Performance Shortfalls and Corporate Recidivism: A Contingency Approach

Authors: Kepeng Li

Abstract:

This paper examines the phenomenon of recidivism in the Chinese stock market, emphasizing the significance of mitigating repeat offences within the corporate domain. Using a contingency model and data from Chinese publicly listed companies (1999-2018), the study investigates the impact of underperformance, governance factors, and managerial traits on unethical conduct. The research suggests that persistently unmet economic objectives can foster problem-focused exploration, potentially leading to misconduct. Furthermore, the study considers the unique cultural context of China, where “guanxi” and corruption may influence corporate behavior. It concludes that governance mechanisms play a pivotal role in regulating corporate behavior, underscoring the necessity for enhanced oversight and enforcement of corporate governance standards.

Keywords: Recidivism, corporate misbehavior, BTOF, aspiration level, corporate governance, individual characteristics.

References:

[1] B. E. Ashforth, D. A. Gioia, S. L. Robinson, and L. K. Trevino, “Re-viewing organizational corruption,” Academy of Management review, vol. 33, no. 3, pp. 670–684, 2008.
[2] Q. Zheng and R. Chun, “Corporate recidivism in emerging economies,” Business Ethics: A European Review, vol. 26, no. 1, pp. 63–79, 2017.
[3] F. Zona, M. Minoja, and V. Coda, “Antecedents of corporate scandals: CEOs’ personal traits, stakeholders’ cohesion, managerial fraud, and imbalanced corporate strategy,” Journal of Business Ethics, vol. 113, pp. 265–283, 2013.
[4] S. Jonsson, H. R. Greve, and T. Fujiwara-Greve, “Undeserved loss: The spread of legitimacy loss to innocent organizations in response to reported corporate deviance,” Administrative Science Quarterly, vol. 54, no. 2, pp. 195–228, 2009.
[5] T. L. MacLean, “Framing and organizational misconduct: A symbolic interactionist study,” Journal of Business Ethics, vol. 78, no. 1, pp. 3–16, 2008.
[6] R. M. Cyert and J. G. March, “A behavioral theory of the firm,” Englewood Cliffs, NJ, vol. 2, no. 4, pp. 169–187, 1963.
[7] H. R. Greve, “Performance, aspirations, and risky organizational change,” Administrative Science Quarterly, pp. 58–86, 1998.
[8] J. G. March and Z. Shapira, “Managerial perspectives on risk and risk taking,” Management science, vol. 33, no. 11, pp. 1404–1418, 1987.
[9] R. V. Aguilera and A. Cuervo-Cazurra, “Codes of good governance worldwide: What is the trigger?” Organization studies, vol. 25, no. 3, pp. 415–443, 2004.
[10] R. Krause, M. Semadeni, and A. A. Cannella Jr, “CEO duality: A review and research agenda,” Journal of Management, vol. 40, no. 1, pp. 256–286, 2014.
[11] F. Allen, J. Qian, and M. Qian, “Law, finance, and economic growth in China,” Journal of financial economics, vol. 77, no. 1, pp. 57–116, 2005.
[12] V. M. Desai, D. Maslach, and P. Madsen, Organizational learning from failure: Present theory and future inquiries. Oxford University Press, Oxford, 2017.
[13] V. M. Desai, “Learning to behave badly: Performance feedback and illegal organizational action,” Industrial and Corporate Change, vol. 23, no. 5, pp. 1327–1355, 2014.
[14] H. R. Greve, D. Palmer, and J.-E. Pozner, “Organizations gone wild: The causes, processes, and consequences of organizational misconduct,” Academy of Management annals, vol. 4, no. 1, pp. 53–107, 2010.
[15] J. Harris and P. Bromiley, “Incentives to cheat: The influence of executive compensation and firm performance on financial misrepresentation,” Organization Science, vol. 18, no. 3, pp. 350–367, 2007.
[16] M. A. McKendall and J. A. Wagner III, “Motive, opportunity, choice, and corporate illegality,” Organization Science, vol. 8, no. 6, pp. 624–647, 1997.
[17] Y. Mishina, B. J. Dykes, E. S. Block, and T. G. Pollock, “Why ‘good’ firms do bad things: The effects of high aspirations, high expectations, and prominence on the incidence of corporate illegality,” Academy of Management Journal, vol. 53, no. 4, pp. 701–722, 2010.
[18] P. G. Audia and H. R. Greve, “Less likely to fail: Low performance, firm size, and factory expansion in the shipbuilding industry,” Management science, vol. 52, no. 1, pp. 83–94, 2006.
[19] D. L. Deephouse and R. M. Wiseman, “Comparing alternative explanations for accounting risk-return relations,” Journal of economic behavior & organization, vol. 42, no. 4, pp. 463–482, 2000.
