Behind the Iron Cage: An Institutional Perspective

Organization Science Vol. 22, No. 6, November–December 2011, pp. 1600–1612 issn 1047-7039 eissn 1526-5455 11 2206 1600

http://dx.doi.org/10.1287/orsc.1110.0652 © 2011 INFORMS

Behind the Iron Cage: An Institutional Perspective on ISO 9000 Adoption and CEO Compensation Andy C. L. Yeung Department of Logistics and Maritime Studies, The Hong Kong Polytechnic University, Hung Hom, Kowloon, Hong Kong, [email protected]

Chris K. Y. Lo Institute of Textiles and Clothing, The Hong Kong Polytechnic University, Hung Hom, Kowloon, Hong Kong, [email protected]

T. C. E. Cheng Department of Logistics and Maritime Studies, The Hong Kong Polytechnic University, Hung Hom, Kowloon, Hong Kong, [email protected]

lthough institutional theorists maintain that the widespread diffusion of ISO 9000 is the result of institutional forces, they have neglected the potential gains to top management in the perpetuation of the standard. Based on a longhorizon event study with control firms to detect long-term abnormal financial gains, we investigate the impact of ISO 9000 adoption on CEO compensation in the U.S. manufacturing industry from 1994 to 2006. We find that the CEOs’ total cash compensation was positively adjusted when their firms received ISO 9000 certification, and they received higher-value stock options when their firms embarked on ISO 9000 certification. However, the performance of the ISO 9000 certified firms was not improved throughout this period. Our further analyses suggest that it is likely that the CEO influences the board to obtain higher compensation under an institutionalized environment. Contrary to the traditional institutional theory-based view, we argue that a highly institutionalized environment does provide political opportunities for organizational actors to garner personal advantages.

A

Key words: ISO 9000; CEO compensation; institutional theory History: Published online in Articles in Advance April 29, 2011.

Introduction

Institutional theorists have drawn our attention to the taken-for-granted facet of social life. However, a significant critique of early institutional theory concerns its focus on homogeneity and its relative inattention to the potential roles of interest and agency in the widespread diffusion of institutions (Dacin et al. 2002). In the past few years, research that examines the intentional behaviors of an individual entrepreneur engaged in the creation or revision of an institution to achieve his goals has emerged (e.g., Greenwood and Suddaby 2006). Nevertheless, institutional theorists still have a limited understanding of how fundamental social interests, conflict, and power affect institutional processes (DiMaggio 1988, Goodrick and Salancik 1996). Little research has been conducted that examines how institutional arrangements mediate through political actors, creating political opportunities (Lawrence 2008). In particular, research on interests and agency in institutional theory has not explored whether or how the fundamental interests of agents lead to strategic support for an existing institution in an already-institutionalized environment. Empirical evidence in this area is “badly needed” (Greenwood et al. 2008, p. 25).

The foundations of institutional theory were laid some 30 years ago. During the inception period, from 1977 to 1983, the substratum of important constructs such as institution and isomorphism was laid. In the early years, the process of institutionalization, the means of transmission for institutions, and some cross-category and cross-national comparisons were the research focuses (Greenwood et al. 2008). In later years, conspicuous theoretical developments surrounded institutional isomorphism, legitimacy as agency, institutional entrepreneurship and change, and institutional logics. In particular, institutional theorists have dealt with the issues of how and why management practices exist and spread across organizations. The institutional perspective focuses on the role of social factors in driving organizational actions. Such factors include external conformity and regulatory and social pressures in a collective, social construction process (Westphal et al. 1997). Under strong institutional and external conformity pressures, organizations are forced to adopt commonly accepted organizational practices (Boiral 2003, Westphal et al. 1997). 1600

Yeung, Lo, and Cheng: An Institutional Perspective on ISO 9000 Adoption and CEO Compensation Organization Science 22(6), pp. 1600–1612, © 2011 INFORMS

Considering the interests of organizational actors in an institutionalized environment (DiMaggio 1988), we examine the impact of ISO 9000—a highly institutionalized system for quality management (Boiral 2003, Willborn and Cheng 1994)—on CEO compensation. Although previous research has shown that companies associated with popular management techniques are perceived to be more innovative, and the chief executives of companies associated with such innovativeness are given higher pay (Staw and Epstein 2000), our research is different. We investigate an already-institutionalized organizational practice where compliance with institutional requirements is taken for granted, instead of organizational innovations that are perceived to be the forefront of management techniques. We examine how organizational leaders might benefit from an alreadyinstitutionalized environment, rather than how fashionable management techniques enable managers to gain external reputation and benefits (Staw and Epstein 2000). Organizational actors are assumed to be fully embedded in a highly institutionalized environment. We define the embeddedness of actors in terms of their relative passivity, reflectivity, and awareness of alternatives (Greenwood and Suddaby 2006, Oliver 1991). An embedded actor is, by this definition, passive, unreflective, and unaware of alternatives. Embedded actors are assumed to be fully constrained by an iron cage such that they accept an existing institutional requirement in a noncalculative and unconscious way. Therefore organizational actors are not supposed to reap direct rewards because they simply follow an existing institutional arrangement. By examining the potential benefits to organizational actors in an iron cage, we provide direct evidence against the assumption of the embeddedness of organizational actors. We further demonstrate that the impact of ISO 9000 adoption on CEO compensation is positively moderated by CEO power and level of institutionalization. In contrast, board interlocks to ISO 9000 certified firms negatively moderate the impact of ISO 9000 on CEO compensation, suggesting that the board does not set up incentives for the CEO to adopt ISO 9000 on his own initiative. Overall, the results suggest that the CEO is likely to influence the board to obtain higher compensation for ISO 9000 adoption even in a highly institutionalized environment. Thus a highly institutionalized environment does provide political opportunities for the CEO to act as an agent to garner personal advantages.

