Determining the power of political ties

Whether it is passing laws, setting policies, providing infrastructure, access to capital or facilitating market entry, government actions can have a powerful effect on the performance of firms.

In turn government involvement in the marketplace and firms’ political activities has led to increased scrutiny on the impact political ties have on business.

Past studies have shown that political ties can help companies survive and may improve their financial returns and market value. These suggest there is value for a company and its management to develop and nurture political connections.

However, political ties are costly to establish and maintain. So how effectively and under what conditions can these political ties enhance firm survival and performance?

To answer this question, we studied 280 companies in China’s television manufacturing industry during its critical period from 1993 to 2003 when the industry that had grown to be the largest in the world, experienced very severe competition, and which government had deregulated.

Given the pertinent role of the Chinese government in developing several industries and the widespread use of political ties to support connected businesses, China provides a setting to understand the impact of political ties on corporate growth.

It is important to note that we focused on ties formed by government and business officials holding official appointments in the other domain. We did not evaluate ties formed through family or social relationships or other unofficial connections.

Political ties generally are more valuable in mitigating threats to survival than through enabling sales performance.

We first examined whether political ties affect corporate survival and growth. We then explored whether the relationship between political ties, corporate survival and performance is the same for firms with weaker prior performance as it is for those with a stronger prior performance. Those that are initially weaker are likely to have less resources and capabilities, while those that are stronger tend to be better resourced in areas such as product development, manufacturing, logistics and marketing to compete effectively.

We also explored the effect of ties established with local government organisations (local ties) and national government organisations (central ties) to find out if they lead to different outcomes.

Factors impacting the value of ties

Some 55 political ties were identified among 33 firms — 35 were local ties and 20 were central ties. The rest of the 280 firms did not have official political ties.

Our research showed that political ties can buffer firms from threats to their survival and, under certain conditions, even enable sales growth.

However, these gains depend on firm performance and the type of the political tie. We found that political ties can help poorly performing firms survive, and stronger performing firms grow. However, political ties only help stronger firms grow faster, but not weaker firms. This relationship was observed for local ties but not for central ties.

Local authorities have greater incentives to address the needs of local firms to grow their local economies and attract new businesses to their areas. These local political ties can help companies use local information and resources, such as grants and funding, to increase their performance and survive against the odds.

We also found that although stronger performing firms gain fewer survival benefits from local ties, they still enjoy faster sales growth with local ties, possibly because these ties can provide the specific resources that they can build on to enable further growth. However, the resources that political ties provide may not be specific enough to correct internal failure in firms, preventing them from helping weaker firms grow.

In contrast, central governments have broader nationwide authority and responsibilities, and potentially greater access to resources. Although firms might be able to draw resources from central ties, these may not be specific enough to buffer them from threats to their survival or enable them to achieve higher sales growth.

Implications for company managers and policy makers

Political ties generally are more valuable in mitigating threats to survival than through enabling sales performance. In particular, political ties help weaker performing firms reduce threats to survival and enable stronger performing companies to improve sales growth.

With firms often exploring the value of their government relationships, managers now have a deeper understanding that government ties can have an impact on their firm’s economic value. They can now make more informed decisions about the type of ties they use to mitigate risk of failure or drive higher performance.

As central ties may only offer symbolic benefits or may carry costs that offset benefits, firms need to consistently and proactively focus on focus on engaging with local officials to generate business opportunities and manage risk. As the business value at stake is significant, companies need to organise their government affairs efforts to drive benefits, working collaboratively across the business to capture value from their local ties. One strong conclusion is that political ties are not a panacea, and only offer limited benefits in competitive environments.

For policy makers, questions arise on the efficacy of channelling public resources to under-performing firms, suggesting that there may be limited economic returns from providing additional resources to a poorly performing firm.

Importantly, our results highlight the vital role of local authorities in supporting the local economy, and while our study focused on China, local policy makers in developed markets also have the power to actively encourage growth and new businesses in their area.

Zheng Weiting and Will Mitchell contributed to the research for this article. Zheng obtained her PhD and is now at Hong Kong Polytechnic University and Mitchell is at the University of Toronto.

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