Does Board Characteristics Affects Corporate Financial Leverage? Evidence from Non-Financial Companies Listed in Colombo Stock Exchange

With the recent developments in the discipline of corporate governance, concern for the Board of Directors has increased significantly. Even though there are a number of extensive researches in the field, the understanding of the board and its impacts on corporate Financial Leverage is still limited. This research investigated the linkage between some corporate governance characteristics and corporate Financial Leverage in an emerging market, Sri Lanka. The researchers have used a sample of 100 non – financial highly market capitalized firms selected from the most active trading listed Companies in Colombo Stock Exchange (CSE) covering the period from 2011 to 2019 with 900 observations. The Fixed effect multiple regression models (OLS) have used to analyze the data. Results show that proportionate of board non-executive directors and independent directors positively significantly affect the corporate financial leverage and CEO Duality and Board tenure have negatively significantly affected the corporate financial leverage.


INTRODUCTION
This research investigates the linkage between board characteristics and corporate financial leverage of nonfinancial listed companies in the Colombo Stock Exchange (CSE). After some financial corporate scandals, lots of strategies and methods are taken into the field of corporate governance in order to build up effective governance mechanisms. With the significant developments in the discipline of corporate governance, concern for the board of directors has increased significantly. Financial related activities usually connected with the senior management of the firm. Some large companies have their separate treasury and controlling departments. In order to achieve their financing strategies they made financial plans. Financial planning is a mechanism where, how the organization determines their capital requirements by considering internal and external factors.
This is how an organization framing of financial policies about their working capital requirements and potential investments.
Financial fund forecasting establishes guideline for change and growth in a firm, which concern the major elements of a firm's financial and investment policies without examining the individual component of those policies in details. (Ross, Thompson, Christensen, Westerfield, & Jordan, 1994). In Sri Lankan context board of directors are appointed by the shareholders and they act for the sake of shareholders. Managers of the firm doing what the board of directors dictated, this is called the "Anglo-Saxon model". Corporate governance mechanism of Sri Lanka is significantly differ from the "Anglo-Saxon" system, when considering an ownership perspective and a banking relationship perspective. (Wellalage & Locke, 2012). In Sri Lanka, most of the firms, even those are listed or non-listed companies they are tend to rely on Bankers when they want financial support and they do not consider other sources of capital funding. Some other researchers founded that the level of corporate debt in Sri Lanka is considerably less than developed countries corporate debt levels (Colombage, 2007). Company directors are taking decisions and the decision taken by the directors of the company have a significant impact on capital structure. The combination of debt and equity affects the achievements of the firms and firm's corporate Financial Leverage (Abobakr & Elgiziry, 2015). Most of the corporate governance researches have based on the experience of developed countries such as United States and other European economies.
In developing countries corporate governance mechanism is scarce and therefore, in Sri Lanka, awareness of corporate governance is still limited or even non-exist. Most of Sri Lankan researches highly focused to determined relationship between board characteristics and capital structure decisions in listed manufacturing firms in Sri Lanka. (Wellalage & Locke, 2012), (Achchuthan, Kajananthan, & Sivathaasan, 2013) and some of researchers (Dissanayake & Dissanayake, 2019), (Ajanthan, 2013)  The subsequent sections of the article analyze the theoretical and empirical reviews and developed hypotheses of the researches and then discusses the data, variables, methods, procedures, findings, conclusion and the recommendations are also discuss thereon.

LITREATURE REVIEW AND HYPOTHESES
In the Literature Review, one by one describing, summarizing, objectively evaluating and clarifying of previous research findings and theoretical aspects in order to gather good sense of knowledge.

Theoretical Framework
For the success and getting support for the conclusion, it is important to follow up theories derived by some experts. According to that, following theories are important in explaining Financial Leverage, capital structure and financial performance of the company.

Modigliani-Miller (MM) Theory
The modern corporation has no "owners" instead of that it is an interconnected set of contracts among the several of stakeholders.
They are shareholders, lenders, employees, managers, suppliers & distributors. They all are getting decisions toward the success of the firm. The perfect combination of capital structure financing is critical factor to company success (John & Campbell, 1999 (Ross, Westerfield, & Jaffe, 2005).

Agency costs of debt
The agency costs of debt include overseen and control expenditure in order to ensure that the stakeholders as well as discount at which the bond of more leveraged companies sell do not exploit bondholders. Further, it includes cost arising as a results of loans taken by the company which will reduced the flexibility of operation and investment ability. Agency cost of debt reduces amount of debt including firm's capital structure due to conflict of interest and cost will increase with corporate financial leverage (Shapiro & Balbirer, 2000).