Background and Theoretical Development ISO 9000 as a Legitimate Quality Management System ISO 9000 is a set of international standards for the development of quality management systems. Although most “new ideas” in management have a short life span

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and are discarded when eclipsed by the next fad, the adoption of ISO 9000 has proven to be a persistent and growing phenomenon. The ISO 9000 standard has increasingly become a commercial imperative that organizations can hardly avoid without jeopardizing client loyalty and market access (Anderson et al. 1999, Boiral 2003). The number of ISO 9000 certified firms has been robustly increasing since its introduction some 20 years ago. According to recent statistics (ISO 2008), almost a million companies or business divisions in 175 countries have adopted ISO 9000. In the past five years, almost 800,000 firms or business units have adopted it, representing an increase of almost 570%. The ISO 9000 standard requires detailed review and documentation of an organization’s production processes, in accordance with specific quality system guidelines. Organizations need to establish and implement structured quality monitoring systems in various production processes from product design to product delivery and provide appropriate records for auditing. Accordingly, ISO 9000 certification means that an organization has established appropriate process procedures and management control mechanisms in various organizational functions, and these ensure that products meet customer requirements (Hoyle 2006, Willborn and Cheng 1994). Organizational theorists generally agree that the widespread diffusion of ISO 9000 worldwide is due to coercive, normative, or mimetic isomorphism. Specifically, domestic and foreign multinationals initiate coercive isomorphism for its adoption, cohesive trade relationships generate coercive and normative effects, and role-equivalent trade relationships lead to competitive imitation (Guler et al. 2002). Interest Mobilization in an Institutionalized Environment Traditionally, institutional theory maintains that organizational behavior is not driven by processes of interest mobilization but by preconscious acceptance of institutionalized values or practices. At the organizational level, firms that want to appear credible must act in ways that conform to prevailing societal beliefs, or they will otherwise be negatively sanctioned because of a perceived lack of legitimacy (DiMaggio and Powell 1983, Zott and Huy 2007). Nevertheless, the self-serving advantages of compliance with institutional norms and requirements are manifest in a variety of rewards because organizational conformity is related to increases in prestige and stability, as well as access to resources (Oliver 1991, Zott and Huy 2007). Institutional compliance could be seen as a means for organizations to obtain strategic resources and support (Sine et al. 2007, Suchman 1995). In theory, institutional compliance does not just refer to reducing the negative deviations from objectives but also to the positive pursuit of valued ends (Scott 1995). At the personal level, the active pursuit of cultural or

Yeung, Lo, and Cheng: An Institutional Perspective on ISO 9000 Adoption and CEO Compensation

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industry ideals is something that may be richly rewarded by external agents and observers of the organization (Staw and Epstein 2000). By conforming to institutionalized rules, managers are able to build their corporations’ external legitimacy into the domains in which they operate (Staw and Epstein 2000). More important, conforming to institutionalized rules that legitimize a firm in the outside environment might in turn help managers obtain credibility inside the organization, leading to personal legitimacy. According to Suchman (1995), personal legitimacy is moral legitimacy that rests on the charisma of an individual organizational leader. People manage their personal legitimacy by actively taking on the roles of “moral entrepreneurs” and “principled leaders” and displaying social affiliations (Elsbach 1994). In particular, personal legitimacy building could be a proactive enterprise because organizational leaders have advanced knowledge of their operating environments and the need for legitimization (Suchman 1995). Earlier research on institutional theory has explored the possible role of professionals who act strategically to enhance their own interests in the process of institutionalization (DiMaggio 1991, Oliver 1991, Suchman 1995). Organizational actors could actively manipulate and deploy evocative symbols to garner legitimacy and societal support (Sine et al. 2007). Such strategic legitimization actions include ceremonially adopting legitimate formal structures, gaining certifications, and obtaining the endorsements of central institutional actors (Sine et al. 2007, Suchman 1995). When the interests of organizational actors are enhanced by their apparent allegiance to an existing institution, they might take a calculated position with regard to the institution and act strategically in complying with the institutional rule. In view of this theoretical background, we formulate our hypotheses regarding the possible impact of ISO 9000 adoption on the interests of organizations actors in the next section. Research Hypotheses We examine two major components of CEO compensation, namely, total cash compensation and stock options. Large U.S. corporations usually pay their CEOs shortterm cash compensation, which comprises salaries and bonuses, and long-term incentive compensation, which comprises mainly stock options. Total cash compensation is an ex post measure that rewards a CEO for his current performance and reinforces the appropriate results he has achieved. Because we wish to examine whether CEOs are rewarded directly when their organizations are accredited with ISO 9000 certification, total cash compensation is our primary interest. However, we are also interested in examining stock options as an incentive compensation linking to long-term organizational objectives. Stock options are an ex ante measure that aims to align executives’ future interest with