[20] W.-R. Chen, “Determinants of firms’ backward-and forward-looking R&D search behavior,” Organization Science, vol. 19, no. 4, pp. 609–622, 2008.
[21] H. R. Greve, “A behavioral theory of R&D expenditures and innovations: Evidence from shipbuilding,” Academy of management journal, vol. 46, no. 6, pp. 685–702, 2003.
[22] R. M. Wiseman and P. Bromiley, “Toward a model of risk in declining organizations: An empirical examination of risk, performance and decline,” Organization Science, vol. 7, no. 5, pp. 524–543, 1996.
[23] D. Y. Lee, “The impact of firms’ risk-taking attitudes on advertising budgets,” Journal of Business Research, vol. 31, no. 2–3, pp. 247–256, 1994.
[24] N. Gavrilakis and C. Floros, “The impact of heuristic and herding biases on portfolio construction and performance: The case of greece,” Review of Behavioral Finance, vol. 14, no. 3, pp. 436–462, 2022.
[25] J. Huber, M. Kirchler, and T. St¨ockl, “The hot hand belief and the gambler’s fallacy in investment decisions under risk,” Theory and decision, vol. 68, pp. 445–462, 2010.
[26] M. P. Mount and M. Baer, “CEOs’ regulatory focus and risk-taking when firms perform below and above the bar,” Journal of Management, vol. 48, no. 7, pp. 1980–2008, 2022.
[27] S. J. Smulowitz, H. E. Rousseau, and P. Bromiley, “The behavioral theory of the (community-oriented) firm: The differing response of community-oriented firms to performance relative to aspirations,” Strategic Management Journal, vol. 41, no. 6, pp. 1023–1053, 2020.
[28] X. Zhong, L. Ren, and T. Song, “Beyond market strategies: How multiple decision-maker groups jointly influence underperforming firms’ corporate social (ir) responsibility,” Journal of Business Ethics, pp. 1–19, 2021.
[29] J. G. March and H. A. Simon, Organizations. Wiley, New York, 1958.
[30] J. G. March, “Understanding how decisions happen in organizations,” Organizational decision making, vol. 10, pp. 9–32, 1997.
[31] L. Argote and H. R. Greve, “A behavioral theory of the firm—40 years and counting: Introduction and impact,” Organization science, vol. 18, no. 3, pp. 337–349, 2007.
[32] M. Davis, M. Cox, and M. Baucus, “Managerial aspirations and suspect leaders: The effect of relative performance and leader succession on organizational misconduct,” Journal of Business Ethics, vol. 171, pp. 123–138, 2021.
[33] D. Xu, K. Z. Zhou, and F. Du, “Deviant versus aspirational risk taking: The effects of performance feedback on bribery expenditure and R&D intensity,” Academy of Management Journal, vol. 62, no. 4, pp. 1226–1251, 2019.
[34] V. M. Desai, “The behavioral theory of the (governed) firm: Corporate board influences on organizations’ responses to performance shortfalls,” Academy of Management Journal, vol. 59, no. 3, pp. 860–879, 2016.
[35] S. J. Mezias, Y.-R. Chen, and P. R. Murphy, “Aspiration-level adaptation in an American financial services organization: A field study,” Management Science, vol. 48, no. 10, pp. 1285–1300, 2002.
[36] I. Naumovska, G. Wernicke, and E. J. Zajac, “Last to come and last to go? The complex role of gender and ethnicity in the reputational penalties for directors linked to corporate fraud,” Academy of Management Journal, vol. 63, no. 3, pp. 881–902, 2020.
[37] F. Neville, K. Byron, C. Post, and A. Ward, “Board independence and corporate misconduct: A cross-national meta-analysis,” Journal of Management, vol. 45, no. 6, pp. 2538–2569, 2019.
[38] P. Velte, “The link between corporate governance and corporate financial misconduct. A review of archival studies and implications for future research,” Management Review Quarterly, pp. 1–59, 2021.
[39] E. F. Fama and M. C. Jensen, “Separation of ownership and control,” The journal of law and Economics, vol. 26, no. 2, pp. 301–325, 1983.
[40] M. C. Jensen and W. H. Meckling, “Theory of the firm: Managerial behavior, agency costs and ownership structure,” Journal of financial economics, vol. 3, no. 4, pp. 305–360, 1976.
[41] H. Berkman, L. Zou, and S. Geng, “Corporate governance, profit manipulation and stock return,” Journal of International Business and Economics, vol. 9, no. 2, pp. 132–145, 2009.
[42] B. R. Golden and E. J. Zajac, “When will boards influence strategy? Inclination$\times$ power= strategic change,” Strategic management journal, vol. 22, no. 12, pp. 1087–1111, 2001.
[43] G. Ben Zeineb and S. Mensi, “Corporate governance, risk and efficiency: Evidence from GCC islamic banks,” Managerial Finance, vol. 44, no. 5, pp. 551–569, 2018.
