Does Corporate Governance Enhance Financial Distress Prediction?

Abstract

This study validates some aspects of agency theory, resource dependency theory, and organization theory referring to the Sri Lankan context. The sample includes 205 non-financial listed firms prepared in a balanced panel for six years. Implications are provided for the insufficiency of financial variables in predicting corporate financial distress. Financial aspects together with corporate governance jointly enhance the predictive power of financial distress. Less likelihood of financial distress is explained by board size, board independence, institutional ownership, non-institutional ownership concentration, and board ownership. Boards with 5-9 members are likely to be optimal. Firms fail with the concentrated ownership structure. The expected monitoring role of large institutional shareholders and blockholders is inhibited by their expropriation. The expropriation could also occur with the unitary leadership. Contextually, results make a distinctive contribution to the literature owing to the lack of quality audits for governance compliances, family dominance, and board erraticism. Moreover, corporate control within business groups and economic and political instability are also portrayed.