Organization Science 22(6), pp. 1600–1612, © 2011 INFORMS

increases in shareholders’ wealth in the long term (Kerr and Bettis 1987). We wish to investigate whether CEOs might also influence the board to obtain higher-value stock options when they initiate ISO 9000 certification as a strategic quality initiative and for the long-term development of their organizations. Institutional theorists assert that institutional compliance with the business environment is more important than simply maximizing financial benefits (Scott 1995). Securing more external legitimacy could materially benefit the companies because this may facilitate access to certain valuable resources (Elsbach and Sutton 1992). If CEOs actually improve organizational performance by pursuing ISO 9000, then they would be expected to be held in high regard within their firms (Staw and Epstein 2000). According to institutional theory, even if ISO 9000 does not improve organizational efficiency, the CEO could still promote the significance of the coveted accreditation that leads to higher corporate esteem. In addition, by successfully obtaining ISO 9000 certification, the professionalism and accountability of the CEO are demonstrated to the stakeholders, the public, and the board of directors (Staw and Epstein 2000). From a human resource perspective, which regards human resources as critical elements in enhancing a firm’s longterm competitiveness, organizations would agree to provide higher cash compensation for socially legitimate leaders in recognition of their management capability (Zajac and Westphal 1995). In particular, previous research has shown that the adoption of an institutionalized rule could be a strategic or calculated behavior. Some institutional theorists (e.g., DiMaggio 1988, Goodrick and Salancik 1996, Seo and Creed 2002) believe that the process of institutionalization could be profoundly political. If the CEO has advanced knowledge of the “legitimacy needs” and realizes the potential personal benefits from taking legitimate organizational actions in an institutionalized environment, he might actively promote the significance of ISO 9000 certification within the organization and to the board of directors. He could also actively evoke the symbolic value of ISO 9000, making its implementation a legitimate and significant organizational event. Subsequently, institutional compliance with ISO 9000 enhances the CEO’s personal legitimacy to the entire organization and to the board of directors, which leads to salary increases or bonuses. Considering the interest and agency of the CEO in an institutionalized environment, we develop the first hypothesis. Hypothesis 1 (H1). ISO 9000 adoption leads to higher total cash compensation for the CEO upon certification. In addition to cash compensation upon ISO 9000 certification, the CEO might also influence the board to obtain extra long-term compensation as the company


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initiates the adoption of the standard. It is commonly regarded that quality management is not a short-term fix but requires a near-evangelical, unwavering, and longterm commitment from top management (Anderson et al. 1994, Powell 1995). The CEO might promote ISO 9000 certification as a critical step forward to lay the foundation that makes quality management a long-term competitive advantage (Martinez-Costa et al. 2008). The CEO might evoke the significance of ISO 9000 adoption for the long-term success of quality management and persuade the board to provide long-term incentives for this quality initiative. With direct responsibility for managing the organization, the CEO is believed to be highly knowledgeable about the organization’s needs and well aware of the potential benefits of ISO 9000. An information asymmetry exists between the CEO and the board (Tosi and Gomez-mejia 1989), which provides the former with opportunities to act as an agent seeking extra long-term compensation. In particular, quality management initiatives, which are highly institutionalized organizational innovations (Westphal et al. 1997, Zbaracki 1998), have attracted unprecedented attention in academia and industry since the 1990s. The CEO might actively lobby the board that he needs to be given higher-value stock options upon ISO 9000 implementation so as to tie to his act in taking long-term quality initiatives. Under the influence of the CEO, the board is likely to agree to the importance of ISO 9000 as a legitimate quality initiative in the long run and provide the CEO with greater long-term financial incentives. Accordingly, we develop the second hypothesis. Hypothesis 2 (H2). ISO 9000 adoption leads to higher-value stock options for the CEO upon initiation. To ascertain that the increase in CEO compensation, if any, is related to the financial performance or technical efficiency of the standard, we further look into the impact of ISO 9000 on firm performance. We develop competing hypotheses based on two different points of view, namely, an operational perspective and an institutional perspective. From an operational perspective, ISO 9000 is developed on the basic principles of quality management. The conceptual and empirical foundations for the link between improved quality management and business performance are well established according to various theories (e.g., Anderson et al. 1994). Through standardization and continuous improvement in processes and procedures, ISO 9000 is conducive to improvement in quality and overall efficiency of organizations, enabling them to make uniform products and creating a competitive edge. That results in lower quality and operational costs and higher financial performance. From an operational perspective, we develop the following hypothesis.

Hypothesis 3A (H3A). ISO 9000 adoption is positively associated with firm performance upon implementation. Nevertheless, ISO 9000 has rapidly diffused globally and become a highly institutionalized quality management system (Guler et al. 2002). From an institutional perspective, it is quite possible that organizations invoke the socially legitimate goal of ISO 9000 certification without being dedicated to its principles (Westphal et al. 1997). Institutional theory says that the symbolic value of an administrative innovation ultimately supplants, or even distorts, its technical efficiency (Tolbert and Zucker 1983, Zbaracki 1998). Researchers have even warned of the potential conflicts between institutional demands and efficiency considerations (Meyer and Rowan 1977; Walgenbach 2001; Westphal and Zajac 1998, 2001). The adoption of institutionalized rules could possibly lead to organizational bureaucracy and lower internal efficiency (DiMaggio and Powell 1983, Meyer and Rowan 1977). In particular, ISO 9000 implementation absorbs significant organizational resources in the adopting firm, decreasing its financial return. As a result, we postulate a competing hypothesis regarding the impact of ISO 9000 on firm performance. Hypothesis 3B (H3B). ISO 9000 adoption is negatively associated with firm performance upon implementation.

Methods Data Collection In this study we focus on manufacturing companies (Standard Industrial Classification (SIC) codes 20003999) that are listed in the stock markets in the United States because ISO 9000 is mostly institutionalized in the manufacturing industry. To identify ISO 9000 certified firms and their years of certification, we collected ISO 9000 registration data through two online databases, Quality Digest and Who’s Registered—the world’s most comprehensive databases on ISO 9000 certified firms. Because each company could have multiple plants/sites certified, we followed the practice of previous research (Corbett et al. 2005, Naveh and Marcus 2005) and focused on the first ISO 9000 certification. We collected data on CEOs’ compensation and firms’ financial performance from the EXECUCOMP and COMPUSTAT databases, respectively. As the data on senior executive compensation were publicly available only after 1992, and we needed compensation data at least two years before ISO 9000 certification in order to match control firms (please refer to the Selection of Control Firms section), our sample firms were organizations that obtained ISO 9000 between 1994 and 2006.


