Political connections and financial performance: the moderating role of director efficacy

Abstract

Purpose Firm performance has become a thriving research field. However, a review of previous studies shows that the answers to several fundamental questions remain vague and require further investigation. Thus, the purpose of this study is twofold. The first is to determine the extent of the involvement of political connections (PCs) in Pakistani-listed companies, and the second is to examine the association between PCs and firm financial performance with director efficacy’s moderating role. Design/methodology/approach A data set of 221 non-financial companies listed on the Pakistan Stock Exchange for 10 years (2008–2017) was analysed using panel-corrected standard error regression. Additionally, the authors address endogeneity issue by using Hackman two-stage estimation and lagged variables regression. Findings The study found that PCs negatively affected the firm’s financial performance, and director efficacy as a moderator strengthened this relationship. The result is consistent with the political economy theory that argues that an unstable political system and a weak judicial system will strongly affect investors and their rights. Practical implications The impact of political influence on the corporate sector remains a concern for policymakers, regulators, investors, financial experts, auditors and academic researchers. This study’s findings are that an effective board of directors can strengthen the company’s best practices by controlling political connectedness to protect all the interested parties, particularly investors, and restore their confidence. Therefore, the results of this study can assist all stakeholders when a PCs exists to make the right decisions. Originality/value The study extends the literature in terms of theoretical contribution that uses an integrative approach to combine political economy theory, agency theory and resource dependence theory to address the moderating role of director efficacy with an association between PCs and firm financial performance. To the best of the authors’ knowledge, no extant research has investigated the association between PCs and firm financial performance using five aspects of PCs, along with moderator director efficacy.