Effects of intellectual capital and corporate governance on performance of Islamic financial institutions
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In recent years, the knowledge management literature has exhibited relatively few new empirical contributions, in contrast to the flurry of such work in the ethical financial sector. The purpose of this research study was three fold. The primary objective was to examine, to what extent, Intellectual Capital (hereafter referred to as IC) and Corporate Governance (hereafter referred to as CG) features affected the performance (both accounting-and market-based) of 64 Islamic Financial Institutions (hereafter referred to as IFIs) operating in ten different geographical locations for the period 2007-2011, while controlling for firm-specific characteristics. The second objective was to analyse the effects of IC and CG features on the performance of the sampled IFIs before and after the financial crisis. Finally, the research aimed to explore the effects of IC, CG and firm-specific characteristics on the performance of fully-fledged Islamic banks (hereafter referred to as FFIBs) and Islamic Shariah-windows (hereafter referred to as Windows). The study used the quantitative research method in which secondary data, comprising of the annual/financial statements of the selected IFIs, was used to extract data. The population of this study was IFIs both FFIBs and Windows operating worldwide. This study’s sample of IFIs was selected based on the Bankscope database while data, related to the governance-specific variables such as board-size, non-executive directors, role duality, Shariah supervisory board, and size of the audit committee, was collected by hand using the annual reports of each IFI. Value Added Intellectual Coefficient (hereafter referred to as VAIC) was used as a methodological tool to analyse the data. The following are the key findings of the research. Firstly, IC was associated positively with the sampled IFIs’ accounting and market-based performance. Secondly, IC was associated with positively with the sampled IFIs’ accounting and market-based performance at all times i.e. in the pre- and post-crisis periods. Hence, IC was the main defence line for the sampled IFIs. Thirdly, the classical model of CG did not seem to explain the sampled IFIs’ performance. Finally, this study reports that the Islamic finance industry is not homogeneous since not all the financial institutions offering Shariah compliant products are FFIBs. They can be divided further into FFIBs and Windows, in which FFIBs have relatively stronger market valuation as compared to Windows. This study makes a contribution to the existing literature on IC, precisely to IC performance literature, by providing the evidence about the role of IC in determining the performance of the ethical banking model. Equally, this study contributes to the literature on Islamic banking and finance as well as the performance of IFIs by measuring the effects of intangible resources on performance. Likewise, the study contributes to the literature on IC and corporate governance by combining both concepts in one study. Another contribution of this study is that it considered IC and CG performance in the pre- and post-financial crisis periods; this provides a novel insight into the role knowledge resources i.e. IC in times of financial meltdown. Finally, it points out that the Islamic finance industry is not homogeneous as such since not all IFIs are FFIBs. Instead, there exists a distinction within the industry. Besides the contribution to the literature, this research is of interest to policy makers and, on a practical level, Islamic banking and finance regulators may use the insights, provided by this study, as a basis for further discussion in determining the role of IC and CG-features in a Shariah-complaint banking model. Rating agencies may use this information when evaluating the real value of an IFI. Likewise, IFIs can use this information to identify and have a better understanding of their competitive advantage in the market. Finally, investors may consider this information while making their investment decisions. The study was not free from constraints and limitations. The main limitation lay in its methodological tool (Value Added Intellectual Coefficient, VAIC) for measuring IC. The VAIC model was challenged by many studies (see Chang, 2007; Ståhle et al., 2011). Nonetheless, there exists no single method of measuring IC. The VAIC method uses quantitative data and, therefore, the use of VAIC is justified because this study used secondary data and, hence, was quantitative in nature. Arguably, this was reliable and validated since it was drawn from the audited data disclosed in the annual reports/financial statements of the selected IFIs. The study offers a novel insight into the ethical banking business model and draws attention to the increasingly important role that knowledge resources i.e. IC play in it. The study calls for a radical departure from the existing orthodox CG model, particularly for cohesive organisations such as Islamic banks, which are based on trust.