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Event Study Methodology We adopt the event study methodology and follow the guideline suggested by Barber and Lyon (1996) for detecting long-term abnormal economic or financial changes. By abnormal changes, we mean unusual changes of a sample firm in relation to the firm’s own control group. We adopt the long-horizon event study method with control firms because accounting and compensation data are generally evaluated relative to an industry benchmark (Barber and Lyon 1996, Hendricks and Singhal 1997). In addition, because we have longitudinal panel data on hand, the event study methodology allows us to examine the timing of abnormal CEO compensation and cumulative abnormal changes in CEO compensation over time. In this research we define the event year, year t, as the year of formal ISO 9000 certification. To pass the ISO 9000 audit, the average preparation time is between 9 and 18 months before certification (Anderson et al. 1999, Corbett et al. 2005). Thus, we took year t − 2 as the initiating time of ISO 9000 implementation. This definition is in line with previous research on ISO 9000 (e.g., Corbett et al. 2005). We looked up the compensation and financial data one year before ISO 9000 implementation (i.e., three years before certification, or t − 3) and three years after ISO 9000 certification (i.e., from t − 3 to t + 3). We determined abnormal performance as the sample postevent performance (i.e., actual performance) minus the expected performance. We estimated expected performance as the sample pre-event performance plus the corresponding change in its control group during that period (Barber and Lyon 1996). We collected two types of compensation data from EXECUCOMP: total cash compensation (i.e., salaries and bonuses) and stock options. We estimated the values of stock options using the Black–Scholes formula (Black and Scholes 1973), which is commonly adopted in the financial literature. We observed that the distributions of the compensation data were highly skewed. Following previous studies on executive compensation (e.g., Cheng 2004), we used a natural logarithmic transformation to control for skewness in total cash compensation and stock options. We obtained the financial performance data of the sample and control firms from COMPUSTAT. Return on assets (ROA), measured as operating income (before depreciation, interest, and taxes) divided by total assets, is the most widely used firm performance variable in organization research, particularly for the manufacturing industry. Selection of Control Firms We matched sample and control pairs based on specific matching criteria. The sample and control group companies have to be in the same industry with similar firm size and pre-event performance so as to minimize the confounding factors in a particular industry or caused by


the overall state of the economy. We matched each sample firm with a portfolio of control firms that fulfilled the matching criteria so as to minimize performance fluctuations that might happen in a particular control firm. On average, each sample firm was matched with 4.93 control firms. Barber and Lyon (1996) suggest that matching preevent performance is the most critical factor for event studies. They find that matching industry type and 90%–110% pre-event performance creates the most appropriate matching groups between the sample and control firms. Following Hendricks and Singhal (1997), we matched the sample and control firms based on twodigit SIC codes, 33%–300% firm size (total asset), and 90%–110% pre-event performance. Previous research has found that the two-digit level captures most of the systematic industry characteristics, whereas finer industry delineations provide little additional information (Clarke 1989, Porac et al. 1999). Table 1 presents the descriptive statistics of the compensation and performance data for the sample and control firms. After matching the control firms, we had a sample of 185 pairs for total cash compensation. However, our sample size was reduced to 138 for stock options because 39 firms did not grant any stock options to their CEOs at t − 2, and we were unable to match 8 firms with any control firm. For ROA, we focused on the same set of sample and control firms as for total cash compensation because our objective was to analyze the corresponding changes in firm performance of these particular firms. To further compare the sample and control firms, we included a number of relevant CEO, board, and performance characteristics, as shown in Table 1. Except for ROA (p < 0001; refer to the next section for further analyses), there were no significant differences in any of these pre-event characteristics (p > 001). In addition, we find that 71.80% of the sample firms and 72.91% of the control firms had the CEO serve as chairman of the board (CEO duality) at the pre-event year 4t − 25. In addition, 78.91% of the sample firms and 76.19% of the control firms provided stock options at t − 2. In sum, the CEO and board characteristics of the sample and control firms were very similar. The statistical tests commonly used in event studies are the parametric paired-sample t-test, and the nonparametric Wilcoxon signed-rank (WSR) and sign tests. However, Barber and Lyon (1996) suggest that, for event studies based on financial data, nonparametric tests are more appropriate than the parametric t-statistics. In general, we consider WSR as the most appropriate test for our study because it takes the magnitude of the observations into account, yet it is not seriously affected by extremes. Our discussion below is based on the WSR statistics. However, for completeness, we report all three statistics in the tables, which in fact show similar results.


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Table 1

Descriptive Statistics of Pre-Event Data for Sample and Control Firms (Year t − 2) N

Mean

Median

Std. dev.

Min

Max

CEO total cash compensation a CEO stock options a1 b ROAc Total assets d Sales growth c Tobin’s q CEO tenure Board size Percentage of inside directors c

185 138 185 185 180 176 167 118 118

Sample firms 954020 801050 11856020 799010 17020 16013 21999083 961078 13063 9008 1074 1024 8043 7000 9035 9000 22034 20000

631060 31808080 9034 51217078 27097 1052 7026 3007 13015

182030 38010 −20044 47032 −62046 0019 1000 4000 0000

31796070 331645070 70096 361892000 152071 8023 45000 17000 71043

CEO total cash compensation a CEO stock options a1 b ROAc Total assets d Sales growth c Tobin’s q CEO tenure Board size Percentage of inside directors c

185 138 185 185 180 176 167 118 118

Control firms 954020 866050 11869020 792030 14078 15059 21539080 913098 12048 8038 1063 1049 8073 8013 9027 9005 22092 21085

602060 31847070 6012 41206010 21075 1007 4051 2005 8061

242010 31070 −25020 72091 −37019 0021 1000 5000 9010

61014070 341400080 35015 301149030 149071 10010 27000 14000 53097

a

In thousands of U.S. dollars. Calculated based on the Black–Scholes formula. c In percent. d In millions of U.S. dollars. b

