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Corporate Values, Codes of Ethics, and Firm Performance: A Look at the

Canadian Context

Article  in  Journal of Business Ethics · October 2008

DOI: 10.1007/s10551-007-9579-x


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3 authors:

Han Donker Deborah Poff

University of Alaska Anchorage Carleton University


Saif al Zahir
University of Victoria


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Corporate Values, Codes of Ethics, and Firm Performance: A Look at the Canadian Context
Author(s): Han Donker, Deborah Poff and Saif Zahir
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Source: Journal of Business Ethics, Vol. 82, No. 3 (Oct., 2008), pp. 527-537
Published by: Springer
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Journal of Business Ethics (2008) 82:527-537 ? Springer 2007
DOI 10.1007/sl0551-007-9579-x

Corporate Values, Codes of Ethics,

Han Donker
and Firm Performance: A Look Deborah Poff
at the Canadian Context Saif Zahir

leadership or employee
ABSTRACT. In this we present two influence decision making?
empirical study,
new models that are corporate ethics based. The first Do have an influence on consumer behavior?
model the value index
numerically quantifies corporate Do they provide prescriptive normative language
(CV-Index) based on a set of predefined parameters and that sets a moral standard independent of economic
the second model estimates the market-to-book values of
in relation to the CV-Index as well as other
In this article we
draw upon the literature that is
parameters. These models were to Canadian
particularly germane to our current study, namely,
companies listed on the Toronto Stock Exchange (TSX).
our analysis, we found statistically significant those articles which look at the business case for the
evidence that values inclusion of ethical values in codes of ethics and the
corporate (CV-Index) positively
correlated with firm The results are even impact that the inclusion of those values has on firm
more for firms with low market-to-book val As well, we discuss some related and
significant performance.
ues. Our
empirical findings suggest that corporate ethics is relevant articles on corporate social responsibility
vital for management, employees, shareholders, stake and financial performance.
and the at In addition, we have and Schlegelmilch a code
holders, community large. Langlois (1990) defined
tested and confirmed five hypotheses that are used to of ethics as a statement that cor
corporate registers
illustrate corporate ethics behavior and performance. rules of conduct,of codes
porate principles, ethics,
practice, or company
KEY WOPDS: codes of ethical
philosophy concerning
ethics, corporate values,
responsibility to stakeholders, the environment, or
values, firm performance
any other aspects of society external to the company.
Kaptein (2004) states that a code of ethics clarifies
Introduction the objectives the company pursues, the norms and
values it upholds and what it can be held accountable
The classical theory of a market economy assumes for. A code of ethics contains the company's
the naive belief that the pursuit of economic effi responsibilities, values and/or norms. A
ciency and entrepreneurial dynamism
are automati code of ethics thus demonstrates a company's
cally linked with common good. Due the to this awareness of ethical issues and indicates how it will
assumption, it is also assumed that the market merely deal with such topics.
follows a logic of means the use of the fact that many teachers of business
(maximizing Despite
resources measured by profit) and not a logic of ethics teach that business ethics is good for business,
ends, purpose, or raison d'etre. As Milton Friedman to the extent that codes of ethics are indicators of
(1970) articulated this perspective, the sole respon business ethics, much of the general literature on the
of business is to maximize profit for the of
sibility impact having codes of ethics on decision making
shareholder and obey the law. Many articles in the within has been In
organizations disappointing.
business ethics
literature have examined what impact a number of studies, Lere and
reviewing empirical
codes of ethics have on an organization. Do codes Gaumnitz (2003, p. 365) note '[t]he evidence from
have an on behavior? Do they those studies that have been conducted
impact organizational suggests that

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Han Donker et al.

codes of ethics
apparently do not have a major ob of the society. In the 21st century, what might have
servable impact on decision making.' The conclu seemed straightforward, if contentious to some in
sion of Lere and Gaumnitz is to suggest that most 1970, is far less so today. It is not entirely clear what
codes do not have an impact if the individual is al the necessary and sufficient conditions are for
to act in a manner consistent with the
ready going increasing profits and further how much increase is
code, that is, the code directs an ethical choice that necessary. In addition, in our and
pluralistic morally
the individual would already make. Lere and relativist world, it is not clear what 'the ethical
Gaumnitz provide a model to identify the cases norms of the society' are or how
where codes could have an impact and further these might vary. What is clear from the recent
provide helpful insights into other roles which codes history of corporate scandals is that overwhelmingly,
may serve. leaders of the Enron, Worldcom, Tyco Interna
While not directly on codes, there are comple tional, Arthur Andersen companies and their cor
mentary articles on the relationship between cor porate relatives were seen as exemplars of egregious
porate social responsibility and firm performance. moral as well as legal wrong doing. Further, that
Pava and Krausz (1996, p. 321) evaluated the wrongdoing brought down those companies with
financial performance of "53 firms which have been significant negative and tragic economic conse
identified by the Council on Economic Priorities quences for many stockholders. The question arises
(CEP) as being socially responsible" compared with would moral 'right doing' have been profitable or
a control sample comparable in size and industry. more profitable? In the case of Enron, we know that;

