Attracting institutional shareholders in stock markets has drawn the attention of financial market regulators and researchers. Globally, governments are trying to attract institutional investors by reducing information asymmetry and improving governance and transparency, in order to produce a high-quality financial reporting system. Hence, this study investigates the impact of financial reporting systems quality (FRSQ) on institutional ownership. It uses all non-financial listed companies on Bursa Malaysia over the period 2009–2016. Ordinary Least Square (OLS) regression based on two-way cluster-robust standard errors (firm and year) is used to achieve the objective of the study. The findings show a positive relationship between institutional ownership and FRSQ, suggesting that institutional investors prefer to invest in a firm that has effective FRS. The study differs from previous research in terms of capturing the FRSQ based on a wider set of governance attributes, namely audit committee characteristics (size, independence, diligence and expertise), internal audit function (IAF) cost and sourcing arrangements, and external auditors’ attributes (audit fees, industry auditor specialist, auditor’s reputation and size) that are yet to be examined in either developed or developing countries. It offers insights for regulators in Malaysia and other emerging economies which are in the process of undertaking regulatory reforms in their corporate governance structure. Managers could learn which aspects of corporate governance should be considered to keep their firm in a strong position in terms of its ability to attract institutional investors.
Stakeholder Theory predicts that a firm that addresses stakeholders’ claims improves long-term financial performance and creates value (Freeman, 1984). Williamson (1985) argues that investors expect some safeguards (i.e., incentive realignment, governance structures and regularities of behaviour) when they invest their assets in a corporation. On the other hand, the perceptions of investors could be affected by the adoption of best practice to protect their investments. For example, institutional investors are more likely to invest in firms with a good corporate governance structure (Bushee et al., 2014; McCahery et al., 2016).
As integration is the main goal of global capital markets, institutional shareholders play a significant role in the world economy (Drobetz et al., 2021; Kim et al., 2016). The International Monetary Fund (IMF) reports that the assets under the management of institutional investors increased more than sevenfold from 1990 to around $100 trillion in 2015. Binay (2005) documents that institutional investors are the largest class of investors in the US stock market, responsible for about two-thirds of daily stock trading (Hutchins, 1994). In the same way, there is a rapid growth in the shareholdings of institutional investors in emerging markets (Ashrafi & Muhammad, 2013). For example, Saleh et al. (2010) reported that 51 per cent of the ownership of the ten largest Malaysian listed companies are held by institutional investors. In addition, 94 per cent of the Malaysian listed companies have at least one substantial institutional investor who holds more than 5 per cent share ownership in the firm (Asian-Development-Bank, 2014).
Summary and conclusion
The current study contributes to the ongoing debate about the preferences of institutional investors by providing evidence on the influence of FRSQ on the ownership of institutional investors for Malaysian listed firms (4,207 firm-year observations) during 2009–2016. Specifically, we examine to what extent FRSQ is a determinant of the investment decisions of institutional investors. It is argued that institutional investors prefer to invest in firms that have good monitoring mechanisms, in order to alleviate concerns over their own monitoring costs and to signal a commitment to high-quality financial reporting. The results indicate that institutional investors prefer to invest in firms with good FRSQ, particularly those with effective AC, IAF, and high-quality external auditing. The findings further show that a firm with high-quality FRS could be more attractive to institutional investors. Our findings, along with the findings reported in other concurrent institutional ownership research (e.g., E. A. A. Wahab et al., 2008; Al-Jaifi et al., 2019; Bushee et al., 2014; Chung & Zhang, 2011; McCahery et al., 2016) do support the argument that firms with effective monitoring mechanisms are more preferred by institutional investors. The results are complemented by various tests which support the robustness of the findings of the main model. Specifically, using alternative measures of INSTOW (i.e., domestic, international, private, and public institutional investors), the results indicate that all types of institutional investors are more likely to invest in a firm that has strong FRSQ. Furthermore, our findings remain unchanged after using an alternative measure for FRSQ and addressing the endogeneity issue.