Results We test the hypotheses and examine whether the CEO’s total cash compensation and stock options significantly increased as a result of ISO 9000 certification and implementation, respectively. The corresponding statistical results are shown in Tables 2 and 3. The column “Time period” depicts the event periods for changes in compensation, where t is the year that the sample firms obtained the first ISO 9000 certification; “N ” is the sample size for that event period; and “Abnormal mean” and “Abnormal median” show the abnormal changes in compensation. The sample size decreased gradually because of the unavailability of longitudinal data as we looked into longer time periods beyond the baseline year Table 2

(t − 2). Although we matched the sample and control firms based on performance at year t − 2, we also report changes from “t − 3 to t − 2” in the first row to show whether there was any systematic bias in the compensation level prior to the sample firms taking the initiative to implement ISO 9000. The second row “t − 2 to t − 1” shows the abnormal changes in compensation or in financial performance of the sample firms after implementing ISO 9000. As shown in Table 2, the abnormal value of the CEO’s total cash compensation (after natural logarithmic transformation) significantly increased right after the company officially obtained ISO 9000 certification at year t (i.e., t − 1 to t; p < 0005 based on the WSR test) or

Abnormal Changes in CEO Cash Compensation

Time period

N

Abnormal mean

Abnormal median

t − 3 to t − 2 t − 2 to t − 1 t − 1 to t t to t + 1 t + 1 to t + 2 t + 2 to t + 3

145 185 178 173 169 146

000149 000223 000719 000712 000101 −000485

000263 000071 000424 000304 000058 −000051

t − 2 to t t − 2 to t + 1

178 173

000714 001087

p-Value (t-test)

p-Value (WSR test)

p-Value (sign test)

00234 00281 00029∗∗ 00027∗∗ 00360 00592

00123 00442 00105 00086∗ 00221 00598

00022∗∗ 00002∗∗∗

00210 00012∗∗

Yearly abnormal change 00304 00198 00008∗∗∗ 00004∗∗∗ 00371 00558

Cumulative abnormal change

Note. Natural logarithm transformed. ∗ p < 001; ∗∗ p < 0005; ∗∗∗ p < 0001.

000292 000931

00009∗∗∗ 00001∗∗∗


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Abnormal Changes in CEO Stock Options

Time period

N

Abnormal mean


117 138 136 134 126 108

−00465 00682 −00389 00089 −00032 00278

t − 2 to t t − 2 to t + 1

136 134

00298 −00025

Abnormal median

p-Value (t-test)

Yearly abnormal change −00285 00923 00271 00009∗∗∗ −00049 00888 −00109 00491 00024 00541 00297 00202 Cumulative abnormal change 00445 00083∗ 00263 00463

p-Value (WSR test)

p-Value (sign test)

00980 00004∗∗∗ 00793 00531 00487 00104

00992 00053∗ 00634 00756 00394 00251

00002∗∗∗ 00202

00001∗∗∗ 00071∗

Note. Natural logarithm transformed. ∗ p < 001; ∗∗∗ p < 0001.

the first year immediately after certification (i.e., t to t + 1; p < 0005). However, the change in the second year after ISO 9000 certification (or afterward) became insignificant (e.g., t + 1 to t + 2; p > 001). Because total cash compensation significantly increased right after ISO 9000 certification, but not in other time periods, H1 was supported. Cumulative results from the Table 2 show that from the baseline year to the year of ISO 9000 certification (i.e., t − 2 to t), the abnormal compensation because of ISO 9000 was significant (p < 0005). However, more significant cumulative abnormal compensation was detected from the baseline year to the year immediately after ISO 9000 certification (i.e., t − 2 to t + 1; p < 0001). The abnormal changes in the values of stock options for CEOs are shown in Table 3. We find that abnormal changes in the CEO’s stock options took place in the “t − 2 to t − 1” period (p < 0001). However, there was no abnormal increase in the CEO’s stock options before implementation (i.e., t − 3 to t − 2; p > 001) or after certification (e.g., t − 1 to t or t to t + 1; p > 001); i.e., extra stock options were given only in the initiating year of ISO 9000 implementation. Thus, H2 was supported. Cumulative results show that from the initiating year of implementation to the year of certification Table 4

Abnormal Changes in ROA (in Percent)

Time period

N

Abnormal mean


145 185 178 173 169 146

−00038 −00717 −00828 00504 −00315 −00093

t − 2 to t t − 2 to t + 1

178 173

−10289 −00479

∗

(i.e., t − 2 to t), the abnormal increase in the CEO’s stock options was still significant 4p < 00015. However, comparing the initiating year of implementation with the year after certification (t − 2 to t + 1; p > 001), such a change was largely insignificant. This figure, together with the yearly change figures, suggests that the CEO of an ISO 9000 certified firm received extra stock options upon the implementation of the standard. We develop competing hypotheses regarding the impact of ISO 9000 on firm performance. Our findings suggest that ISO 9000 implementation has a negative impact on firm performance, supporting an institutional argument for ISO 9000 adoption. In particular, our research focused on late adopters of ISO 9000 after 1994—at least seven years after the introduction of the standard in 1987. According to institutional theory, the legitimacy of the procedures themselves, instead of technical efficiency for firm performance, serves as the impetus for later adopters (Tolbert and Zucker 1983). This might explain the lack of a positive impact of ISO 9000 on firm performance. The results are presented in Table 4. Although the decrease in ROA was not significant by the WSR test in the year immediately after ISO 9000 implementation (i.e., t − 2 to t − 1; p > 001), the negative impact became more significant in the second

p < 001;

∗∗

p < 0005;

∗∗∗

p < 0001.