'Socially responsible' here was understood as defined

Enron's board of directors voted three times to sus
by a number of either negative or positive screens on
the conflict of interest in Enron's
which the companies were assessed. Negative
pend provisions
codes of ethics to permit CFO Andrew Fastow to
screens included items like violation of pollution
establish and operate entities that transacted busi
standards while positive screens included items like
ness with Enron and at Enron's expense.
corporate citizenship and environmental awareness.
(Schwartz, 2005, p. 85)
The authors concluded their study with the remarks,
We further know that all of these highly publicized
This has the recurrent and
study emphasized para moral and economic failures have made both con
doxical finding that firms which have been perceived
sumers and corporations far more cognizant of the
as met social criteria have gen
having responsibility
role of values and of the importance of ethical and
to have a financial at
erally been shown performance
effective in today's businesses.
least on a par, if not than other leadership
better, firms, (Pava and
Krausz, 1996, 348).
In the current study, we look at empirical evi
dence of the relationship between the values
In a similar study, Cummings (2000) concluded that embodied in codes of ethics and profitability in
ethical screens neither harmed nor helped the prof companies.

itability of corporations in Australia.

Finally, Dentchev (2004) in an article on corpo

rate social responsibility as a business strategy showed Integrated decision making
it to have mixed results, improving stakeholder
relations on the positive side, for example, while Organizational codes to cap
of ethics are intended

negatively affecting corporate relations. ture the key values of a firm and to convey those
values to both internal and external stakeholders. An

important but underemphasized function of codes

The business of business involves the fact that, by making a firm's values

explicit, an effective code equips members of an

In his classic article on of
the social with ethical justifications that can be
responsibility organization
business, Friedman
(1970), argued that the respon used in resolving individual and organizational
sibility of business is solely to increase profits for dilemmas. In many instances, a decision maker

stockholders and obey the laws and the ethical norms will consider these ethical justifications alongside

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Corporate Values, Codes of Ethics, and Firm Performance 529

economic and legal justifications before arriving at a regulations (57%), protection of the natural envi
choice 2005, p. 45). ronment fairness
(Boatright, 2000; Coughlan, (56%),
honesty (50%), (45%),
Clearly we can agree with Friedman that a key teamwork (43%), discrimination (44%), intimidation
- -
function if not the only function of business is to (43%), conflict of interests (52%), corruption (46%),
be profitable. While there are many good reasons for and fraud (45%).
a corporation to articulate a code of ethics and for a Langlois and Schlegelmilch (1990) reported the

corporate culture to operationalize that code 'ethics gap' between Europe and the U.S. They found
manifest ethical behavior, the relationship that while only 41% ofthe 189 firms from the U.K.,
between ethics and profitability for companies is not France, and Germany had introduced codes of ethics
disinterested or coincidental. Evidence-based models in 1988, 75% of respondents to a survey of Fortune
of business ethics are critically important to business. 500 companies in the United States stated that they
As Loe et al. (2000, p. 185) note, had a code of ethics. They concluded that there were

significant differences between Europe and the U.S.,

Criticisms of normative models of business ethics, in particular with respect to employee conduct, sup
which often assume absolute truths about appropriate and contractor relations. In firms
plier Europe,
led to the of
decision-making, development positive to the
emphasized the importance of their employees
and models. Positive models describe
organizations. Further, European codes promoted a
what occurs in the versus nor
actually organization,
sense of belonging (employees are the most important
mative models that address what should occur.
assets of a company), while American codes were
In this study we take such criticisms seriously. We more focused on fairness and equity.

