Corporate governance and banking

performance: the mediating role of

intellectual capital among OIC countries
Ejaz Aslam and Razali Haron

Abstract Ejaz Aslam is based at the

Purpose – The existing literature asserted that the Islamic banking industry progress significantly, but it School of Islamic
has increasingly found asset deficient which assaulted the performance of Islamic banks (IBs). The aim of Economics Banking and
this study to examine the mediating role of intellectual capital (IC) on the relationship between corporate Finance (SIEBF), Minhaj
governance (CG) mechanisms and IBs performance is examined (ATO, NPM). University, Lahore,
Design/methodology/approach – A panel sample of 129 IBs is drawn from the 29 organisation of Pakistan. Razali Haron is
Islamic cooperation (OIC) countries from 2008 to 2017. Two-step system generalized method of based at the IIUM Institute
moments (2SYS-GMM) was used to account for the unobserved endogeneity and heteroscedasticity of Islamic Banking and
problem. Finance (IIiBF), IIUM, Kuala
Findings – The empirical findings demonstrate that there is a significant impact of the CG mechanism on Lumpur, Malaysia.
IC. Moreover, the empirical findings indicate that CG has a direct influence on banking performance but it
affects indirectly through IC. IC also appears to have a mediation role in the relationship between the CG
mechanism and the performance of IBs.
Research limitations/implications – As the empirical research on IC from CG point of view in Islamic
banking is generally new in the banking literature, the output of this research will contribute to the building
up of empirical framework and practices regarding IC in the Islamic banking industry by using the
resource-based theory as a leading theory and agency theory as a sub theory. It is anticipated that this
study provided a superior comprehensive discussion of the IC in IBs across OIC countries which
discovers the CG mechanism to influence the IC to improve banking performance.
Practical implications – This study offers useful insights to the regulators and practitioners to draw the
rules and regulations in improving the CG mechanism and the effectiveness of internal controls by
acknowledging the importance of IC in Islamic banking institutions. Particularly, the findings of this study
may be of benefit to bankers to efficiently use the IC as a premise to design new and creative strategies to
achieve a competitive advantage in the banking industry.
Originality/value – The study is unique in its nature because it presents a successful model for IBs to
concentrate more on the role of IC in enhancing banking performance, which might be used by the banks
to rearrange the roles within CG, to place their priorities regarding the internal governance system and
financial plans for competency enhancement.
Keywords Corporate governance, Intellectual capital, OIC countries, 2SYS-GMM,
Islamic bank performance
Paper type Research paper
Received 3 August 2020
Revised 13 September 2020
12 October 2020
1. Introduction Accepted 13 October 2020
Islamic banking is the fastest-growing segment of the global financial industry. According to This research is self-funded.
the World Islamic Banking Competitiveness Report (2018–2019), the growth of Islamic We are grateful to Dr Anwar for
assistance within the model
banking and finance is at a rate of 15–20% and the total assets held by the Islamic banks section and Dr Naveed, who
moderated this paper and, in
(IBs) have accumulated to US$2.19 trillion at the end of 2018. Based on the contemporary that line, improved the
literally, sources the Islamic finance industry remained stable (Hussien et al., 2019), efficient manuscript significantly.

DOI 10.1108/CG-08-2020-0312 VOL. 21 NO. 1 2021, pp. 111-136, © Emerald Publishing Limited, ISSN 1472-0701 j CORPORATE GOVERNANCE j PAGE 111
 (Al-Khazali et al., 2014; Bourkhis and Nabi, 2013; Rosman et al., 2014), maintained better
asset quality (Mwamba et al., 2017) and has lower loan default rates (Mollah et al., 2017).
In the past few decades, the world is experiencing substantial growth in Islamic financial
institutions, especially in Muslim countries. The financial stability of Islamic financial
institutions (IFIs) and the recent global financial crises 2007/2008 have attracted the
attention of the world towards the IFIs. These institutions are less susceptible to insolvency
due to their unique structure of investment and contracts. Rosman et al. (2014) argue that
Islamic financial institutions outperform the conventional banks during the financial crisis
due to their unique activity and funding structures such as risk-sharing principles and real
economic transactions backed by tangible assets (Ajili and Bouri, 2018).
The subprime crisis 2007/2008 has instigated many issues with lack of governance and
intellectual capital (IC) deficiency being one of the major issues (Chazi et al., 2018; Mollah
et al., 2017; Nawaz, 2017). However, IBs are prospering by showing strong resilience
during the financial crises. Even though IBs appear to be more resilient than their
conventional counterpart, they need to be more cautious and must focus on a good
governance mechanism to avoid these types of uncertain shocks. Therefore, a good
corporate governance (CG) structure has a significant role in banking operations as it helps
these IBs to withstand external shocks, including exterior financial distress (Berger et al.,
2016). Quality board members structures a good CG, discipline, accountability, fairness,
independence, responsibility, transparency, social responsibility and shareholder rights
(AlSagr et al., 2018; Farag et al., 2018; Zagorchev and Gao, 2015).
Moreover, continuous growth in IFIs allows them to be competitive in the industry. They too
need to be more focused on their IC sources because the organizations which have high
intellectual resources contribute greatly to the dynamic efficiency of the economic system
(Nawaz, 2019). Al-Musalli and Ismail (2012) stated that knowledge-based IC is a primary
factor as compared to the financial and physical capital for value creation and to achieve
competitive advantage for the organizations. Today, the world financial economy is
knowledge-based (Rochmadhona et al., 2018), so the organizations have to create value
through intangible sources rather than only depend on physical sources (Duho and
Onumah, 2019; Khairiyansyah and Vebtasvili, 2018; Tahir et al., 2018).
Currently, organizations are trying to surge their IC sources to obtain a competitive advantage
through the extension of trained humans as unique assets for performance enhancement (Basyith,
2016; Duho and Onumah, 2019; Nawaz, 2017; Rochmadhona et al., 2018). In the financial sector,
banks generally require a massive number of relational capital and human capital for durability
(Khairiyansyah and Vebtasvili, 2018; Nawaz, 2019) as this is a highly skill-based, knowledge-
intensive and relationship-rich industry (Alhassan and Asare, 2016). Thus, a typical operation of
the banking sector will involve direct customer interactions for better information on new products
and services (Arifin, 2016; Rochmadhona et al., 2018). Furthermore, the financial industry, may it
be locally or globally, demands the board to be more efficient in using their tangible and intangible
resources to enhance wealth. Thus, IC is viewed as one of the significant assets for banks to
increase their yield (Grove et al., 2011; Jetmiko, 2018; Nawaz, 2019).
CG and IC are associated with each other due to their significant role to attain the objective
of the organization, and it assures survival and growth (Saeed et al., 2015). The board of
directors in banks is liable to constitute strategies to use human and structural resources
efficiently to improve banking performance (Nawaz, 2017). Thus, the combination of IC and
CG has become a keystone for IBs to generate good profit and sustainable growth (Basyith,
2016; Nawaz, 2019). Henceforth, the current study uses IC as a mediator between CG and
the performance of the Islamic banking Industry.
The remaining of this paper has proceeded as follows. Section 2 addresses the literature review
and develops the hypotheses. Section 3 provides a detailed description of data collection and
the methodological approach. Section 4 provides detail of empirical analyses and related

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discussions. Section 5 concludes the study, which contains recommendations and prospective
avenues for future research.

2. Literature review and hypothesis development

For this study, firstly, we provide a brief survey of related studies in CG, IC and banking
performance. Afterward, we develop theoretical arguments for the association between CG
mechanism and IC, CG and banking performance, IC and banking efficiency and the
mediating role of IC in the relationship between CG and banking performance
subsequently.

