We use the U.S. Supreme Court’s decision in Citizens United v. Federal Election Commission to assess the reputational risks created by political investment opportunities that allow managers to spend unlimited and potentially undisclosed firm resources on independent political expenditures. This new opportunity raises important ethical questions, as it is difficult, and perhaps impossible, under current law for shareholders to hold managers accountable for this investment choice and the reputational risks it entails. Using firms’ known political activity as a proxy for managers’ likely future use of independent political expenditures, we examine how market participants reacted to Citizens United, conditional on this prior activity and corporate governance attributes related to the concentration of decision rights in senior management and blockholders. The results of our analyses document that firms with both a high level of known political activity and CEO-chairperson of the board duality experienced negative abnormal returns in reaction to Citizens United. In contrast, firms with concentrated ownership experienced positive abnormal returns; however, as known political activity increased, investors discounted the benefits of concentrated ownership. These findings suggest that investors expect this expansion of firms’ political investment opportunities to amplify principal-agent problems inherent in corporate political activity. Additionally, our findings provide evidence for those deliberating the mandatory disclosure of firms’ investments in politics as a means of increasing managerial accountability to both shareholders and the public.
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We use returns of U.S. foreign issuers to estimate the expected returns of U.S. domestic issuers because the price of U.S. foreign issuers’ shares during the period prior to the Citizens United events are expected to impound the economic news common to all firms traded on U.S. exchanges (e.g., Eun and Shim 1989; Hamao et al. 1990) but not incorporate information about the Citizens United case, given the absolute prohibition on non-PAC electioneering by foreign firms. This research design parallels those of Zhang (2007) and Litvak (2007), who both use the returns of foreign firms unaffected by the Sarbanes–Oxley law to estimate expected returns for domestic firms covered by that legislation. Although the decision in Citizens United did not affect U.S. foreign issuers, after the Court announced its decision several Democratic politicians suggested it did in order to politicize the result of the case. To ensure that this potential contamination did not affect our results, we use an estimation window that ends before the first relevant event in the case and not contemporaneous returns in constructing our market models.
Calculating the market models over the year and a half prior to the first event addresses concerns regarding calendar day effects.
If we use only the log of PAC contributions plus one as our measure of known political activity, the conclusions we draw in terms of statistical significance are the same. However, the magnitudes of our estimated effects differ, as firms spend approximately ten times more on lobbying than their affiliated PACs contribute to candidates or political parties, on average (Milyo et al. 2000).
Following Busse and Green (2002), we calculate the two-tailed bootstrapped p-values as the proportion of 1000 repetitions of regression (2) that generate coefficients greater than the OLS coefficients (less than the OLS coefficient, if the coefficient is negative) in Table 4 multiplied by 2. Each regression repetition uses sample firms’ cumulative abnormal returns from random non-event days from 2009 and 2010 as the dependent variable. When the event days were consecutive, we selected consecutive non-event days. We summed daily prediction errors to obtain the cumulative abnormal return.
We note that our result for regulated industries differs from that of Burns and Jindra (2014) who document a positive reaction to Citizens United for firms operating in regulated industries. However, in their event study, the authors do not exclude firms in the financial industry, examine only the decision date for Citizens United, and do not control for firms’ known political activity. Any of these research design choices can introduce bias, and the presence of all three likely explains the different result between their study and ours.
In an unreported sensitivity test, we also replicate our main and governance analyses using market models based upon U.S. issuers and all traded firms instead of only foreign issuers. For reasons articulated earlier in the paper and endnote 2, we argue that the three market models we present are superior to these approaches, but we note that even when using these additional alternative market models, our findings remain unaffected.
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Skaife, H.A., Werner, T. Changes in Firms’ Political Investment Opportunities, Managerial Accountability, and Reputational Risk. J Bus Ethics 163, 239–263 (2020). https://doi.org/10.1007/s10551-019-04224-6
- Corporate political activity
- Citizens United
- Managerial accountability
- Corporate governance