Political connections, legal environments and firm performance around the world

Abstract

Theoretically, political connections may be a double‐edged sword to a firm. On the one hand, political connections may help the firm to reduce the policy risk and access to more critical resources. On the other hand, political connections may introduce the government or politicians as influential stakeholders who may impose their own interests on other stakeholders and cause multiple agency conflicts. Although there are many studies have investigated the effects of political connections on firm performance in single countries, the worldwide effects of political connections are still ambiguous. Moreover, whether the value and costs of political connections are contingent on legal systems, regulatory institutions and industry characteristics are also under‐explored. By using a sample covers 49 countries and 151,475 firm‐year observations, we find that firms with financial constraints, firms in heavily regulated industries, and firms in countries with worse legal environment or shareholder protection mechanism are more likely to establish political connections. We further find that political connections have an adverse net effect on the firm's operating performance as well as the firm value. This adverse effect is especially pronounced if a firm is in heavily regulated industries. However, the cost of rent‐seeking activities involved in political connections can be restrained in a better legal system or by a better shareholder protection mechanism, thus significantly mitigating the adverse effect.

Political ties and corporate performance: why efficiency matters?

“…However, firms with the worst legal environment and facing financial constraints have adopted political links. Therefore, these connections significantly positively impact the firm performance (Pang and Wang, 2020). A growing body of the literature shows that firms with boards of director's link with parliament positively impact the firm performance.…”

The Impact of CEO Political Connections: A Study on Management Performance in China

“…However, some studies verify the negative effect of political connections. Pang and Wang found that political connection will damage the company's future business performance and corporate value, which can be mitigated by a better legal environment or shareholder protection mechanism preventing rent-seeking activities [7]. Gao et al show that politically connected non-family firms have lower M&A performance.…”

Political embeddedness and multi-layered interaction effects on the performance of private enterprises: lessons from China

“…A similar phenomenon was shown in a study of Mergers & Acquisitions (M&A) deals from 2008 to 2018 related to Chinese listed energy firms (Li et al , 2021) where executives’ political connections have a positive effect on corporate performance only if there are no M&A activities whilst political connections were found to harm firm performance through M&A activities. Pang and Wang (2020) found in a large sample covering 49 countries and 151,475 firm-year observations that political connections have an adverse net effect on the firm’s operating performance, as well as the firm value. They explain that although political connections may provide access to more critical resources, the firm may be imposed by governmental or political interests which cause multiple agency conflicts.…”