Abnormal median

p-Value (t-test)

p-Value (WSR test)

p-Value (sign test)

Yearly abnormal change −00026 00222 −00436 00076∗ −00228 00028∗∗ 00041 00892 00251 00239 −00038 00482

00421 00183 00086∗ 00862 00212 00441

00309 00278 00205 00381 00731 00334

Cumulative abnormal change −00649 00008∗∗∗ 00034 00248

00039∗∗ 00696

00077∗ 00848


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Table 5

Abnormal Changes in CEO Cash Compensation After Controlling Pre-Event ROA

Time period

N

Abnormal mean


89 103 93 90 88 79

000459 −000411 000614 000812 000016 −000098

t − 2 to t t − 2 to t + 1

93 90

000389 000798

∗

p < 001;

∗∗

Abnormal median

p-Value (WSR test)

p-Value (sign test)

Yearly abnormal change 000012 00176 −000270 00868 000668 00080∗ 000608 00044∗∗ 000024 00485 −000199 00564

00317 00858 00084∗ 00115 00495 00535

00500 00838 00031∗∗ 00057∗ 00500 00789

Cumulative abnormal change 000010 00213 001453 00091∗

00302 00076∗

00500 00123

p < 0005.

year of implementation (i.e., t − 1 to t; p < 001), and there was no significant improvement in subsequent years. A more significant negative impact was found for the cumulative results in the first two years of ISO 9000 implementation (i.e., t − 2 to t; p < 0005), which contrasts the increases in stock options and total cash compensation for the CEO during the same time period. Confounding Factors and Sensitivity Analysis One of the limitations of our study is that ISO 9000 certified firms generally had better organizational performance in terms of ROA (p < 0001) prior to certification (see Table 1). To examine whether the corresponding changes in compensation and ROA were related to pre-event ROA difference, we created another set of data by matching the ROA of the sample and control firms to 90%–110% (in addition to total cash compensation, size, and industry type). Accordingly, our sample size decreased from 185 to 103 at t − 2. After matching, the average pre-event ROA of the sample and control firms were 17.74% and 17.74% (p = 00569), respectively. We reexamined the abnormal changes in total cash compensation and ROA using the same methodology as provided above. The abnormal changes in total cash compensation and ROA for the controlled sample are shown in Tables 5 and 6, respectively. The results were consistent with the previous Table 6

p-Value (t-test)

findings—CEOs were given higher total cash compensation right after certification at year t, and the abnormal ROA dropped at about the same time. Although the level of significance was slightly weakened because of the large reduction in sample size, the patterns and magnitudes of the abnormal changes at the event years were largely the same. Accordingly, it is unlikely that the significant abnormal changes in CEO compensation upon ISO 9000 adoption were caused by precertification difference in ROA. Based on this set of sample and control firms and the event study methodology, we further examined the abnormal changes in total assets, Tobin’s q, and sales growth upon ISO 9000 adoption. We do not find any significant abnormal yearly changes from t − 3 to t + 3 nor could we find any cumulative abnormal changes from t − 2 to t or from t − 2 to t + 1. These results suggest that the significant increase in CEO compensation is not caused by other material consequences of ISO 9000 adoption, such as changes in total assets, sales growth, or market evaluation of a firm’s assets (i.e., Tobin’s q). We further analyzed whether the level of abnormal CEO compensation was contingent on the relative power of CEOs as they influence the board. We examined four CEO or board characteristics that reflect the relative power of the CEO over the board (Kalyta 2009), including CEO duality, CEO tenure, board size, and percentage

Abnormal Changes in ROA After Controlling Pre-Event ROA

Time period

N

Abnormal mean


89 103 93 90 88 79

−00686 00163 −00994 00023 −00655 00769

Yearly abnormal change −00211 00183 00154 00614 −00262 00055∗ 00027 00515 −00320 00132 00616 00830

t − 2 to t t − 2 to t + 1

93 90

−10092 −10115

Cumulative abnormal change −00178 00025∗∗ −00712 00102

∗

p < 001;

∗∗

p < 0005.

Abnormal median

p-Value (t-test)

p-Value (WSR test)

p-Value (sign test)

00481 00525 00178 00546 00265 00757

00416 00347 00267 00500 00297 00214

00073∗ 00049∗∗

00267 00086∗


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of inside directors. The abnormal CEO compensation was taken as the abnormal CEO total cash compensation from t − 2 to t + 1. The results are presented in Model 2 of Table 7. Whereas the impacts of CEO tenure and other board characteristics were insignificant, CEO duality—the structured power of the CEO (Pollock et al. 2002)—was significantly related to total cash compensation; the level of abnormal CEO compensation as a result of ISO 9000 certification was significantly higher (p < 0005) when the CEO also served as chair of the board. One plausible explanation for the insignificant moderating effects of CEO tenure and other board characteristics is that these indicators, unlike CEO duality, are only related to informal CEO power—they do not indicate formal authority emanating from organizational structure, hierarchy of positions, and formal decree (Finkelstein and D’Aveni 1994). A plausible explanation of our research findings is that board members learn about ISO 9000 through board interlocks or interorganizational ties to firms that have adopted ISO 9000, and through mimetic and normative pressure, they set up incentives for CEOs to adopt ISO 9000. Previous research has shown that directors who sit on other boards that have already adopted a certain organizational innovation can help the boards learn vicariously from the experience of the adopted Table 7

firms. Directors of multiple boards can serve as information conduits for such organizational innovations, and their adoption is thus seen normatively appropriate (Davis 1991, Rao and Sivakumar 1999). Accordingly, we include the number of board interlocks with ISO 9000 certified firms at the time of adoption as a proxy of the board’s initiation to adopt the standard. We obtained the related data by searching proxy statements of the firms and ISO 9000 registration databases. The number of board interlocks ranged from 0 to 4, with a mean of 0.45. We find that the impact of ISO 9000 adoption on CEO compensation is negatively moderated by board interlocks to ISO 9000 certified firms (p < 0005; see Table 7)—the CEO actually obtains less abnormal compensation when his firm’s ISO 9000 adoption is initiated by the board. In other words, the board’s initiation for ISO 9000 adoption, if any, would only lead to lower abnormal CEO compensation upon certification. It is thus unlikely that boards set up incentives for CEOs to adopt ISO 9000. If an institutionalized environment actually enables organizational actors to garner personal advantages, we would expect that abnormal CEO compensation from ISO 9000 adoption is positively related to the level of institutionalization of the environment. We took the sales-weighted proportion of adopting firms in each