Agency cost of equity
When outside equity increases consequence agency cost of equity rise. There is a trade-off in-between agency cost of equity and agency cost of outside equity. When adding more outside equity capital in to the capital structure management interest over the firm diminish with its stake in the firm.
One extreme, if management owes entire percentage of ownership to having no interest, desire to forth the effort and risk taking in order to maximize shareholder wealth dramatically change.

Resource dependency theory
Resources are always not readily available for obtained and it may be scarce or under the control of uncooperative actors. Resulting of this will create differences in power and access to the resources. To eliminate this resource dependencies, firms develop sound business strategies and internal structures to enhance organizations' bargaining power with regard to resource related transactions.
It includes developing sound supplier relationship, diversification of current business sector and increasing scale of production. Some strategies such as diversification of current production portfolio can mitigate the dependence on other business sectors and it enable to increase its power and leverage. Typically an organization maintain and adjust their business strategies to keep power full relationship with other entities. Increasing uncertainty of resources and level of dependence will increase needs for keep sound relationship with other companies. Resource dependence theory more focuses on functions of board of directors with regard to providing different ways to resources required by the firm. This is demonstrating that the directors of the company providing or secure the required resources to the company by using there linkage with external environment.

Pecking -Order theory
When firm needs to raise new capital, company may faces choice between whether issuing debt capital or equity capital. To reach final conclusion company can depend on agency costs, distress costs or amount of tax benefits. Before the implementation of laws regarding to inside dealing managers unfairly have used their prospect prior to equity issuance. Even today, managers are willingness to issue equity shares after the price of stock has risen since, timing is very important motivation to get decision of equity issuance. Managers must know about company prospect than typical investors. If managers' estimation about company is not better than typical investors does, any attempts may take by the management not succeed. Accordingly, when stocks are undervalue, straightforwardly company can issue debt capital instead of equity capital and further company can issue debt capital even though firm is overvalued. Ultimately if company issue equity shares to the public, investors are thinking that the firm's stock prices are overvalued. Therefore, investors will not buy shares until they realized company do not gain any advantages from equity issuance. End of this no one issue equity and instead of that company issue debt capital and this will cause to increasing financial leverage of the company.
In real world, finance managers must consider tax benefits, agency costs and financial distress cost prior to make their decisions. Firms may issue debt capital up to the certain point and if financial distress become real possible then beyond that company should issue equity capital (Ross, Westerfield, & Jaffe, 2005).

Board Size
Previous researchers have found and suggested that board size and directors appointed to the board from outside are positively related to the total debt ratio and some control variables such as profitability and liquidity are negatively related to the total debt ratio (Sheikh & Wang, 2012

Females on the Board
When the female directors are present on the board, it has been reducing the information asymmetry and managerial missed behaviors (Usman, Farooq, Zhang, Majid Makki, & Khan, 2019) presence of the females on the board changing the behavior of male directors on the board (Ahern & Dittmar, 2011). Gender diversity with positive relationship on financial leverage, agreed resource dependence theory and it indicates when firms have a diversified board characteristics it gives the firms advantages to having external funds and gain tax shield benefits (Monther , 2015). However, higher level of board diversification may result positive relationship with leverage (Lückerath-Rovers, 2013) and again this accepted by (Alvesa & Couto, 2014). Risk averse female directors in the board keep lower level debt ratio compare with other companies that do not have female representation in the board (Harris, 2014). Further, researchers found that having more proportionate of female directors will result lower level of insolvency risk (Wilson & Altanlar, 2009). Accordingly researcher has developed the second hypothesis as, H2: There is a significant negative impact of proportion of females on the board on corporate financial leverage

Non-Executive Directors
Higher proportionate of Non-Executive directors seems have easier access to the loans and therefore, applied a higher level of leverage and higher level of debt.
Accordingly, researchers have developed the fifth hypothesis as, H5: There is a significant positive impact of CEOs duality on corporate financial leverage.

