the error terms andthey are also assumed to
be correlated. ROE, SALESGR, SIZE and TANG is control variables in these sets of equation.
4. RESULTS
In order to check the problem of heteroskedasticity, White’s Test for heteroskedasticity is
applied. The results of the test are reported in Panel A of Table 4.3. The results of test statistics
and chi- square value confirm the presence of heteroskedasticity in model. Panel B shows the
results for serial correlation. The probability of test statistics confirms the presence of
correlation.
PANEL A: TEST FOR
HETEROSKEDASTICITY
Dependent Variable
LEV
DY
Prob.
INV
Test Statistics
F-statistic
Prob.
67.17613
0.00
6.805753 0.00
12.39223 0.00
R-Square
356.0287
0.00
52.846
82.25088 0.00
0.00
Prob.
PANEL B: TEST FOR CONTEMPORANEOUS CORRELATION
12.46352
0.00
3.393748
0.00
7.324963 0.00
48.57798
0.00
13.56017
0.00
28.95227 0.00
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Three Stage Least Square
In this table, three sets of results are reported. The first set of result being denoted by LEV
where dependent variable is leverage and all exogenous and control variables are also reported.
The second set of result being denoted by DY; here dependent variable is dividend yield. All
explanatory variables and control variables are reported. The third set of results being denoted
by INV; here investment is dependent variable and other explanatory, control and endogenous
variables are also reported. The presence of dependent variables on the right side as regressor
is due to two way relationship. The error terms of the relations are assumed to be correlated
with each other.
Results lead us to following important issues. For a cross-section of firms in Pakistan,
leverage of firm is negatively related to institutional ownership and the result is highly
significant. This results show that institutional owners, regardless of their type, are hesitant to
invest substantial stake in the firm. The coefficient of institutional ownership is -0.01 and is
highly significant at 1%. This means that if there is one unit change in institutional ownership,
this would bring a negative change of 0.01 in leverage of firm. The reluctance of institutional
owners to invest in highly leveraged firm may be due to their intention to avoid risk. This
negative relation is the consequence of the fact that there is agency conflict among institutional
owners and managers and small investors due to the bad practices of investor protection in
Pakistan. The coefficient of dividend payout (-0.45) is also negative and statistically significant
at 1%. This means that firm uses leverage and dividend as alternative monitoring devices.
Higher the firm leverage would lower the potential dividend payout to shareholders.
Looking at the control variables, it is reported that firm size has a positive role in
determining firm’s level of leverage. It means big firms are more leveraged. It is consistent
with the argument that as these firms have more assets as collateral and these firms are stable
so these are able to arrange debt. Profitability of firm is also negatively related to firm leverage
and the coefficient is significant at 95%. This result is in line with pecking order theory (Myers
and Maljuf, 1984) suggesting a negative relation between the two due to reliance of firm on
internally generated funds. The other control variables (TANG and SALESGR) have no
significant impact in determining firms’ leverage. The coefficient of sales growth is positive
Three Stage Least Square
Variables
Dep.Var:
LEV
Dep.Var:
DY
Dep. Var:
INV
Constant
1.99***
0.0035
-0.0008***
(0.559)
(0.0188)
(0.0002)
LEV
-0.0014**
(0.0008)
DY
-0.0024*
(0.0014)
INST
ROE
-0.01***
-0.0001
-0.000350
(0.0037)
(0.0001)
(0.00014)
-0.0264***
0.0003***
-0.00038***
(0.002)
(0.00008)
(0.000001)
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SIZE
SALESGR
TANG
AGE
DPO
0.1454***
0.0053***
0.000054**
(0.0629)
(0.0021)
(0.000025)
0.002
0.00014**
0.00006***
(0.0019)
(0.00006)
(0.0000007)
-0.0238
-0.02632*
0.0006***
(0.44)
(0.0146)
(0.00017)
-0.0087
0.00055**
0.0000126***
(0.0082)
(0.0002)
(0.000003)
0.0466
0.0487
-0.465***
(0.2)
adj. R square
0.0891
Chi-Sq
141.32***
71.98***
129.6***
Notes: *** denotes 1%, ** denote 5% and * denotes 10% level of significance. Standard errors
are reported in parenthesis. LEV, DY and INV corresponds to the equations 3.4, 3.5 and 3.6
respectively. Above results are generated using dependent variables, all exogenous variables
and control variables. LEV measures firm Leverage; DY measures firm Dividend Yield; INV
measures firm investment; INST measures the percentage of share owned by institutional
owners; ROE a measure of firm profitability; SIZE measures firm size; SALESGR represents
the firm sales growth; TANG measures asset tangibility; AGE measure firm’s age in years and
DPO is a measure of firm’s dividend payout.
But insignificant indicating no relationship between sales growth and leverage. Age of
firm is insignificant and its coefficient is negative.
Looking at the results of second model, the coefficient of institutional ownership
although negative but statistically insignificant thus leading us to the conclusion that in
Pakistani capital market, ownership by institutions has no impact on dividend decisions of firm.
These results are being supported by findings of Elston et al., (2004) who found no relationship
between institutional ownership and dividend of Germen firms. Leverage of the firm adversely
affects the firms’ dividend decisions and the coefficient (-.0014) is significant at 5%. The value
of coefficient suggests that one unit change in leverage of firm would cause a negative .0014
unit change in dividend. This results show that in Pakistani firms, high leverage firms don’t
pay dividend and it is consistent with the argument as the firms are supposed to pay interest,
so they may face liquidity problem or the debt covenants may restrict them from paying
dividends.
