THE EARNINGS-RETURN ASSOCIATION OF FAMILY AND NON-FAMILY INDONESIAN FIRMS: AN EMPIRICAL STUDY.

AuthorBin, Leo
PositionReport
  1. Introduction

    The capital markets in a variety of Asian economies are dominated by family firms with increasing number of family firms listed in the stock markets. Credit Suisse (2011) reports that since the 21st century starts, there has been a 38% increase in numbers of publicly-listed family-controlled firms, among which Samsung Electronics and Hyundai Motor are two of the largest ones. Some famous family enterprises such as Samsung Electronics and Hyundai Motor (South Korea), Jardine Matheson (Singapore), Wilmar International (Singapore), Hon Hai Precision Industry (Taiwan, ROC) and Tata Consultancy Services (India) also become companies that dominate the economy in each country base. They acquire 6.4%, 5.0%, 3.4% and 3.2% of local market capitalization respectively (Credit Suisse, 2011). In Indonesian economy, family firms also play significant roles since they account for 60% of total corporation job sources (Credit Suisse, 2011). As the fourth largest population country in the world with 118 million labor forces, the availability of jobs become crucial part of country's social and economic life. Large corporations owned by powerful Indonesian families include Djarum Group (by Hartono family), Salim Group (by Salim family), Sinar Mas Group (by Widjaja family), TransCorp (by Chairul Tanjung family), Lippo Group (by Riady family), and Rajawali Group (by Peter Sondakh family).

    Despite being significant driving force in the Asian economies, family firms are also labeled with potential sources of conflict of interest and agency problems. "Agency problem Type I" is originated from the conflict of interest between shareholders and managers (Shleifer and Vishny, 1997), whereas "agency problem Type II" is originated from the conflict of interest between concentrated majority and diverse minority shareholders (Bhaumik and Gregoriou, 2010). In family firms, the majority shareholders are family members and the minority shareholders are non-family members. Family members, with their close connections, have incentives and opportunities to gain benefit at the expense of non-family shareholders (Fan and Wong, 2002). Specifically, family-controlled corporations in some Southeastern Asian economies such as Indonesia, Philippines, and Thailand are found to possess relatively high tendency to expropriate minority shareholders' wealth, by the means of twisted financial statement reporting (Sue et al., 2013).

    Prior studies have examined Indonesian family firm ownerships, by focusing on their relationships either with financial performance indicators such as return on assets or on equity (Andre et al., 2012), or with other firm characteristics such as capital structure (Driffield et al., 2007), information disclosure (Darmadi and Sodikin, 2013) and agency cost (Villalonga and Amit, 2006). Our study, however, focuses on some other possible interactions that those existing publications have not yet covered: i) the impact of Indonesian family firm ownerships on the "informativeness shock" of accounting net earnings, which is reflected by stock market returns; and ii) the impact of the divergence of Indonesian family firms' cash flow rights and voting rights on the "infromativeness shock" of accounting net earnings. On some other emerging markets, as found by researchers such as and Lew and Wu (2013) and Edmans et al. (2017), the higher the management incentive to "manage" corporate financial reports, the lower the credibility of accounting earnings information contained in those reports. Even though prior studies which employ accounting profitability ratios, Tobin's Q, capital structure, information disclosure and agency cost as dependent variables have provided some meaningful (but still mixed) findings about the particularity of Indonesian family firms, we believe that the wealth effect of financial reporting creditability, which is reflected in stock market fluctuations surrounding net earnings announcements, is even more fundamental than those prior measures. As such, our study can shed more light on "how influential" and also "by which channel" the family control factor can become towards the capital market and corporate governance of Indonesia, the nation with the largest population in Southeastern Asia (the 4th largest in the world) and the world's 8th largest GDP economy in terms of purchasing power parity by the year of 2016, but also with one of the most internationally isolated equity markets (Janakiramanan and Lamba, 1998) and with the majority of stock exchange listed corporations are family firms (Yudha and Singapurwoko, 2017).

  2. Literature Review

    The conflict of interest between shareholders and managers is often referred to "agency problem Type I", and such type of problem is particularly severe in those corporations with dispersed ownership structures (Fama and Jensen, 1983). On the other hand, "agency problem Type II" tends to be more severe in those corporations with concentrated ownership structures, such as family-controlled firms, in which a small group of family-tied members as controlling shareholders and all non-family members as minority shareholders. The controlling family can thus closely monitor the firm's activities and obtain more insider information about the firm by hiring their own family members to hold the board of directors and/or business administration offices. Such a family tie between controlling shareholders and managers can help to bring their interests in line with each other, thereby reducing the agency problem Type I while increasing the agency problem Type II, at the expense of minority shareholders (Villalonga and Amit, 2006; Bhaumik and Gregoriou, 2010). The stronger family control on a firm, the more incentives for the "ruling" family to a) expropriate minority shareholders' rights, including their "rights to know" about the firm's reality situations, and b) misappropriate the firm's resources, including its ability to filter the information for public disclosure (Darmadi and Sodikin, 2013).

    The credibility of accounting earnings refers to how effectively and efficiently the change of company's equity market value can be explained by the reported earnings. Ball and Brown (1968) start such analysis by investigating the accounting number usefulness, that is, the capability of accounting numbers affect stock prices. Thereafter, the informativeness of accounting earnings is widely found to be influenced by the level of ownership concentration, such as managerial and other insider ownership proportion, over long time horizon and across various counties and regions (Morck et al., 1988; Warfield et al., 1995; Collins et al., 1997; Rangan, 1998; Teoh et al., 1998; Chordia and Shivakumar, 2006). Such studies jointly examine the associations between income-statement earnings and stock returns: the influence of current-period earnings on future-period earnings, the influence of future-period earnings on future-period dividends, and the influence of future-period dividends on the present value of expected future dividends, which is discounted current price of the stock. As such, investors employ and rely on the accounting numbers announced by the company to guide them in the stock valuation process. However, with the agency problem Type II, family controlling shareholders may carry incentives to...

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