Board Tenure
When board has not effective industry experience, it lead maintaining a lower level of leverage. When board has sound industrial experience lead positive impact to the leverage. (Tarus & Ayabei, 2015). When board of directors have sound experience in the industry they will come across with superior monitoring abilities they are encouraging debt capital to increase firm value. Since, board tenure have positive relationship with corporate financial leverage. This has been confirmed by pecking -Order theory. Accordingly, researchers have developed the last hypothesis as, H6: There is a significant positive impact of board tenure on corporate financial leverage.  (Abobakr & Elgiziry, 2015). Some other researchers also have been taken same independent variable for their study (Elabed & Chokri, 2017). (Tarus & Ayabei, 2015), have been identified Board Size, Board

Before
analysis of the relationship among the board characteristics and corporate financial leverage, it is essential to check the stationery of the data. Levin, Lin, and Chu (2002) test to find out the stationary of the data set. For the purpose of that researcher has used hypothesis as, Null Hypothesis; Panel Data has a unite root.
Alternative Hypothesis; Panel Data has no unit root Less than 0.05 (5%) p-value of the unite root test indicates, the null hypothesis is rejected, while the alternative hypothesis is not rejected. It means that the data series is stationary. Conversely, when the p-value of the unit root test is more than 0.05 (5%), the null hypothesis is accepted. It implies that the alternative hypothesis is rejected. Suggesting that the data series is nonstationary.

Descriptive Analysis
When considering Corporate Financial Leverage that the total debt to assets shows that overall mean of 41.60 % and it indicates Non-Financial Listed Entities in Sri Lankan corporations depend more on equity financing than debt. When specifying the characteristics of the board it shows that Maximum board members are limited to 15 while Minimum members are 4 with average about 8 members. The Independent directors are ranging Minimum 11 percent and Maximum of 100 percent with overall mean value 37.70 % indicating that from the total board members in the board, 37.70 % are independent directors. Non-Executive nonindependent directors are ranging from 0% to 100% with a mean value of 30.81%. Implication is such that the majority of the company board represent Independent Directors than Non-Executive directors. CEO duality records about 10 percent indicating that 10 percent of the sample has the CEO and the board chair as the same person. According to the Code of best practice on corporate governance in Sri Lanka, it is stated that there should be a clear division of responsibilities among the chairman and CEO. 10% is not a significant amount and it indicates most of the companies segregated their authority level of those two possessions. Since no individual can use unfettered power. Female percentage in the board is ranging 0 % to 77.77% and averaging amounting about 8 %. That shows that every public listed company is giving about 8 % opportunity to female directors to represent the board.  According to the above results, the dependent variable (TFL) Pvalues less than 0.05 (5%). Hence, Null Hypothesis is rejected and Alternative Hypothesis is not rejected.
Therefore, the researcher needs to consider the fixed effect regression in order to further analysis of the model.

Regression Analysis.
According to the Best Model of Regression Analysis (Fixed Effect Method) coefficient of determination, R² about 0.88 (88%). R² indicated that the changing of the TFL is decided 88% by the independent variables of this study. According to the regression analysis, p-value of the some variables was less than .05000 and hence null hypothesis were rejected while alternative hypothesis were accepted. Probability value of Nonexecutive directors is lower than 0.0500, (p-value = 0.0260) hence significant to the TFL. P-value of INEX is lower than the 0.05(5%), (P-value = 0.0144) meaning independent Non-Executive directors having a significant impact on the TFL. The BTN is having a significant impact to the TFL (p-value = 0.0371) since the P-value of BTN is lower than the 0.05(5%).

Correlated Random Effects -Hausman Test
Test cross-section random effects   relationship, the fifth hypothesis has been rejected. Further, researchers have identified tangibility is not a significant factor to influence corporate financial leverage and the same thing confirmed by (Vijeyaratnam & Anandasayanan, 2015) with special reference to listed manufacturing companies in Sri Lanka. In this study researchers have identified board tenure has negative impact to the corporate financial leverage and it is statistically significant. Most of the researchers have identified board tenure has a significant positive impact on corporate financial leverage (Tarus & Ayabei, 2015) . Since, the final hypothesis has been rejected.

CONCLUSION
The findings of the research can be applicable to the companies, which are actively trading Nonfinancial listed companies in Colombo stock exchange. The overall results gave the conclusion that the board characteristics played a vital role in determining corporate Financial Leverage of Sri Lankan Non-Financial Listed firms.

RECOMMENDATION
This research paper article may give a border idea about how a company can use corporate governance practices regarding the composition of the board of directors for adding additional value to the entity as a whole.
When a company wants to maintain a lower level of leverage within the organization, it is recommended to appoint directors who have good experience about the industry. Experienced board members may lead to better management strategic decisions and keep lower level of leverage. Ownership structure of an organization is a critical factor to its owners. To raise the funds the company can issue new equity shares and it will result in changing the company ownership structure.
Hence, it has recommended to appoint more independent directors and nonexecutive directors in order to maintain the existing ownership structure. Since, they are more likely to raise funds from external sources rather than issuing new equity shares. Further, study has found female director's representations on the board are at a very lower level. Since, policy makers should take appropriate actions to enhance the level of participation of females to the board.