The results of control variables show that profitability (Measured by ROE) has a
positive role in determining the firm’s dividend decisions. Keeping other things constant,
higher the profitability, higher would be the dividend yield. Moreover SIZE and SALES
GROWTH (SALESGR) of firm are also positive and significant in determining the firm’s
dividend. The result of SIZE is inconsistent to previous findings (Ahmed and Attiya, 2009 and
Afza and Mirza 2011) who report a negative relationship of firm size with dividend. The
coefficient of tangibility is negative and significant suggesting that higher the firms’ fixed
assets would lower the firms’ dividend. The coefficient of AGE is significant and positive. It
means that the firm’s tendency to pay dividends increases with the passage of time.
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The relationship of institutional ownership (INST) and firm investment (INV) as
suggested by third model is negative and the result is statistically insignificant. The negative
coefficient is in accordance with the findings of Drucker, (1986); Mitroff, (1987); Scherer,
(1984) and Richardson, (2002). The short term focus of institutional investors may compel the
manager to reduce investment (Bushee, 1998) to avoid the mispricing caused by disappointed
institutional investors’ selling. The relationship of DY and INV is significant and negative
suggesting that high dividend indicate that firm is not supportive to invest in future. Dividend
yield increases, investment decreases. These results are in line with the passive residual policy.
These results indicate that large firms spend more in capital projects.
The positive and significant relation between age and investment also confirm the same
phenomenon in Pakistan. The coefficient of tangibility is significant and positive indicating
that capital intensive firms are still in the process of expansion. The same phenomenon is
confirmed by significant and positive relationship between sales growth and investment. The
results clearly provide the evidence that high sales growth requires the firm to place more
money in expansion or project/production facility. This result corresponds to the findings of
Jenson et al., (1992).The presence of DY among regressor of third model is due to endogenity
of variables.
This study analyzes the results of simultaneous equations where industry specific
dummies are incorporated into the model. Since we have 8 different industries, seven industry
dummies are used for analysis. The omitted dummy variable (Engineering) becomes reference
dummy and all other industry dummies are analyzed on the basis of that reference dummy.
Results show that the relationship among variables remains the same in term of sign and
significance. However, coefficient of INST has changed for leverage and investment. The
relation becomes more pronounced. The negative impact of institutional ownership on firms’
leverage becomes more pronounced after including industry specific dummies. The magnitude
of INST in second model remains same.
5. CONCLUSION
This study addresses an emerging dimension of ownership; institutional ownership (as given
by Pond, 1988) and its interaction with firms’ major strategic decisions, including leverage
decisions, dividend decisions and investment decisions for 170 Pakistani non-financial firms
across eight different sectors. Institutional ownership include firm equity owned by
institutional investors like banks, insurance companies, mutual funds, pension fund, modarbah
and investment trust. These institutional owners and strategic decision making by them cause
endogenity problems.
Three SLS technique is applied to address the issue of endogenity (Bhattacharya and
Graham, 2007). Three SLS is preferred because it provides more robust estimates than 2SLS
(Wooldridge 2008) To explore the relationship of institutional ownership and strategic
decisions, two exogenous variables (DPO & INST), three endogenous variables (LEV, DY &
INV) and five control variables (ROE, SIZE, SALESGR, TANG & AGE) are used in
accordance with the previous literature (Audretsch and Elston, 2000; Najjar, 2009; Okpara &
Chigozie, 2010; Afza & Mirza, 2010 and Asif et al., 2011). Moreover eight industry specific
dummies are also used in 3SLS. These industries include Engineering, Chemical, Construction
& Material, Paper & board, Fuel & Energy, Food Producers, Personal Goods and
Miscellaneous. The purpose of using these industry dummies is to check the robustness of
results.
The result shows that there is two-way relationship among these strategic decisions.
This relationship differs in term of magnitude of effect and sensitivity. This study results that
high leverage firms pay less dividends. These results can be aligned with the findings of Jenson
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et al., (1992). The results also suggest that the firm dividend and investment has an inverse
relation. Again this is supported by Peterson and Benesh, (1983) and Jenson et al., (1992). The
institutional ownership has negative impact on external financing or leverage decision. As
institutional ownership increases, the tendency to use more debt decreases. Profitable firms
have generally less debt and this tendency is in line with pecking order theory. Profitable firms
generally pay more dividends. As the distribution of dividends increases, the investment
decreases. As size of firm increases, the firm uses more debt and results into more investment.
However these firms also prefer to pay dividend. As firms grow older, they pay more dividends.
The firms that are in high growth also take care of their shareholders. These firms not only pay
more dividends but also invest more in fixed assets and their activities are generally financed
from internally generated resources. The above findings remain robust when we incorporated
industry dummies to capture industry-specific effects. However no significant difference
among various industries is observed.
This study has focused only on firm-specific factors while considering the relationship
of institutional shareholding and firms’ strategic decisions. The other factors like political and
economic environment have not been considered. Since this study uses internal factors only,
the results might be different if external factors that may influence on strategic decisions of
firms are incorporated.
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