The Impact of Power, Board Interlocks, and the Level of Institutionalization on Abnormal Total Cash Compensation (at t − 2 to t + 1) Model 2: Model 3: Model 1: CEO power and board InstitutionalizationBaseline model interlocks model level model

Intercept Precertification compensation 4t − 25a Total assets a1 b

10673∗∗∗ 4004385 −00406∗∗∗ 4000885

20161∗∗∗ 4004685 −00470∗∗∗ 4000905

10964∗∗∗ 4004725 −00493∗∗∗ 4000895

00150∗∗∗ 4000395

00157∗∗∗ 4000455 00163∗∗ 4000935 00004 4000065 −00009 4000185 −00542 4003685

00167∗∗∗ 4000445 00201∗∗ 4000945 00001 4000065 −00002 4000185 −00429 4003685

−00128∗∗ 4000655

−00145∗∗ 4000655 00344∗∗ 4001695

00220

00246

CEO duality b CEO tenure b Board size b Percentage of inside directors b No. of ISO 9000 interlocks Level of institutionalization c R-squared

00141

Note. N = 173; standard errors are in parentheses. a Natural logarithm transformed. b Based on the data at t + 10 c Taken as the sales-weighted proportion of adopting firms in individual industries (two-digit SIC codes) from 1994 to 2006. ∗∗ p < 0005; ∗∗∗ p < 0001.


industry (based on two-digit SIC codes) in each year from 1994 to 2006 as the indicator for the level of institutionalization. We took the sales-weighted proportion instead of the proportion of adopting firms, because large corporations are likely to have a greater influence than small ones. Also, the level of institutionalization for ISO 9000 adoption is likely to be different across industries. From 1994 to 2006, the overall sales-weighted proportion of ISO 9000 certified firms in the U.S. manufacturing industry increased significantly from approximately 28% to 70% (among stock-listed firms). We included the level of institutionalization of each industry in each year as a predictor variable for abnormal CEO compensation. As shown in Model 3 of Table 7, the salesweighted proportion of ISO 9000 adoption in an industry was significantly related to abnormal CEO compensation (p < 0005). This suggests that CEOs are able to obtain higher abnormal compensation in a more institutionalized environment. The relative power of the CEO, board interlocks to ISO 9000 certified firms, and the level of institutionalization in our models are considered moderating variables, because our dependent variable is the level of abnormal CEO compensation—the difference between certified firms and noncertified firms.

Discussion Our results show that the adoption of an institutionalized rule such as ISO 9000 is directly related to the personal interests of the CEO before and after ISO 9000 certification. If organizational structures and strategies are shaped by institutional environments, as asserted by institutional theorists, would senior executives make use of the institutional environments to make their “strategic choice,” enhancing personal interests? In fact, from the economic and agency perspectives, the CEO is bound to take personal interests into consideration in adopting ISO 9000. Economic theory assumes that rational actors reach optimizing decisions, considering institutions as constraints in which they themselves are the object of calculating considerations (Beckert 1999, Vanberg 1994). Previous research in some highly regulated industries has shown that institutional environments actually shape managerial actions in that executives proactively create and strategically deploy symbols to accelerate their corporate developments (Sine et al. 2007). Such a symbol of legitimacy is especially important when the board of directors finds it hard to define, control, and assess precisely desirable managerial actions (Zott and Huy 2007). Our further analyses suggest that the level of abnormal compensation from ISO 9000 adoption is higher in the presence of CEO duality—the abnormal increase in compensation might depend on the power of the CEO. In fact, the relationship between power and institutions appears to be an intimate and bidirectional one

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(Lawrence 2008). Powerful institutions affect or control actors’ beliefs and behaviors. However, actors also create, transform, and disrupt institutions, depending on their position and power. The CEO, particularly when he also serves as chair of the board, occupies a dominant position in the organizational network, making it easier to stir up the symbolic value of ISO 9000 among stakeholders (Phillips et al. 2004). CEOs are also legitimate agents who have the resource power and formal authority that “warrant voice” (Hardy et al. 2000), allowing the social construction of institutions. In terms of the external environment, ISO 9000 is supported by broader discourses on the quality movement (e.g., total quality management), producing more powerful self-regulating mechanisms that reinforce one another. In addition, previous research (e.g., Lorsch and Maclver 1989, Mace 1986) has found that boards of directors are less than fully informed about corporate affairs, making them susceptible to external certifications such as ISO 9000 when influenced by the CEO. In particular, our analyses show that abnormal CEO compensation upon certification is negatively moderated by board interlocks to firms that have adopted ISO 9000, suggesting that the board does not set up incentives when ISO 9000 adoption is initiated by the board itself. The negative result of board interlocks, together with the positive impact of CEO duality, suggests that CEOs are likely to be the strategic actors who influence the board to obtain higher compensation. In fact, if ISO 9000 adoption is initiated by the board under mimetic and normative pressures, the board would simply consider the adoption as a proper job for the CEO. In this case, it is unlikely that the board would provide extra compensation to the CEO for adopting a taken-for-granted practice that is initiated by the board itself. Theoretically and empirically, it is unlikely that the board would actively set up incentives for CEOs to adopt ISO 9000. Our research is fundamentally different from previous studies on institutional entrepreneurs in terms of the institutional context. Research on institutional entrepreneurs has focused on the roles of agency and self-interest in the creation of institutions where there is “room for interests” (Lounsbury and Crumley 2007, Maguire et al. 2004). The institutional context for institutional entrepreneurship is normally characterized by tensions, contradictions, problems, and uncertainty, where the development of an institutional rule cannot be reproduced perfectly (Hardy and Maguire 2008). In an incompletely institutionalized environment, organizational actors influence their institutional contexts and build their goals and procedures directly into emerging institutions (Garud et al. 2002). However, in this research we look into an alreadyinstitutionalized environment in which there are widely shared values and norms, as well as established patterns for institutional reproduction. ISO 9000 is clearly