2.1 Corporate governance mechanism and intellectual capital

Corporate governance is a way to lead a corporation towards success and resolve the
disappointment on the part of the management originating from the misuse of CG codes
(Aslam et al., 2019; Aslam and Haron, 2020b). In this way, organizations must contribute,
collect and set useful governance framework that is controlled by a knowledge-based
system. Therefore, the knowledge-based framework allows the nature of IC to exist
internally and externally and is controllable by the organization. Therefore, sound CG
practices along with IC assets will prosper via skillful preparation, development and
enhance the performance of the organizations (Purnomo, 2018).
2.1.1 Board size. Board size is the total number of directors on the board. Prior studies were
conducted to examine the influence of board size on banking performance (Aslam et al.,
2019) and IC (Appuhami and Bhuyan, 2015; Faisal et al., 2016). The existing literature is still
vague regarding the appropriate board size for an organization. Therefore, the study of
Haris et al. (2019) is in favour of small board size by arguing that a smaller board can
improve the performance by efficient controlling and monitoring processes in an
organization. On the other side, some studies claimed that larger boards have a pool of
diversified skills that can enhance board monitoring capacity in making appropriate
decisions (Appuhami and Bhuyan, 2015). Several studies examined the relationship
between board size and IC (Appuhami and Bhuyan, 2015; Faisal et al., 2016). Some studies
documented a negative relationship between board size and IC (Ahmed and Ghazali, 2013)
while some found a positive association between the two (Appuhami and Bhuyan, 2015;
Faisal et al., 2016), hence its direction is not clear specifically in IBs. Along with this
discussion, we believe that large board size enhances the value of IC. Therefore, the
present study formulates the following hypothesis:
H 1.1. Large board size is positively associated with the IC of IBs.
2.1.2 Board independence. Board qualities are additionally portrayed by non-executive
directors placed on the board. As indicated by Aslam, Kalim and Fizza (2019), non-
executive directors refer to board independence. Farag et al. (2018) stated that non-
executive directors contribute to the CG process by reviewing the performance of
management and ensure that management actions comply with the interest of stakeholders.
They also help in solving conflicts between management and owners’ interests (Haris et al.,
2019). There are several studies, which found a positive association between board
independence and IC (Aslam and Haron, 2020b; Appuhami and Bhuyan, 2015; Faisal et al.,
2016). Based on the above discussion, the present study draws the following hypothesis:
H 1.2. A higher number of non-executive directors is positively associated with the IC of
IBs.
2.1.3 CEO duality. Historically CEO duality is universal in many countries, but after the
subprime crises, OECD calls for a separation of CEOs and chairman duties (Appuhami and
Bhuyan, 2015). While in some countries, the duality still exists. Nomran et al. (2018) applied
the tournament theory and stated that duality in an organization enhances performance. In

VOL. 21 NO. 1 2021 j CORPORATE GOVERNANCE j PAGE 113

 contrast, stakeholder theory suggests that an independent chairperson can play a better
role in influencing and endorsing disclosure decisions in fulfilling their independent
monitoring role (Ahmed and Ghazali, 2013). While some studies find a positive and
significant relationship between duality and IC (Al-Malkawi and Pillai, 2018; Almutairi and
Quttainah, 2017; Grassa and Matoussi, 2014b; Nawaz, 2017; Vo and Nguyen, 2014), some
other studies record a negative relationship (Bukair and Abdul Rahman, 2015; Farag et al.,
2018; Mollah et al., 2017). Given the mixed findings of prior studies, this study develops the
following hypothesis:
H 1.3. CEO duality is positively associated with the IC of IBs.
2.1.4 Shariah board. As part of the CG framework in IBs, the Shariah board is essential in
Islamic finance in building and maintaining the confidence of the shareholders with the
assurance that all the transactions, practices and activities comply with the Shariah (Islamic
law) principles. Shariah board responsibilities are now becoming more diverse and
advance, parallel with the development of the Islamic finance industry worldwide (Aslam
and Haron, 2020a; Nomran and Haron, 2019). Past literature finds a positive and significant
relationship between Shariah board and the performance of IBs in Pakistan (Hassan et al.,
2017), in Malaysia (Nomran et al., 2018), in South Asia (Khan et al., 2017), in 15 different
countries (Farag et al., 2018) and in 25 different countries (Mollah and Zaman, 2015). So, for
this purpose, the present study develops the following hypothesis:
H 1.4. A higher number of Shariah board members is positively associated with the IC of
IBs.
2.1.5 Audit committee. An audit committee is one of the central committees of the board. It
plays a significant role in the structure of CG, specifically in the enhancement of the
financial reporting process (Appuhami and Bhuyan, 2015) and inboard effectiveness (Chou
and Buchdadi, 2017). The purpose of the audit committee to monitor the reporting process
has been widely discussed in the literature (Chou and Buchdadi, 2017; Islam and Mohd,
2020). While some studies find a positive and significant relationship (Aslam and Haron,
2020b; Buallay, 2018; Li et al., 2012), some see a negative (Alizadeh et al., 2014) while few
studies find an insignificant relationship (Appuhami and Bhuyan, 2015) between the audit
committee and IC. Along with the above discussion, we believe that the large size of an
audit committee is positively associated with IC. Thus, the current study proposes the
following hypothesis to explore this relationship in IBs:
H 1.5. A higher number of an audit committee member is positively associated with the IC
of IBs.

2.2 Corporate governance mechanism and banking performance

Over the past two decades, banks’ CG receives the attention of scholars both in the
developing and developed countries (Farag et al., 2018; Mollah et al., 2017). Several recent
studies documented small, independent and well-diversified board plays a significant role
to enhance the banking performance (Abdulazeez et al., 2019; Chazi et al., 2018;
Mohammed, 2019; Shabbir et al., 2020). Moreover, Grove et al. (2011) stated that a well-
diversified board structure effectively and efficiently monitors the CEO’s and managers’
decisions that will help to reduce the agency cost and enhance the wealth of shareholders.
Thus, an efficient board structure and right decision-making significantly affect the quality of
banks’ management and productivity (Aslam et al., 2020; Detthamrong et al., 2017;
Wahyudin and Solikhah, 2017). In this short review, the present study initially analyses a set
of board characteristics (board size, board independence, CEO duality, audit committee
and Shariah board) that are acknowledged to impact the performance of IBs.
2.2.1 Board size. Hussien et al. (2019) stated that boards provide advice, guidance and
ability, authenticity and reputation, a channel for discussing data with outer associations

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and special access to assurance or provision from significant factors outside the
organizations. In this regard, Grassa and Matoussi (2014a) argued that a larger board has a
higher capability of monitoring the top management, decision-making, asset allocation and
increases the wealth of an organization. On the other hand, Haris et al. (2019) observed that
a larger board is less compelled to keep the management. This is because of the free-riding
issues among the directors in an organization. Furthermore, a larger board has a problem
with coordination and correspondence and take more time in decision-making. On the other
side, researchers contended that a smaller board is more efficient and capable to make
optimum decisions in enhancing the organization’s strength (Faisal et al., 2016).
In light of these considerations, Grove et al. (2011) documented that banks can get benefits
from larger boards in terms of profit in a specific way. Similarly, some researchers find that a
larger board enhances the performance of the banks (Aslam et al., 2019; Hassan et al.,
2017). In contrast, Al-Malkawi and Pillai (2018) showed the negative influence of the board,
affirming the contention that the larger board may prompt issues with regard to free-riders,
choices that are tedious and expanding agency costs. Hence, empirical evidence, though,
is mixed (Aslam et al., 2020; AlSagr et al., 2018; Farag et al., 2018). Therefore, based on the
resource-based theory and the findings of prior studies, the present study proposes the
following hypotheses:
H 2.1: Large board size has a positive influence on the performance of IBs.
2.2.2 Board independence. The board qualities are additionally portrayed by the non-
executive directors placed on the board. As indicated by Aslam et al. (2019), non-executive
directors refer to board independence in the total board members. According to the
resource dependence theory, external sources offer channels to the organization to improve
its performance. In this regard, Khan et al. (2017) stated that non-executive directors with
more profound abilities, in-depth knowledge and vastly diversified experience act as assets
to add value to the organization to improve their performance. Thus, in the light of agency
and resource dependence theories, several studies posit a positive relationship between
board independence and banking performance (Farag et al., 2018; Hussien et al., 2019;
Mohammad et al., 2019). Consistent with the resource dependence theory, board
independence is expected to improve banking performance. Thus, the present study
formulates the following hypotheses:
H 2.2: A higher number of non-executive directors has a greater influence on the
performance of IBs.
2.2.3 CEO duality. There is a significant trait of the board regarding CEO duality. There has
been a broad discussion among the researchers on the dual roles of CEO and chairman
and its effects on performance. However, it remains inconclusive. On one hand, the
arguments of agency theory are against the CEO duality because it debilitates the board
monitoring powers and increases the agency cost, as well as the risks. In this regard, Al-
Malkawi and Pillai (2018) stated that duality empowers CEOs to use their capacity for their
benefits that can harm shareholders’ value. On the other hand, according to the
stewardship theory, a combined leadership structure at the board level can reduce the
information cost and enhance the solidity and as a result, improves the organization’s
performance and effectiveness of management leadership (Vo and Nguyen, 2014). In this
regard, Nomran et al. (2018) found that duality improves banking performance. While
Detthamrong et al. (2017) and Nawaz (2017) claimed that CEO duality lowers bank
performance. Given the mixed findings of prior studies, this study tests the tournament
theory, which means, CEO duality enhances banking efficiency. This is because duality
increases the power of the CEO and with the undue pressure of the chairman to take the
best decision for the interest of the bank. Therefore, this study proposes the following
hypotheses:
H 2.3: CEO duality is positively associated with the performance of IBs.