[44] B. K. Boyd, K. T. Haynes, and F. Zona, “Dimensions of CEO–board relations,” Journal of Management Studies, vol. 48, no. 8, pp. 1892–1923, 2011.
[45] D. R. Dalton, C. M. Daily, A. E. Ellstrand, and J. L. Johnson, “Meta-analytic reviews of board composition, leadership structure, and financial performance,” Strategic management journal, vol. 19, no. 3, pp. 269–290, 1998.
[46] J. A. Pearce and S. A. Zahra, “Board composition from a strategic contingency perspective,” Journal of management studies, vol. 29, no. 4, pp. 411–438, 1992.
[47] P. Mallette and R. L. Hogler, “Board composition, stock ownership and the exemption of directors from liability,” Journal of Management, vol. 21, no. 5, pp. 861–878, 1995.
[48] D. R. Dalton, M. A. Hitt, S. T. Certo, and C. M. Dalton, “The fundamental agency problem and its mitigation,” Academy of Management annals, vol. 1, no. 1, pp. 1–64, 2007.
[49] C. Sundaramurthy and M. Lewis, “Control and collaboration: Paradoxes of governance,” Academy of management review, vol. 28, no. 3, pp. 397–415, 2003.
[50] M. Firth, P. M. Fung, and O. M. Rui, “Corporate performance and CEO compensation in China,” Journal of Corporate Finance, vol. 12, no. 4, pp. 693–714, 2006.
[51] J. Zhang, “Public governance and corporate fraud: Evidence from the recent anti-corruption campaign in China,” Journal of Business Ethics, vol. 148, no. 2, pp. 375–396, 2018.
[52] G. Chen, M. Firth, D. N. Gao, and O. M. Rui, “Is China’s securities regulatory agency a toothless tiger? Evidence from enforcement actions,” Journal of Accounting and Public Policy, vol. 24, no. 6, pp. 451–488, 2005.
[53] M. S. Baucus and J. P. Near, “Can illegal corporate behavior be predicted? An event history analysis,” Academy of Management Journal, vol. 34, no. 1, pp. 9–36, 1991.
[54] G. Chen, M. Firth, D. N. Gao, and O. M. Rui, “Ownership structure, corporate governance, and fraud: Evidence from China,” Journal of Corporate Finance, vol. 12, no. 3, pp. 424–448, 2006.
[55] W. Dong, H. Han, Y. Ke, and K. C. Chan, “Social trust and corporate misconduct: Evidence from China,” Journal of Business Ethics, vol. 151, no. 2, pp. 539–562, 2018.
[56] S. Ding, C. Jia, Y. Li, and Z. Wu, “Reactivity and passivity after enforcement actions: Better late than never,” Journal of Business Ethics, vol. 95, pp. 337–359, 2010.
[57] I. F. Kesner, B. Victor, and B. T. Lamont, “Board composition and the commission of illegal acts: An investigation of Fortune 500 companies,” Academy of Management Journal, vol. 29, no. 4, pp. 789–799, 1986.
[58] K. Schnatterly, “Increasing firm value through detection and prevention of white-collar crime,” Strategic Management Journal, vol. 24, no. 7, pp. 587–614, 2003.
[59] M. J. Conyon and L. He, “Executive compensation and corporate fraud in China,” Journal of Business Ethics, vol. 134, no. 4, pp. 669–691, 2016.
[60] M. Firth, S. Wong, Q. Xin, and H. Y. Yick, “Regulatory sanctions on independent directors and their consequences to the director labor market: Evidence from China,” Journal of Business Ethics, vol. 134, no. 4, pp. 693–708, 2016.
[61] W. Jiang, H. Wan, and S. Zhao, “Reputation concerns of independent directors: Evidence from individual director voting,” The Review of Financial Studies, vol. 29, no. 3, pp. 655–696, 2016.
[62] D. W. Yiu, Y. Xu, and W. P. Wan, “The deterrence effects of vicarious punishments on corporate financial fraud,” Organization Science, vol. 25, no. 5, pp. 1549–1571, 2014.
[63] W. H. Greene, Econometric analysis. Pearson Education India, 2003.
[64] P. Bromiley, “Testing a causal model of corporate risk taking and performance,” Academy of Management journal, vol. 34, no. 1, pp. 37–59, 1991.
[65] K. D. Miller and P. Bromiley, “Strategic risk and corporate performance: An analysis of alternative risk measures,” Academy of Management journal, vol. 33, no. 4, pp. 756–779, 1990.
[66] D. N. Iyer and K. D. Miller, “Performance feedback, slack, and the timing of acquisitions,” Academy of Management Journal, vol. 51, no. 4, pp. 808–822, 2008.
[67] M. L. Hayward and K. Shimizu, “De-commitment to losing strategic action: Evidence from the divestiture of poorly performing acquisitions,” Strategic Management Journal, vol. 27, no. 6, pp. 541–557, 2006.
[68] H. White, “A heteroskedasticity-consistent covariance matrix estimator and a direct test for heteroskedasticity,” Econometrica: journal of the Econometric Society, pp. 817–838, 1980.
[69] D. B. Rubin, Multiple imputation for nonresponse in surveys, vol. 81. John Wiley & Sons, 2004.