Literature Review – Agency Theory

Motivation:

Practical Motivation

  • It has been argued that we are at a tipping point with regard to climate change (find reference).
  • Organisations are the principal source of carbon emissions (reference).
  • Organisations have the greatest potential for making the necessary changes to reduce carbon emissions (reference).
  • Climate change brings significant risks for organisations (reference) and therefore the value of shareholders’ investment (reference).Some previous research has found links between environmental performance and share price (reference).
  • Performance evaluation and reward are the mechanisms through which the shareholders’ interests are protected (reference). Including targets and performance-based incentives (reference).
  • Setting targets is difficult because there is not much experience in the management of emissions (reference, or lack or reference if that is the case).

Theoretical Motivation

  • The effects of targets and incentives have been studied extensively in the context of financial performance (reference) but not non-financial performance (reference). There have been calls for more research on the operation of targets for non-financial performance (references)
  • Understanding the effects of targets for environmental performance is particularly interesting because of information asymmetry regarding environmental performance (my idea). It is a relatively new area of strategic importance for many firms (reference that supports my argument).
  • Previous research has found that challenging targets lead to increased target completion (reference) but no previous studies have considered the factors that explain the choice of difficult or easy targets related to environmental performance (I need to keep looking for this, have not found anything yet.).
  • To be effective, targets should be difficult but achievable (reference, could be to a textbook).
  • Previous research has not considered the extent to which managers build slack into the setting of environmental performance targets.

Literature Review and Hypothesis Development

Base theory – Agency Theory

  • Seminal Articles
  • Separation of ownership and control (reference),
  • Agency costs of Monitoring, Bonding and Residual Loss (Reference)
  • Setting targets and linking incentives to performance (reference) are important ways to bond an agent’s behaviour to the interests of the principal (reference).
  • In the presence of information asymmetry agents have an incentive to create slack in their targets (reference).
  • Theoretical Constructs and operational proxies
  • Slack (Dependent Variable)

Previous research has considered the budgetary process and the incentives of managers to set easy targets to:

  • Increase their remuneration
  • Decrease the required effort
  • Be able to achieve the target even if unexpected factors arise.
  • Need to find out how slack has been operationalised in the budgetary slack literature and apply it to the carbon emissions. Perhaps the budget difficulty relative to the industry average or extent to which targets are achieved.
  • Information Asymmetry (Independent Variable)
  • Information asymmetry decreases over time. Measured as the number of previous years that the organisation has been setting targets for carbon emissions.
  • Relationships between proxies
  • Previous research
  • Find that challenging targets lead to greater target completion (reference), but that performance based incentives moderatethe effect (reference).
  • The manager has a better understanding of possible potential performance than does the shareholder/ investor.
  • When there is information asymmetry and performance-based incentives, managers have an incentive to create slack in their targets (reference).
  • Predict that when information asymmetry is high (low) target slack will be high(low).
  • Performance based incentives will increase the pressure to create target slack.

Hypothesis 1: Target slack will be greater in the first year in which targets are set.

Hypothesis 2: Target slack will be greater in the presence of performance based incentives.

Literature Review – Legitimacy Theory

Motivation:

Practical Motivation

  • It has been argued that we are at a tipping point with regard to climate change (find reference).
  • Organisations are the principal source of carbon emissions (reference). Organisations have the greatest potential for making the necessary changes to reduce carbon emissions (reference).
  • Societal concern for the environment has escalated (reference)
  • Government regulation regarding carbon emissions is increasing (regulation).
  • Organisations are under increasing pressure to demonstrate their commitment to minimising their contribution to climate change to avoid further increases in regulation (reference).

Theoretical Motivation

  • Previous legitimacy theory research has focussed on voluntary disclosure (e.g., reference)
  • Conflicting research on whether firms are more likely to voluntarily disclose when their performance is good, or bad (reference).
  • Previous research has not considered the targets (reference, or the fact that no references can be found).

Literature Review and Hypothesis Development

Base theory – Legitimacy Theory

  • Seminal Articles
  • Social Contracts (reference)
  • Legitimacy and responses (reference)
  • Responses to legitimacy problem (reference)
  • change attitudes about what is acceptable (set low targets)
  • change behaviour and communicate the improved performance. Set challenging targets
  • draw attention away from the poor performance by highlighting something else. Firms, or firms in industries, facing a legitimacy crisis from some other cause use CDP disclosure to try to distract attention (consider Nike, Oil and Gas Industry…)Setting targets as a way to demonstrate commitment (reference if it can be found or create argument)
  • Theoretical Constructs and operational proxies
  • Voluntary Reduction Target (Dependent Variable)
  • Target disclosed in CDP
  • Legitimacy problem or crisis (Independent Variable)
  • Environmentally damaging industries identified by (reference) or industries with high levels of carbon emissions
  • Societal Concern (moderating variable)
  • Survey of concern about climate change score for the country in which the firm operates.
  • Relationships between proxies
  • When faced with a legitimacy problem organisations with good performance will seek to communicate that performance (set challenging targets). Firms with bad performance will seek to change attitudes about what is acceptable (set low targets).

Literature Review – Stakeholder Theory

Motivation:

Practical Motivation

  • Climate change has the potential to have huge consequences for the governments, customers, and the general population.
  • Organisations are the principal source of carbon emissions (reference). Organisations have the greatest potential for making the necessary changes to reduce carbon emissions (reference).
  • Organisations have a moral responsibility to consider the impact that they have on their various stakeholders (reference).
  • Stakeholders are increasingly putting pressure on organisations to manage their carbon emissions.

Theoretical Motivation

  • Previous Stakeholder theory research has focussed on voluntary disclosure (e.g., reference)
  • Previous research has not considered the pressure of stakeholders to establish challenging targets (reference, or the fact that no references can be found yet).

Literature Review and Hypothesis Development

Base theory – Stakeholder Theory

  • Seminal Articles
  • Stakeholders versus Shareholders (reference)
  • Managerial branch of Stakeholder Theory (reference)
  • Theoretical Constructs and operational proxies
  • Voluntary Reduction Target (Dependent Variable)
  • Target disclosed in CDP
  • Stakeholder Power (Independent Variable)
  • Relative size within industry? Relative power according to Porter’s forces of customer versus supplier?
  • Choose an industry that high powered and low powered firms can be identified.
  • Sizeor national concern for climate change(moderating variable)
  • Relationships between proxies
  • Low powered firms will be more likely to respond to the pressure of their powerful stakeholders.
  • Suppliers to powerful firms (such as Adidas, Nike, Apple) will be more likely to adopt challenging emissions targets when their customer declares a commitment to sustainability.