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 2.2.4 Shariah board. Shariah board is an independent body of IBs comprising of Shariah
scholars who have good knowledge in Fiqh Muamalat (Islamic jurisprudence on
commercial transactions). They are appointed by the recommendation of the board of
directors of the bank, but they work independently (Aslam and Haron, 2020a; Hassan et al.,
2017). Shariah board is primarily responsible for supporting financial products and service
and screening operations and activities on behalf of shareholders and stakeholders to
ensure all operations comply with the Shariah law. In short, the Shariah board is considered
as an additional layer of CG to complement the oversight role of the board of directors
(Mollah and Zaman, 2015; Nomran et al., 2019). Moreover, the Shariah board plays a
significant role in not just guaranteeing the financing contracts is in compliance with Shariah
but additionally informing the board of directors on the risk aspects of the contracts
because Islam forbids pointless and inordinate risk-taking (Mollah et al., 2017; Nomran
et al., 2018). According to the resource dependence theory, the organization requires
assets that they can get from the environment wherein they work to endure (Khan et al.,
2017). Thus, the large size of the Shariah board has vast experience and skills which lead to
a better interpretation of Islamic banking products and service and consequently leads to
better performance (Bukair and Abdul Rahman, 2015). Therefore, based on the resource
dependence theory and the findings of prior studies, the present study developed the
following hypothesis:
H 2.5: A higher number of Shariah board members are positively associated with the
performance of IBs.
2.2.5 Audit committee. The size of the audit committee is one characteristic that has been
widely analysed in the literature (Al-Malkawi and Pillai, 2018). According to the agency
theory, the conflicts among the management and shareholders often prompt self-serving
interest in opportunistic management behaviour and deny the interest of shareholders
(Khan et al., 2017). Meanwhile, the resource dependence theory contends that a larger
audit committee is increasingly compelling for organizational performance (Hussien et al.,
2019). Several studies examined the audit committee’s role as a CG mechanism and impact
on performance (AlSagr et al., 2018; Grove et al., 2011). Moreover, the size of the audit
committee helps in monitoring the organization’s efficiency, in the way that a larger audit
committee has diversified skills and expertise, so it enhances their effectiveness to screen
the board executives (Al-Malkawi and Pillai, 2018; Hussien et al., 2019). AlSagr et al. (2018)
documented an insignificant relationship between the audit committee and performance.
Moreover, (Grove et al., 2011) found the audit committee decreases the performance of
banks. In contrast, several studies found a positive relationship in the developed nations
(Al-Malkawi and Pillai, 2018; Hussien et al., 2019). We expect that higher member in audit
committee enhances the bank performance. So the present study proposes the following
hypotheses:
H 2.6: A higher number of an audit committee member is positively associated with the
performance of IBs.

2.3 Intellectual capital and banking performance

Intellectual capital is the dynamic set of resources, which creates a competitive advantage
for the organization to improve its performance (Xu and Wang, 2018). The components of
the IC were firstly developed by Edvinsson and Malone (1997). This model consists of four
main elements: human, process, customer and development (Abdul Rashid et al., 2012).
Later on, it is classified further into an investor, supplier and location as external factors for
the capital (Pearse, 2009). In early studies, human capital and structural capital received
attention to creating organization value (Alhassan and Asare, 2016; Syah Aji and Kurniasih,
2015). Since the past two decades, several scholars have attained a consensus that human
capital, structural capital and relational capital are the main components of IC (Aslam et al.,
2016; Aslam and Haron, 2020b; Buallay, 2019; Haris et al., 2019; Jamei, 2017; Jetmiko,

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2018; Khairiyansyah and Vebtasvili, 2018; Nawaz, 2019; Rochmadhona et al., 2018; Tahir
et al., 2018; Widowati and Pradono, 2017). Thus, the current study used the (Pulic, 2000)
model to account for the IC.

2.3.1 Human capital efficiency. Human capital efficiency is the primary and significant
component of IC that helps the organizations to sustain their competitive advantage
(Alhassan and Asare, 2016; Duho and Onumah, 2019). Zeghal and Maaloul (2010) stated
that human capital efficiency represents knowledge, experience, education and the skills of
employees which they seize when they depart from the organization. According to Hamdan
(2018), human capital efficiency is recognized as the main driver for national economic
activity, competitiveness and prosperity. Hence, it is directly corresponding to the
propensity to service innovativeness to satisfy customers’ needs and improve the
organization’s value. Alhassan and Asare (2016) found that higher productivity and
creativity can be enhanced by investing in employees’ training. Studies such as Jetmiko
(2018) and Hashim et al. (2015) in Malaysia, Widowati and Pradono (2017) in Indonesia and
Alhassan and Asare (2016) in Africa found a positive relationship between human capital
efficiency and firm performance. Furthermore, Widowati and Pradono (2017) suggested
that bankers who control their skills and capabilities in terms of business can increase the
value of banks. Based on the human capital efficiency relationship with performance, the
following hypothesis is formulated:
H 3.1: IBs with greater human capital efficiency gain higher performance.

2.3.2 Structural capital efficiency. Structural capital efficiency is the knowledge that remains
with the organization even though after employees leaving the organization (Jetmiko, 2018).
Abdulsalam et al. (2011) stated that structural capital efficiency is the result of human
capital’s past performances. Hence, Nawaz (2017) determined that structural capital
efficiency is the non-human knowledge which includes the organizational charts,
databases, process manuals, routines, strategies and other things of which value is higher
than its material value. Aslam et al. (2016) studied Australian banks and found that
structural capital efficiency has less influence than the other determinants of IC efficiency. In
contrast, Khalique et al. (2011) observed that structural capital efficiency is positively
related to performance. Similarly, several prominent studies found that structural capital
efficiency is significantly associated with performance (Haris et al., 2019; Jetmiko, 2018;
Nawaz, 2017; Poh et al., 2018; Rochmadhona et al., 2018). Based on the results in different
studies, as discussed above, the following hypothesis is:
H 3.2: IBs with greater structural capital efficiency gain higher performance.

2.3.3 Relational capital efficiency. The relational capital efficiency grants the infrastructure
and necessary resources to human capital and structural capital efficiency with the best
utilization of resources to increase the overall performance of the organization (Widowati
and Pradono, 2017). Moreover, organizations are creating the best value by using the best
combination of human capital efficiency with structural capital efficiency and relational
capital efficiency (Basyith, 2016). Nowadays, the banking industry largely relies on stable
and long-lasting relationships with their clients and this can be made possible with the
numbers of employees in the organization (Rochmadhona et al., 2018). There are several
studies which observed that relational capital efficiency as the most influential element of
the IC efficiency that helps to create higher value for the organizations in a competitive
environment (Aslam et al., 2016; Rochmadhona et al., 2018). Besides, the study of
Rochmadhona et al. (2018) identified that organization survival depends on its ability to
innovate and learn customer service and organizational intelligence. Based on the above
discussion, the hypothesis is stated as follows:
H 3.3: IBs with greater relational capital efficiency gain higher performance.