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an iron cage that organizations have little choice but to comply with. In fact, many firms adopt ISO 9000 under direct coercive forces from their major customers (Guler et al. 2002). From the traditional institutional perspective, organizational actors in a highly institutionalized context are not so much calculative and self-interested in engaging in activities (DiMaggio 1988, Oliver 1991). However, our results suggest that, instead of building their goals directly into emerging institutions, organization actors could actually align their interests with an established institution. By strategically and symbolically supporting an already-institutionalized organizational practice, powerful organizational leaders could reap personal rewards in terms of higher compensation. Hence an institutionalized environment does not necessarily imply a complete absence of interests and agency. A related question to this research is whether CEOs will conform to ISO 9000 only if they receive extra incentives for pursuing such conformity, which is purely an agency perspective. We believe that in a highly institutionalized environment, organizations are forced to adopt ISO 9000 regardless of whether there are extra incentives. Even with the power of the CEO within the organization, the taken-for-granted reality of ISO 9000 adoption in the external environment makes it difficult for these senior executives to escape from the iron cage (Boiral 2003, Guler et al. 2002). Nevertheless, the shared nature of ISO 9000 also provides a platform for the CEO to evoke the symbolic value of ISO 9000 adoption, exerting extra pressure on the board to pursue such conformity. In particular, our further analyses show that the level of institutionalization is related to the magnitude of abnormal CEO benefits. Under a stronger institutional environment, the adoption of ISO 9000 is considered as more desirable and proper and is more consensually agreed upon in the related industrial sector and among different stakeholders. The board is thus convinced of the urgency and necessity of ISO 9000 adoption, making accreditation a more legitimate and significant organizational event. Our contribution to institutional theory is that we provide an empirical account of calculated and strategic support for an existing institution. Institutional theory assumes that central, resource-rich players of an institution are fully embedded within their institutional contexts when an institution is formed. These players are heavily exposed to normative processes and thus fail to see beyond the prevailing “recipes” (Greenwood and Suddaby 2006). Nevertheless, we clearly show that interests and agency still exist in a highly institutionalized environment. Certain central organizational actors might see this as a lack of real and full cognitive legitimacy, even in a highly institutionalized environment. Under a favorable and legitimate environment, CEOs could easily stir up the symbolic value of ISO 9000 adoption, although they may not be fully convinced of the need


for adopting the standard. They act strategically according to the institutional requirement, even when it is not in the best interest of their firms. Accordingly, organizational actors consider institutions to be both constraints and resources (Lawrence 2008).

Conclusions ISO 9000 adoption leads to increases in total cash compensation and stock options to the CEO of the adopting firm, although when they occur is different. Notably, total cash compensation is adjusted right after ISO 9000 certification, whereas extra stock options are granted upon initiating ISO 9000 implementation. Traditional institutional organization theory asserts that institutional actions are driven by taken-for-granted scripts of organizational reality and not by maximizing strategies. However, the fact that ISO 9000 adoption is clearly related to the personal gains of the CEO suggests that the adoption of ISO 9000 might involve some agency considerations of the CEO in an already-institutionalized environment. A highly institutionalized environment actually provides political opportunities for organizational actors to act strategically to garner personal advantages. In particular, the implementation of ISO 9000 was not associated with superior firm performance in our sample. There are some limitations in this research. Our research design was based on the event study methodology, and potential confounding events at the year of ISO 9000 certification, if any, could be a significant issue. Nevertheless, to the best of our knowledge, as former practitioners in this field we are not aware of any organizational initiatives that are likely to be associated simultaneously with ISO 9000 certification. In addition, like other research on ISO 9000 (e.g., Corbett et al. 2005), we focused only on a firm’s first ISO 9000 certification, although firms can have multiple certifications. We make two suggestions for future research. First, researchers should investigate the impact of other institutionalized management practices, such as strategic alliances (Dacin et al. 2007) and ISO 14000 (Boiral 2007), on senior executive compensation. Second, future research should be conducted to investigate the interplay between institutional and agency considerations in the adoption of an institutionalized rule, grounded in a multitude of pertinent theories. Acknowledgments The authors are grateful to the senior editor and two anonymous referees for their constructive comments and helpful suggestions on earlier versions of this paper. The paper was supported in part by the Hong Kong Polytechnic University under Grant 3-ZG33.

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Andy C. L. Yeung is a professor at the Department of Logistics and Maritime Studies, Faculty of Business of The Hong Kong Polytechnic University. He received his Ph.D. from the University of Hong Kong. His research interests include operations management, quality management, and institutional theory. Chris K. Y. Lo is an assistant professor at the Institute of Textiles and Clothing of The Hong Kong Polytechnic University. He received his Ph.D. from The Hong Kong Polytechnic University. His recent research interest focuses on institutional theory and its implications in supply chain management. T. C. E. Cheng is the Chair Professor of Management at the Department of Logistics and Maritime Studies of The Hong Kong Polytechnic University. He received his Ph.D. and Sc.D. from the University of Cambridge, UK. His research interests include operations management and operations research.