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Board reform versus profits: The impact of ratings on the adoption of governance practices
Author(s) -
Rowley Timothy J.,
Shipilov Andrew V.,
Greve Henrich R.
Publication year - 2017
Publication title -
strategic management journal
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 11.035
H-Index - 286
eISSN - 1097-0266
pISSN - 0143-2095
DOI - 10.1002/smj.2545
Subject(s) - profitability index , ranking (information retrieval) , corporate governance , business , hierarchy , marketing , affect (linguistics) , accounting , economics , industrial organization , finance , sociology , market economy , communication , machine learning , computer science
Research summary: External stakeholders frequently attempt to influence organizations' adoption of new practices through the creation of public ratings. Based on the insights of performance feedback theory, we develop the theory of organizational reactions to external ratings to explain how firms' behaviors depend on their rating scores and their profitability. A central issue in our theory is the conflict between established internal goals and goals introduced by public ratings, with public ratings receiving lower priority than established profitability goals. Our theory suggests that, contrary to the expectations of the external stakeholders, firms targeted for criticism by ratings become less likely to adopt corresponding practices when their profitability is below aspirations. These arguments are supported in data on the diffusion of corporate governance practices in C anada.Managerial summary: Firms and their products are rated and ranked by external agencies ranging from C onsumer R eports to magazine rankings of admired, environmental, or well‐governed companies. We investigate whether such ratings affect firm behaviors, and especially whether they can incentivize poorly rated firms to improve their ranking when these firms' profitability is also low. Using the leading corporate governance ranking in C anada, we find that rankings could have adverse effects: when firms have both poor governance ranking and poor profitability they are less likely to adopt governance practices, contrary to the ranking creators' intentions. The findings show that there is a hierarchy of firms' goals, where the goal of profitability comes ahead of other goals imposed by external agencies through ratings and rankings . Copyright © 2016 John Wiley & Sons, Ltd.