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 2.4 The mediating effect of intellectual capital on corporate governance mechanism
and banking performance
Today the world becomes globalized, and the business environment becomes more
competitive towards realizing the business goals of the firms, hence the role of IC is
becoming more crucial (Nawaz, 2019). Resource dependence theory stated that the
effective and efficient use of tangible and intangible assets would lead to better corporate
performance (Rochmadhona et al., 2018). Adding to this, IC is also treated as the lifeblood
of high-tech and knowledge-based organizations (Hashim et al., 2015). The banking sector
is considered a highly knowledge-intensive segment, so there is a great need to nourish the
applications of IC rigorously in this sector (Aruppalal et al., 2015; Haris et al., 2019; Jetmiko,
2018; Nawaz, 2019; Rochmadhona et al., 2018). Hence, it is also perceived as the most
vital asset for the accomplishment of any organization (Basyith, 2016; Khairiyansyah and
Vebtasvili, 2018; Mohapatra et al., 2019; Sharabati et al., 2013).
Corporate governance is the way to lead the corporation towards success and resolve the
disappointment on the part of the management that originates from the misuse of the CG
codes. In this way, the corporations must contribute, collect and set a useful governance
framework that is controlled by the knowledge-based system. Therefore, the knowledge-
based framework allows the nature of IC efficiency to exist internally and externally, which is
controllable by the corporations. So, sound CG and legitimate management will benefit from
the skillful preparation, development and preservation of the IC resources. IC is regarded
as an essential part of making and supporting the development of the corporation.
According to Faisal et al. (2016), IC efficiency cannot present a competitive advantage
individually without legitimate management and deployment. Thus, the interaction between
CG and IC plays a very significant role for corporations to generate good profit and
valuation. Moreover, Chahal and Bakshi (2015) said that CG is responsible for creating,
developing and leveraging the IC residing in the people, structures and processes of the
firm.
Several studies are arguing the role of CG in effectively deploying, protecting and retaining
IC in an organization (Al-Musali and Ku Ismail, 2015; Nawaz, 2017, 2019). Basyith (2016)
found that a combination of CG and IC affects the performance of Indonesian firms and a
good CG structure helps the firms to generate good profit. Arifin (2016) also found a
significant and positive relationship between CG and IC with banking performance. Thus,
some studies contended that effective CG enhances the value of IC and disclosure
information and ultimately affects corporate performance (Aslam et al., 2016; Basyith, 2016;
Haris et al., 2019; Jamei, 2017; Saeed et al., 2015). Thus, the management of IC needed
noteworthy advancement, observations and adaptability in the necessary leadership
process (Andreeva and Garanina, 2017), which are more likely to exist in a board with
greater diversity (Abdullah and Sofian, 2012; Arifin, 2016). Therefore, based on the
dependence theory and the findings of prior studies, the present study developed the
following hypotheses:
H 4.1: There is a mediating effect of human capital efficiency on the relationship between
CG measures and IBs’ performance.
H 4.2: There is a mediating effect of structural capital efficiency on the relationship
between CG measures and IBs’ performance.
H 4.3: There is a mediating effect of relational capital efficiency on the relationship
between CG measures and IBs’ performance.
Most prior literature discusses the relationship between CG and banking performance
(AlSagr et al., 2018; Arifin, 2016; Hussain et al., 2020; Khan et al., 2017; Nguyen et al.,
2014) and IC (Alhassan and Asare, 2016; Haris et al., 2019; Jetmiko, 2018; Nawaz, 2017)
and some of them discuss the determinants of CG (Farag et al., 2018; Najwa et al., 2019)
separately. There are limited studies that are talking about the role of IC in the relationship

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between CG and performance (Basyith, 2016; Nawaz, 2017, 2019; Saeed et al., 2015).
These studies incorporate the IC as an independent and control variable. Hence, the study
of Saeed et al. (2015) theoretically tries to prove the mediating effect of IC efficiency
between CG and firm performance. Therefore, the current research intends to fill the gap in
the literature by examining the intermediating role of IC between the relationship between
CG and Islamic banking performance in Islamic countries. Hence, we believe that Islamic
financial institutions (IFIs) provide a suitable platform for such an investigation given that IC
is the most important and critical asset for the banks and given the general distraction for
the IFIs with good CG. Thus, concentrating on Islamic banking, we contend that the
absence of a good CG structure can lead to the failure to attract and hold efficient IC in the
banking sector. Thus, the current study empirically examines the importance of CG and IC
in the Islamic banking industry of organisation of Islamic cooperation (OIC) countries.

3. Research methodology
3.1 Data collection and methods
The sample of this study consists of a balanced data set of 1,290 observations
corresponding to 129 Islamic commercial banks from 29 countries of the Middle East, South
Asia and Southeast Asia regions and the detail is shown in Table 1. The data collected for
the study covers a period of 10 years, from 2008–2017. This period is selected due to the
starting practices of the IBs in most of the Muslim countries. The sample frame structure is
confined to full-fledged IBs and Islamic windows which provide complete information on the
variables.

Table 1 Sample of Islamic banks in OIC countries

Numbers Countries No. of IBs

1 Azerbaijan 1
2 Bahrain 14
3 Bangladesh 5
4 Brunei Darussalam 3
5 Egypt 3
6 Libya 2
7 Indonesia 8
8 Iran (Islamic Republic of Iran) 3
9 Iraq 7
10 Jordan 7
11 Kuwait 2
12 Kyrgyzstan 1
13 Lebanon 4
14 Malaysia 15
15 Maldives 2
16 Mauritania 1
17 Nigeria 1
18 Oman 2
19 Pakistan 9
20 Qatar 6
21 Saudi Arabia 5
22 Senegal 1
23 Sudan 9
24 Syrian Arab Republic 1
25 Tunisia 1
26 United Arab Emirates 7
27 Turkey 4
28 West Bank and Gaza 2
29 Yemen 3
Total Sample of Islamic Banks 129

VOL. 21 NO. 1 2021 j CORPORATE GOVERNANCE j PAGE 119

 The data on CG was manually collected from the bank’s annual reports, and the financial
data was obtained from the international database Bank Scope. All the yearly statements
were available on the bank’s official websites from 2008 to 2017. Finally, all the data is
collected in US$millions. Several prior studies also used this type of data for this type of
research (Rosman et al., 2014; Sharabati et al., 2013).

3.2 Model specification

In this section, the study discusses the methods for data analysis to test the hypotheses of this
study and to address the research objectives. For this purpose, the two-step system
generalized method of moments (2SYS-GMM) estimator is constructed to measure the
sensitivity of banking performance. To verify the direction of causality and to control
the endogeneity bias, the lagged value of regressor is included and the model accounted for
the heteroscedasticity problem (Andries, et al., 2018; Mollah et al., 2017; Nomran et al., 2018).
Besides, for each projected coefficient, the Hansen test for the instrument’s validity and first and
second-order serial correlation tests are conducted. The null hypothesis accepted for the
Hansen test that connotes instruments are valid, and instruments do not have a correlation
between them and the error term is also different for all models. Additionally, a high p-value of
AR (1) and AR (2) presents that the disturbances are not serially correlated in the models.
We applied the Baron and Kenny (1986) method to assess the mediation effect of IC on the
relationship between CG and Islamic banking performance. According to Baron and Kenny
(1986), firstly, we evaluate the impact of CG (independent) on IC (mediator), by estimating series
of 2SYS-GMM regressions of IC on CG, banking performance and a set of control variables.
To test for H1.1–H1.3, which predict the effect of the CG on IC, we estimate a series of
Equation (1) using 2SYS-GMM regressions as follows:

X
5 X
7
HCEit ¼ a0 þ HCEit1 þ B1 CGit þ B2 Xit þ « it 1.1
k L

X
5 X
7
SCEit ¼ a0 þ SCEit1 þ B1 CGit þ B2 Xit þ « it 1.2
k L

X
5 X
7
RCEit ¼ a0 þ RCEit1 þ B1 CGit þ B2 Xit þ « it 1.3
k L

In model 1.1 to 1.3 HCE, SCE, RCE refers to human capital efficiency, structural capital
efficiency and relational capital efficiency, respectively, for bank i at time t. CG is a vector of
IBs’ CG variables (BS- Board Size, BIND-Board Independence, CD – CEO Duality, AUDC –
Audit Committee, SB – Shariah Board). X is a vector of a set of control variables (GEND-
Gender, BM-Board Meetings, TA-Total Asset, LEV-Debt to Equity ratio, INF-Inflation, GDP-
economic growth and FOWN-Foreign Ownership) and « refers to the error term.
Secondly, we investigate the impact of CG on banking efficiency and we estimate a series
of 2SYS-GMM regressions of banking performance on CG and a set of control variables.
To test H2.1–H2.5, which predict the effect of the CG on banking performance, we estimate
a series of Equation (2) using 2SYS-GMM regressions as follows:

X
5 X
7
ATOit ¼ a0 þ ATOit1 þ B1 CGit þ B2 Xit þ « it 2.1
k L

PAGE 120 j CORPORATE GOVERNANCE j VOL. 21 NO. 1 2021

 X
5 X
7
NPMit ¼ a0 þ NPMit1 þ B1 CGit þ B2 Xit þ « it 2.2
k L

In models 2.1 and 2.2, ATO refers to asset turnover and NPM refers to net profit margin for
bank i at time t. CG is a vector of IBs’ CG variables (BS, BIND, CD, AUDC, SB). X is a vector
of a set of control variables (GEND, BM, TA, DE, INF, GDP and FOWN) and « refers to the
error term.
Thirdly, we evaluate the impact of IC on banking performance, and we estimate a series of
2SYS-GMM regressions of banking performance on IC and a set of control variables.
To test H3.1–H3.3, which predict the effect of IC on banking performance, we estimate a
series of Equation (3) using 2SYS-GMM regressions as follows:

X
3 X
5
ATOit ¼ a0 þ ATOit1 þ B1 ICit þ B2 Xit þ « it 3.1
M L

X
3 X
5
NPMit ¼ a0 þ NPMit1 þ B1 ICit þ B2 Xit þ « it 3.2
M L

In models 3.1 and 3.2, where ATO refers to asset turnover and NPM refers to net profit
margin for bank i at time t. IC is a vector of IC with three proxies (HCE – human capital
efficiency, SCE-structural capital efficiency, RCE-relational capital efficiency). X is a vector
of a set of control variables (TA, DE, INF, GDP and FOWN) and « refers to the error term.
Finally, we evaluate the impact of CG on banking performance along with the mediating role
of IC, and we estimate a series of 2SYS-GMM regressions of banking performance on IC
and a set of control variables.
To test H3.1–H3.3, which predict the effect of CG on banking performance along with the
mediating role of IC, we estimate a series of Equation (4) using 2SYS-GMM regressions as
follows:

X
5 X
3 X
5
ATOit ¼ a0 þ ATOit1 þ B1 CGit þ B1 ICit þ B2 Xit þ « it 4.1
k M L

X
5 X
3 X
5
NPMit ¼ a0 þ NPMit1 þ B1 CGit þ B1 ICit þ B2 Xit þ « it 4.2
k M L

In models 4.1 and 4.2, where ATO refers to asset turnover and NPM refers to net profit
margin for bank i at time t. CG is a vector of IBs’ CG variables (BS, BIND, CD, AUDC, SB).
IC is a vector of IC with three proxies (HCE, SCE, RCE) use as a mediating variable. X is a
vector of a set of control variables (GEND, BM, TA, DE, INF, GDP and FOWN) and « refers
to the error term.

3.3 Measurement of the variables

To test for H1, we measure IC through human capital efficiency (HCE), structural capital
efficiency (SCE) and relational capital efficiency (RCE). Several researchers have used
these variables as a measure of IC (Haris et al., 2019; Jetmiko, 2018). To test H2–H4, the
present study follows prior studies such as Almutairi and Quttainah (2017), Khan et al.
(2017) and Wang et al. (2012) by measuring the banking performance through asset
turnover (ATO) and net profit margin (NPM). Moreover, the study uses five different
measures of CG, which are parallel with prior studies (Khan et al., 2017; Oppong and
Pattanayak, 2019). Besides, to analyse the exact relationship, the study used a set of bank-

VOL. 21 NO. 1 2021 j CORPORATE GOVERNANCE j PAGE 121

 Table 2. Description of the variables
Numbers Variables Codes Definition

Bank performance
indicators
I Asset turnover AST Interest or commission income/Average total assets
II Net profit margin NPM Net income/non-interest expenses
1 Corporate governance
mechanisms (independent)
I Board size BS Total number of members on the board
II Board independence BIND Total number of members of non-executive directors
III CEO duality CD If the CEO also hold chairman position, then the value is
one and if it is separate then the value is zero
IV Shariah board SB Total number of members of Shariah Board
V Audit committee AUDC Total number of members in the audit committee
2 Intellectual capital
(independent)
I Human capital efficiency HCE Value-added = gross income-operating expenses
Value-added/total expenses for employees
II Structural capital efficiency SCE Value-added/expenditure related to research and
development
III Relational capital efficiency RCE Value-added/expenditure related to marketing cost
Bank characteristics
(controls)
I Bank size LNTA Natural log of total assets
II Leverage LEV The proportion of total debt over equity
III Foreign ownership FOWN Dummy variable that takes the value of one if foreign
firms have an ownership in the firm or zero otherwise
Board features (controls)
I Gender GEND if the CEO is male, the value is one and if the CEO is
female then the value is zero
II Board meetings BM Total number of board meetings
Macro-economic (controls)
I Inflation INF Natural log of the consumer price index
II Country growth GDP Natural log of total gross domestic product

specific and country-specific control variables (Mahmood et al., 2014). The full descriptions
of the variables are in Table 2.

3.4 Descriptive statistics

Table 3 shows the descriptive statistics of the variables of this study. The mean value of the
ATO of the pooled sample is 28% that is greater than the finding of (Khan et al., 2017). The
SD value of ATO is 151% and the median value is 1.4%. The ATO mean value significantly
decreased in 2009 and then continuously increased to the year 2016. The mean value of
ATO substantially increases in the year 2017, and banks get a 50.6% return on their assets.
The mean value of NPM of the pooled sample is 54%, SD value is 115% and the median
value is 38%. This mean value is more than the finding of Khan et al. (2017) in IBs. We find
that IBs are getting more profit on their expenses in the year 2008 (65%) and 2017 (66%),
but in 2010 they get very less benefit on their payments. We find that IBs are paying more
expenses on their income as compared to the conventional counterpart because of their
high operational cost (Khan et al., 2017).
The mean board size of the pooled sample is 8.5, the SD value is 2.8 and the median value
is 8. This is the ideal board size for the banking sector, similar to the other studies (Al-
Sartawi and Abdalmuttaleb, 2018; Bukair and Abdul Rahman, 2015; Chazi et al., 2018;
Mollah et al., 2017). The highest average board size is 8.73 noted in the year 2017 and the
average lowest board size is 8.3 in the year 2009. Moreover, the average board size

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 Table 3 Descriptive statistics
Variables statistics 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Pooled sample

Performance
Asset turnover Mean 0.141 0.051 0.181 0.043 0.043 0.029 0.028 0.301 0.385 0.506 0.284
std 0.905 0.240 0.300 0.186 0.171 0.099 0.091 0.026 0.027 0.028 0.049
med 0.001 0.003 0.001 0.001 0.001 0.001 0.001 0.001 0.001 0.001 0.001
Net profit margin Mean 0.652 0.544 0.426 0.450 0.554 0.530 0.519 0.511 0.547 0.665 0.540
std 1.562 1.252 1.348 1.183 1.060 0.912 0.917 0.908 1.172 1.083 1.155
med 0.600 0.360 0.300 0.340 0.400 0.460 0.380 0.420 0.350 0.380 0.380
Corporate governance attributes (independent)
Board size Mean 8.310 8.302 8.457 8.473 8.659 8.651 8.674 8.558 8.775 8.783 8.564
std 3.018 2.933 2.958 2.773 2.737 2.715 2.911 3.132 2.897 2.741 2.879
med 8.000 8.000 8.000 8.000 8.000 8.000 8.000 8.000 8.000 9.000 8.000
CEO duality Mean 0.080 0.070 0.080 0.080 0.080 0.090 0.070 0.070 0.060 0.060 0.070
std 0.270 0.026 0.270 0.270 0.280 0.280 0.026 0.026 0.024 0.024 0.026
med 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000
Board independence Mean 4.465 4.488 4.566 4.636 4.876 4.876 4.922 4.860 5.132 5.202 4.802
std 2.158 2.208 2.050 2.103 2.129 2.050 2.320 2.311 2.170 2.104 2.168
med 4.000 4.000 4.000 4.000 5.000 5.000 5.000 5.000 5.000 5.000 5.000
Shariah board Mean 4.465 3.698 3.698 3.674 3.729 3.767 3.752 3.667 3.760 3.729 3.716
std 2.158 1.418 1.361 1.318 1.356 1.433 1.495 1.465 1.530 1.368 1.416
med 3.000 3.000 3.000 3.000 3.000 3.000 3.000 3.000 3.000 3.000 3.000
Audit committee Mean 3.357 3.395 3.442 3.450 3.496 3.527 3.481 3.450 3.519 3.535 3.465
std 0.950 0.888 0.799 0.829 0.772 0.801 0.821 0.968 0.867 0.857 0.856
med 3.000 3.000 3.000 3.000 3.000 3.000 3.000 3.000 3.000 3.000 3.000
Intellectual capital (mediating)
Human capital efficiency Mean 0.765 0.732 0.801 0.875 1.094 1.104 1.124 1.228 1.312 1.258 1.033
std 1.961 1.979 2.142 2.388 2.988 3.102 2.651 2.947 3.145 3.009 2.675
med 0.140 0.140 0.160 0.150 0.160 0.140 0.140 0.160 0.150 0.160 0.170
(continued)

