Impact of Selected Corporate Governance Characteristics on Financial Distress: Evidence from Listed Companies in Sri Lanka

This paper examines how corporate governance mechanisms impact financial distress of listed non-financial companies in Sri Lanka, which is an emerging market typified by a concentrated ownership structure, a dynamic regulatory framework, and a relatively weak institutional enforcement. The study adopts a quantitative research design and utilizes panel data collected from the annual reports of 74 non-financial companies listed on the Colombo Stock Exchange (CSE) over the period from 2019 to 2023. The companies were selected using a simple random sampling method to make sure that the sample of the population was not biased in terms of sector. Financial distress was measured using the popular Altman Z-score model, and corporate governance was assessed based on four board-specific variables: board size, number of board meetings, board independence, and CEO duality. A panel regression model of fixed effects was to be used to test the hypothesized relationships with the control of unobservable characteristics of the firms. The results suggest that the financial distress is negatively affected by board size and board meeting frequency in a significant negative way, which implies that the bigger the boards and the more frequent the board meetings, the greater the ability of the companies to sustain themselves in case of financial difficulties. These findings confirm the resource dependence theory, which argues the relevance of board diversification and proactive participation in enhancing organizational resilience. Contrastingly, CEO duality shows that the agency theory that the concentration of managerial and supervisory power undermines board oversight and leads to an increase in governance risks is supported by a strong positive correlation with financial distress. However, board independence was statistically negligible, which means that formal independence is not necessarily an effective measure of monitoring in the Sri Lankan corporate setting. The study adds to the literature on corporate governance with empirical evidence in Sri Lanka in the period of 2019-2023 that has encompassed the devastating economic crisis of 2022 in the country. The study contributes to a fresh understanding of the operations of governance systems to prevent corporate financial weaknesses in emerging economies through the application of financial distress instead of firm performance.