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j CORPORATE GOVERNANCE j PAGE 123
 PAGE 124
Table 3
Variables statistics 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Pooled sample

j CORPORATE GOVERNANCE j VOL. 21 NO. 1 2021

Structural capital efficiency Mean 1.463 1.511 1.651 1.837 2.301 2.452 2.304 2.445 2.480 2.461 2.098
std 3.331 3.731 4.155 4.889 6.161 6.963 5.158 5.573 5.626 5.378 5.213
med 0.360 0.410 0.400 0.440 0.430 0.360 0.410 0.400 0.440 0.430 0.450
Relational capital efficiency Mean 0.548 0.494 0.530 0.541 0.562 0.596 0.495 0.514 0.547 0.603 0.543
std 1.450 1.523 1.655 1.594 1.647 1.683 1.360 1.376 1.548 1.652 1.547
med 0.060 0.090 0.080 0.070 0.100 0.060 0.090 0.080 0.070 0.100 0.080

Total assets Mean 3,294.03 3,499.78 3,967.94 4,418.14 5,041.58 5,715.04 5,595.03 5,848.49 6,151.92 6,677.22 5,020.92
std 8,045.76 81,26.40 8,894.89 10,007.59 11,164.41 12,740.25 11,361.50 11,933.96 12,610.93 13,397.12 11,004.06
med 660.22 750.16 867.35 933.71 918.50 1,206.70 1,317.14 1,457.63 1,634.40 1,658.19 1,040.75
Leverage Mean 6.841 7.178 7.094 7.084 7.090 7.290 7.395 7.762 7.754 8.047 7.356
std 5.964 6.579 6.258 6.203 5.731 6.487 7.757 8.932 9.461 9.528 7.419
med 5.260 5.850 5.880 6.150 6.370 6.910 6.720 6.950 7.010 7.200 6.470
Inflation Mean 92.450 95.540 100.000 106.150 113.990 123.190 133.570 140.130 144.750 150.530 120.033
std 7.850 4.080 1.230 5.960 16.237 31.766 51.230 64.120 69.720 76.940 47.860
med 95.410 97.570 100.000 104.170 108.250 111.160 114.390 114.970 115.390 119.610 108.520
Gross domestic product (GDP) Mean 27.746 27.760 27.810 27.850 27.890 27.930 27.970 28.000 28.040 28.070 27.910
std 3.800 3.807 3.810 3.820 3.820 3.820 3.830 3.830 3.850 3.851 3.810
med 27.380 27.360 27.430 27.490 27.540 27.590 27.640 27.690 27.730 27.790 27.660
Foreign ownership Mean 0.209 0.209 0.209 0.209 0.209 0.209 0.209 0.209 0.209 0.209 0.209
std 0.408 0.408 0.408 0.408 0.408 0.408 0.408 0.408 0.408 0.408 0.407
med 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000
remains between 8.03 and 8.8 throughout the sample, similar to the other studies (Chazi
et al., 2018; Hassan et al., 2017). Besides that, the BIND is 58% of the total board size of the
pooled sample. This size is more significant than the mean size of BIND in the studies of
Almutairi and Quttainah (2017) and Najwa et al. (2019). The maximum number of BIND is
found in the year 2016. Hence, the mean value of BIND fluctuated in the whole sample
period.
The mean of SB is 3.71 of the pooled sample, the SD value is 1.46 and the median value is
3. A similar size of SB was found by Najwa et al. (2019) in the sample of Southeast Asia IBs.
The largest average SB size is found in 2008, and then later it remains constant between the
average of 3.69 and 3.76 throughout the sample period. The average mean of AUDC is 3.46
of the pooled sample, and the median value is 3, similar to (Khan et al., 2017) in Pakistan.
The average size of AUDC moves between 3.35 and 3.53 throughout the sample period.
According to the OECD, this size of AUDC is right for the organizations (AlSagr et al., 2018;
Kallamu and Saat, 2015). In addition, the average mean of CD of the pooled sample is 7%,
SD value is 2.6% and the median value is 0 representing most of the banks that do not
practice CEO duality (Bukair and Abdul Rahman, 2015).
Regarding the IC variables; the mean of human capital efficiency (HCE) of the pooled
sample is 1.03, the SD value is 2.67 and the median value is 0.17. The average amount of
HCE steadily increased throughout the study period. The continuous increase in HCE is
because of Islamic banking expansion, so they invest more in human capital (Nawaz,
2017). The average value of relational capital efficiency (RCE) is 2.09 of the pooled sample,
the SD value is 5.21 and the median value is 0.45. These results indicate that IBs invested
more in structural capital as compared to human capital. Overall, the mean value of SCE
also varies throughout the sample period.
The mean value of relational capital efficiency (RCE) of the pooled sample is 0.543, the SD
value is 1.547 and the median value is 0.080. The lowest mean value is noticed in the year
2009 and the highest mean value is seen in the year 2017. Overall, the mean value
continued to increase throughout the sample period except for the year 2014. These results
indicate that IBs invest more money in their structural capital rather than the HCE and RCE;
this could be due to IBs priority change in the expansion of their infrastructure. The mean
value of SCE steadily increased until the year 2016 because IBs have enough
infrastructures, and in a position to invest in SCE and RCE for competitive advantage.
As per the control variables, the mean value of total assets (TA) is US$5,020m for the
pooled sample, with the SD value of US$11,004 million and the median value is US$1,040m.
Hence, the mean value of the total asset value of IBs consistently increased throughout the
sample period. The average value of debt to equity (LEV) of the pooled sample is 7.35, the
SD value is 7.41 and the median value is 6.47. These results show that IBs have more debt
as compared to equity. Concerning the macroeconomic variables, the average mean of the
inflation is 120 of the pooled sample, the SD value is 47 and the median value is 108. The
average value of GDP is 27.91 of the pooled sample, the SD value is 3.81 and the median
value is 27.66. The mean value of GDP slightly increased throughout the sample period. The
result indicates that the average income of the people increased in the sample period.

3.5 Pearson correlation

The correlation matrix determines the trend of association between the variables. Table 4
demonstrates the key variables of the final sample of 129 observations per year. The
coefficients of CG measures (BS, BIND, CD, AUDC, SB) has a positive and weak
relationship with bank efficiency measures (ATO, NPM). Similarly, IC measures (HCE, SCE
and RCE) have a positive and weak relationship with bank performance measures (ATO,
NPM). In control variables; TA, LEV and GDP have positive and GEND, FOWN, INF has a
negative and weak relationship with banking performance (ATO, NPM). Hence, the overall

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Table 4. Correlation statistics
Variables AST NPM BS BIND CD AUDC SB BM GEN HCE RCE SCE LNTA LEV FOWN INF GDP

AST 1
NPM 0.9749 1
BS 0.024 0.0083 1
BIND 0.0125 0.0119 0.6802 1
CD 0.0353 0.0307 0.0178 0.0041 1
AUDC 0.0874 0.0761 0.3075 0.3048 0.0658 1
SB 0.0366 0.0391 0.3728 0.3745 0.2087 0.4036 1
BM 0.024 0.0099 0.1288 0.0726 0.1433 0.062 0.1891 1
GEN 0.045 0.042 0.0757 0.0476 0.0458 0.1136 0.0274 0.1088 1
HCE 0.0179 0.0157 0.0458 0.0211 0.0102 0.0604 0.0291 0.0859 0.0894 1
RCE 0.0537 0.0626 0.0641 0.0898 0.0586 0.023 0.0406 0.0484 0.3103 0.3627 1
SCE 0.0205 0.0193 0.0324 0.024 0.018 0.065 0.0347 0.1386 0.0882 0.9564 0.3773 1
LNTA 0.0492 0.0294 0.0001 0.0921 0.0799 0.1184 0.1434 0.0029 0.0535 0.0694 0.0019 0.1155 1
LEV 0.0817 0.0948 0.0418 0.0045 0.0213 0.0376 0.2032 0.0413 0.134 0.2221 0.1038 0.2303 0.0222 1
FOWN 0.073 0.0982 0.0023 0.0516 0.1151 0.1057 0.027 0.0937 0.0832 0.0755 0.051 0.0896 0.0688 0.067 1
INF 0.056 0.0372 0.0381 0.0034 0.0338 0.0084 0.0557 0.2313 0.0867 0.155 0.0312 0.2046 0.1828 0.0826 0.0953 1
GDP 0.007 0.0212 0.0395 0.0747 0.023 0.0978 0.0848 0.2 0.0249 0.2098 0.0158 0.2349 0.116 0.0577 0.1074 0.0452 1
Variance inflation factor 2.03 1.99 1.11 1.3 1.56 1.3 1.19 2.73 1.34 3.75 1.11 1.19 1.08 1.25 1.14
Notes: AST, asset turnover; NPM, net profit margin; BS, board size; BIND, non-executive directors; CD, CEO duality; SB, Shariah board; AUDC, HCE, human capital efficiency; SCE,
structural capital efficiency; RCE, relational capital efficiency; audit committee; GEND, the gender of CEO; BM, board meeting; LNTA, bank size; LEV, leverage; FOWN, foreign
ownership; INF, inflation; GDP, gross domestic product
coefficients of explanatory variables are below 0.8, so there is no issue of collinearity.
Besides, the variance inflation factor (VIF) is computed to detect the presence of
multicollinearity. If an independent variable in a model has a VIF value of more than or equal
to 10, it indicates the presence of multicollinearity in the model (Wooldridge, 2005). As
shown in Table 4, the VIF value of all variables is less than 10, so there is no multicollinearity
problem in this study.

4. Empirical results and discussions

4.1 The effects of corporate governance on intellectual capital
Table 5 presents the empirical findings regarding the impact of the CG mechanism on IC.
Table 5 shows 2SYS-GMM regression where the dependent variables are HCE, SCE and
RCE. Hansen test is for the instrument’s validity, as well as the first and second-order tests
for serial correlation. The null hypothesis is accepted for the Hansen test connoting that the
instruments are valid and they do not correlate and the error term is also different for all
models. Additionally, a high p-value of AR (2) presents that the disturbances are not serially
correlated in all models. Model 1.1, 1.2 and 1.3 show the signs of lag HCE, SCE and RCE
have a positive and statistically significant relationship (at 1% level) with the current year for
the HCE, SCE and RCE value of the IBs.
Board size (BS) and board independence (BIND) have a positive and significant
relationship with HCE and SCE, but BS has an insignificant relationship with RCE. These
results are parallel to the finding of (Alizadeh et al., 2014), who found that a larger board
and board independence enhance the value of IC. In contrast, the CD has a negative and
significant relationship with HCE and SCE, a positive and significant relationship with RCE.
Similarly, SB has a negative and significant relationship with HCE. In contrast, AUDC has a
positive and significant relationship with HCE, but it has a negative and significant
relationship with SCE and RCE, parallel with the result of (Appuhami and Bhuyan, 2015).
As for board characteristics; GEND has a negative and significant relationship with HCE,
SCE and RCE of the IBs but BS has a positive and significant relationship with only HCE,
consistent with the finding of (Ahmed and Ghazali, 2013). As per bank-specific, leverage

Table 5 2SYS-GMM – corporate governance as a function of intellectual capital

Variables Labels Model 1.1 HCE Model 1.2 SCE Model 1.3 RCE
***
Lag of human capital efficiency L1.HCE 0.8361
Lag of structural capital efficiency L1.SCE 0.7789***
Lag of relational capital efficiency L1.RCE 0.7377***
** **
Board size BS 0.2380 0.3296 0.1675
Board independence BIND 0.2865*** 0.8888*** 0.5395***
CEO duality CD 0.1716* 0.4992** 0.9357***
Shariah board SB 0.1253*** 0.0286 0.0231
Audit committee AUDC 0.0996** 0.1648*** 0.1140**
Gender CEO GEND 0.3256*** 0.4644*** 0.4689***
Board meetings BM 0.0765** 0.0223 0.0421
Bank size LNTA 0.0116 0.0204 0.0043
Leverage LEV 0.0324*** 0.0326*** 0.0344***
Gross domestic product GDP 0.0240** 0.0097 0.0602***
Foreign ownership FOWN 0.4485*** 0.5454** 0.1666
Constant cons 0.3132 0.1533 2.1786***
N. of observations N 1,061 1,058 1,061
AR (1) test statistics (p-value) ar1p 0.0001 0.0012 0
AR (2) test statistics (p-value) ar2p 0.5879 0.9584 0.1744
Hansen test (p-value) Hansen-p 0.268 0.6117 0.3213
Notes: ***, **and *denote significance at 1%, 5% and 10% significance levels, respectively

VOL. 21 NO. 1 2021 j CORPORATE GOVERNANCE j PAGE 127

 and FOWN remain positive and significant and GDP is negative and statistically significant
with IC of IBs. These findings support H1.1 to H1.3 which predicts the positive relationship
between CG and IC.

4.2 The effects of corporate governance on Islamic banking performance

Table 6 determines the relationship between Islamic bank performance in terms of asset
turnover (ATO) and net profit margin (NPM) with CG measures and IC along with a set of
control variables. The regression results as reported in Table 6, model 2 and model 3
present the ATO relationship with CG mechanism (BS, BIND, CD, SB and AUDC) IC (HCE,
SCE, RCE), positive and statically significant relationship with lag ATO and NPM value for all
models. The results are parallel with the finding of (Beltratti and Stulz, 2009), which stated
that the past year’s performance significantly enhances the current year performance of the
banks. Besides, the present study projected the Hansen test and the null hypothesis is
accepted for the Hansen test implying that the instruments are valid and they do not
correlate and the error term is different for all models. Moreover, a high p-value of AR (2)
presents that the disturbances are not serially correlated in all models.
As per CG, BS and BIND have a negative and significant relationship with ATO, parallel to
the finding of (Wang et al., 2012). This negative relationship might be because of the
inefficient advisory and monitoring roles of the board and lack of coordination and decision-
making. In contrast, BS and BIND have a positive and significant relationship with NPM,
parallel with the result of (Moudud-Ul-Huq et al., 2018). The result infers that a larger board
is expected to use the best judgement for the banking interests in terms of improving the
net profit margin of the banks. CEO duality has a positive and significant relationship
supporting (Pillai and Al-Malkawi, 2018), who argued that duality is beneficial to boost the
performance of IBs. This significant impact advocates that CEO as chairperson has more
understanding of an entire operation of the business and then he/she can take better

Table 6 2SYS-GMM – corporate governance as a function of banking efficiency (ATO,

NPM)
Variables Labels Model 4.1 ATO Model 4.4 NPM

Lag of asset turnover ATO L1. 0.1884***

Lag of net profit margin NPM L1. 0.4336***
Corporate governance variables
Board size BS 0.1218*** 0.5786**
Board independence BIND 0.1843*** 1.8630***
CEO duality CD 0.3354*** 1.0433***
Shariah board SB 0.0739*** 0.3994***
Audit committee AUDC 0.0270*** 0.1404
Controls variables
Gender CEO GEND 0.0153 0.2999**
Board meetings BM 0.0005 0.0891
Log of total assets LNTA 0.0166*** 0.0495**
Leverage LEV 0.0027*** 0.0209**
Inflation LCPI 0.0226** 0.0045
Gross domestic product LNGDP 0.0045*** 0.0121
Foreign ownership FOWN 0.0447*** 0.0919
Constant CONS 0.1073 0.5081
Diagnostic tests
Observations N 1,127 1,129
AR (1) test statistics (p-value) AR1 p 0.2715 0.0003
AR (2) test statistics (p-value) AR2 p 0.4686 0.6842
Hansen test (p-value) Hansen p 0.5079 0.4094
Notes: ***, **and *denote significance at 1%, 5% and 10% significance levels, respectively

PAGE 128 j CORPORATE GOVERNANCE j VOL. 21 NO. 1 2021

decisions to improve the performance of the IBs. Moreover, the Shariah board (SB) and
AUDC have a positive and significant relationship with ATO, consistent with the finding of
(Almutairi and Quttainah, 2017). The results advocate that substantial SB has more skills
and helps the management to take a decision on time which then contributes to the
performance of the IBs. In contrast, SB has a negative and significant relationship, and
AUDC has an insignificant relationship with NPM. The results show that CG variables are
associated with banking performance. These findings support H2.1–H2.5. The coefficients
on inflations (INF) and GDP remains positive and statistically significant, while the coefficient
on bank size (TA) and leverage (LEV) and foreign ownership (FOWN) is negative and
statistically significant.

4.3 The effect of intellectual capital on Islamic banking performance

Table 7 and model 4.2 shows that HCE has a negative and significant impact on ATO and
NPM, opposite to the finding of (Oppong and Pattanayak, 2019). SCE has a positive and
significant relationship with ATO and an insignificant relationship with NPM. These results
support the findings of (Alhassan and Asare, 2016; Khalique et al., 2011). Similarly, RCE
also has a positive and significant relationship with both ATO and NPM, similar to the
findings of (Alhassan and Asare, 2016). The current results are parallel with the views of
knowledge-based theory, which places more emphasis on the role of intangible assets in
knowledge-intensive firms such as banks. The results show that IC variables are associated
with banking performance. These findings support H3.1–H3.3. The coefficients on the debt
to equity (LEV), inflations (INF) and GDP remain positive and statistically significant. In
contrast, the coefficient on bank size (TA) and foreign ownership (FOWN) is negative and
statistically significant.

4.4 The mediated effect of intellectual capital on Islamic banking performance

To test for H4.1 to H4.3, which predicts that IC mediates the effect of CG on banking
performance, it is essential to look at the regression results of Equation (1) through (4). To
test the presence of the mediating effect of IC, Baron and Kenny’s (1986) conditions are
applied. Table 8 and model 4.3 shows that BS remains a negative and significant
relationship with ATO and insignificant with NPM. The result implies that although the bigger

Table 7 2SYS-GMM – intellectual capital as a function of banking efficiency (ATO, NPM)

Variables Labels Model 4.2 ATO Model 4.5 NPM

Lag of asset turnover ATO L1. 0.1852***

Lag of net profit margin NPM L1. 0.3623***
Intellectual capital variables
Human capital efficiency HCE 0.1083*** 0.5729***
Structural capital efficiency SCE 0.0497*** 0.1816
Relational capital efficiency RCE 0.0520*** 0.5880***
Log of total assets LNTA 0.0209*** 0.0503***
Leverage LEV 0.0017*** 0.0117**
Inflation LCPI 0.0202*** 0.1373**
Gross domestic product LNGDP 0.0025*** 0.0086
Foreign ownership FOWN 0.0130*** 0.1445**
Constant CONS 0.0931*** 0.1319
Diagnostic tests
Observations N 1,129 1,131
AR (1) test statistics (p-value) AR1p 0.2728 0.0001
AR (2) test statistics (p-value) AR2 p 0.4352 0.7035
Hansen test (p-value) Hansen p 0.1447 0.129
Notes: ***, **and *denote significance at 1%, 5% and 10% significance levels, respectively

VOL. 21 NO. 1 2021 j CORPORATE GOVERNANCE j PAGE 129

 Table 8 2SYS-GMM – mediating role of intellectual capital in the relationship of corporate
governance and banking performance (ATO and NPM)
Variables Labels Model 4.3 ATO Model 4.6 NPM

Lag of asset turnover ATO L1. 0.2245***

Lag of net profit margin NPM L1. 0.3312***
Corporate governance variables
Board size BS 0.0944*** 0.075
Board Independence BIND 0.0872*** 0.2801*
CEO duality CD 0.1792*** 0.3622***
Shariah board SB 0.0279*** 0.2838***
Audit committee AUDC 0.0226*** 0.4277***
Controls variables
Gender CEO GEND 0.0156*** 0.0558
Board meetings BM 0.0007 0.0358
Log of total assets LNTA 0.0188*** 0.0553**
Leverage LEV 0.0013*** 0.006
Inflation LCPI 0.0145*** 0.1509*
Gross domestic product LNGDP 0.0033*** 0.0043
Foreign ownership FOWN 0.0257*** 0.005
Intellectual capital variables
Human capital efficiency HCE 0.0716*** 0.5233***
Structural capital efficiency SCE 0.0617*** 0.1782*
Relational capital efficiency RCE 0.0128*** 0.8342***
Constant CONS 0.0824*** 0.4307
Diagnostic tests
Observations N 1128 1138
AR (1) test statistics (p-value) AR1p 0.2784 0
AR (2) test statistics (p-value) AR2 p 0.4149 0.5909
Hansen test (p-value) Hansen p 0.6781 0.4532
Note: ***, **and *denote significance at 1%, 5% and 10% significance levels, respectively

board has diversified skills, it has a detrimental effect on the performance of IBs. This
finding is parallel with the findings of (Almutairi and Quttainah, 2017; Wang et al., 2012)
which stated that a larger board harms the bank’s performance in terms of ATO. It can be
enlightened by the fact that a large board size might have problems in coordination and
decision-making due to their large size. BIND remains negative and has a significant
relationship with ATO and a positive and significant relationship with NPM. The positive
relationship supports the finding of (Haris et al., 2019), who argued that BIND protected the
rights of shareholders and played a significant role in enhancing the organization’s
performance. Hence, this study suggested that IBs can thrive their performance by adding
well qualified and experienced persons to be as independent board members.
CEO duality shows a positive and significant relationship with IBs performance (ATO and
NPM). This study supports Pillai and Al-Malkawi (2018), who argued that CEO duality is
beneficial to boost the performance of IBs. This significant impact advocates that CEO as
chairperson has more understanding of the entire operation of the business, and then he
can take better decisions to improve the performance of the IBs. The same Shariah board
(SB) remains positive and significant, but it has a negative and significant relationship with
NPM. This finding indicates that large SB has various experiences and knowledge on Fiqh
(Islamic jurisprudence), which can boost IBs performance. This might be because of the
additional support for the board to foster the performance of IBs in terms of ATO.
Furthermore, concerning the relationship of AUDC with performance, the ATO remains a
positive and significant factor in thriving for the performance of IBs. Thus, the findings of the
study are in line with (Wang et al., 2012), who argued that AUDC enhances the

PAGE 130 j CORPORATE GOVERNANCE j VOL. 21 NO. 1 2021

effectiveness of the organizations in the US to achieve their goals. Thus, the current results
are in line with the resource dependence theory, which states that AUDC takes wise and
unbiased decisions that create transparency and decrease agency problem in the
organizations which ultimately improve performance. These results provide evidence that
CG measure leads to better efficiency.
From the perspective of IC, HCE shows a negative association with the performance of IBs.
In contrast, SCE and RCE show a positive and significant association with the performance
of the IBs. Hence, the current results reflect that IC components play a partial mediating role
in the relationship between CG and banking performance. The coefficients of GEND, INF
and GDP show positive and significant, while TA, DE and FOWN have a negative and
statistically significant relationship.

5. Conclusion
Corporate governance is the ongoing hot debate among scholars, especially after the
financial crisis. For this purpose, this study investigates whether strong CG mechanisms
affect the performance of IBs. While empirical results appear to be mixed, many
researchers believe that a strong CG mechanism helps to improve banking performance
(AlSagr et al., 2018; Detthamrong et al., 2017; Farag et al., 2018; Hassan et al., 2017;
Hussien et al., 2019). In this study, we explore a large data set of CG and bank-specific
variables from 129 IBs of 29 OIC countries during the period of 2008–2017. The study used
2SYS-GMM to analyse the relationships between CG, IC and banking performance.
Based on the empirical findings, CG (i.e. board size, board independence, CEO duality,
audit committee, Shariah board) has a significant relationship with IC (HCE, SCE, RCE) and
banking performance (ATO, NPM). However, IC (HCE, SCE, RCE) was found to partially
mediate the CG relationship with the performance of IBs. To the best of our knowledge, this
is the first study to show that CG exerts an indirect effect on the performance of IBs via IC in
OIC countries. The finding of this study also contributes through its justification of the
underpinning resource dependence theory in providing insights into banking performance
in OIC countries.
This study is expected to add significant contributions to the assortment of information to
the academicians, regulators and practitioners of the banking industry to draw the rules and
regulations to improve the existing standards and guidelines of CG practices to strengthen
its performance. It also underlines the need for banking regulatory bodies to draw
guidelines on how to use the IC resources to enhance their competency and financial value
of IBs. Thus, a good CG mechanism and the identification of IC can increase the value of
IBs in the eyes of investors. Finally, this study also recommends the regulatory bodies of IBs
to generate an awareness programme relating to the issue of CG and IC.
This study nevertheless has its limitations; firstly, the study is limited to examining the
mediating effect of IC on the relationship between CG and Islamic banking performance in
OIC countries. Future studies can embark on this examination with the same variables in
other regions such as Europe, Africa and so forth. This study is also limited in confining its
mediating role testing to the IC. In this regard, future studies can use other mediating
variables such as board characteristics, Shariah board characteristics, audit committee
characteristics and banking leverage, among others on the CG mechanism and banking
performance. The study is also limited in its use of ATO and NPM for the proxies of banking
performance. Future studies can use other alternative accounting and marketing base
measures to account for banking performance. Finally, this study applies only full-fledged
IBs in OIC countries and future studies can include the other Islamic institutions (i.e.
Modarabah, Musharakah and Takaful), as well as the non-financial organizations.

VOL. 21 NO. 1 2021 j CORPORATE GOVERNANCE j PAGE 131

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Corresponding author
Ejaz Aslam can be contacted at: [email protected]

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