hope that the data here provide part of the evidence Singh (2006) analyzed the content
ofthe codes of
to support business people who wish to incorporate ethics of 80 listed companies on the Toronto Stock
ethical values into codes of ethics for their companies. Exchange (TSX) in 2003. He found that more ofthe
codes were concerned with conduct that is contrary
to the self-interest of the firm (e.g., conflict of
Code of conducts interest and insider trading) than with conduct that is
consistent with the self-interest of the firm (e.g.,
Caracsco and Singh (2003) examined the content of relations with customers/suppliers and competitors,
the codesof conduct of the world's 50 largest product quality, and environmental affairs). The
transnational non-financial firms (ranked by foreign results are consistent with a previous study of Le
assets) in 2000. They analyzed three main areas: (a) febvre and Singh (1992) where they concluded that
behavior and actions covered by the code, (b) the focus of codes of ethics was on the protection of
enforcement procedures, and, (c) penalties for non the firms. The proportion of codes of ethics that
found that firms were concerned mentioned enforcement or
compliance. They compliance procedures
about conductthat promoted positive values and increased significantly from 1992 to 2003. Singh
relationships (e.g., relations with customers/suppli (2006) concluded that this result implied a deter
ers, employees, and the environment) and conduct mined effort to make the code of ethics more
that was negative either in a legal or ethical sense effective. Wood (2000) examined the codes of ethics
(e.g., conflict of interest and insider trading) but it of 83 of the top 500 companies in Australia, with
should be noted that concerns relating to the latter findings similar to Lefebvre and Singh (1992).
were more emphasized in the codes the authors Weaver et al. (1999) argued that the vast majority
examined. of firms have adopted a code of ethics for symbolic
Kaptein (2004) investigated the codes of ethics of reasons (low cost approach). However, many firms
the 200 largest companies in the world in 2001. He went further and installed organizational procedures
found that 58% of the 200 largest companies in the and policies to put these in action.
world have a code of conduct. the Schwartz (2005) identified a set of universal moral
content of these codes contained information about: values for corporate codes of ethics: trustworthiness,
company responsibilities regarding quality of prod respect, responsibility, fairness, caring, and citizen
ucts and services (67%), adherence to local laws and ship. In the current study, we adopted these core

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Han Donker et al.

universal moral values to construct a corporate value Corporate Corporate

Code of Ethics Behavior 1
index (CV-Index) for companies.
Management Shareholder
Most studies we reviewed in looking at the rel _>
evant literature are focused on the content of cor Market _ f
codes of conduct and are descriptive or Response
exploratory in nature. Our step study goes one
1. Theoretical model.
further and examines the effect of corporate values Figure

on shareholder value (market-to-book value).

customers, such as donations for charities. Wal

mart's business policy is now more clearly focused

Development of hypotheses on to
improving its image and reputation in order
win consumer
Corporate codes of ethics contain valuable infor
Improving the well-being of consumers, suppli
mation about corporate commitments regarding ers, aswell as employees can have a positive effect on
desired behavior of management and employees.
corporate goals, such as firm performance. Demon
Such commitments have an impact on the individual
strating appropriate services regarding after-sales, will
behavior of members as well as on the organization
influence consumers positively. Suppliers will deliver
as awhole in order to propagate itsmoral norms and
goods and services with lower risk (Figure 1).
values.Corporate codes of ethics are the normative
claimed and desired practices that an organization Hypothesis 1 There is a positive association be
respect to moral behavior. Codes tween corporate values disclosed in the corporate
articulate norms
for the regulation of the actions and code of ethics and firm performance.
moral responsibilities of management and employees Hypothesis 2a Agency costs that arise due to the
toward its stakeholders. Codes of ethics express the presence of leverage will decrease firm value

corporate mission and the normative responsibilities (under-investment theory).

to which the organization aspires. In this fashion,
and Wempe Myers (1977) argues that firms with risky outstand
Kaptein (2002) suggest that corporate
ing debt will pass up valuable investment opportu
codes can be instruments for achieving cohesion in
nities (under-investment) that could lead to an
daily operations. A code of ethics that articulates
increase in the market valuation of a firm. In highly
corporate values and norms offers employees guid
leveraged firms, shareholders have no incentive to
ance and in order to fulfill
support corporate goals.
invest in new capital, because the overhang of debt
Corporate reputation regarding ethical behavior of
will reduce the wealth to current shareholders and
management and employees can have an important
will benefit
bondholders who have a prior senior
on economic
impact corporate performance.
claim on
the corporate investments. Myers (1977)
In Europe, for such as
example, pressure groups,
demonstrates that this sub-optimal corporate
Green Peace, to change
forced its environ
investment policy is an agency by risky cost induced
mental policy. groupsPressure
launched global
debt (under-investment theory). Hypothesis 2a predicts
campaigns to boycott gas stations of Shell Compa
a negative relationship between corporate debt and
nies and in this manner tried to influence consumer
the market value of a firm.
behavior. This resulted in amulti-year campaign on
the part of the company to improve its corporate 2b The of leverage (LEV) will
Hypothesis presence
reputation and the investment of significant amounts reduce and increase firm value
agency problems
of money on commercials that showed Shell's cor
(monitoring theory).
porate responsibility with respect to the environ
ment. To cite another example, the negative Jensen (1986) argues that managers have incentives to
the labor cause their firms to grow beyond the optimal size in
exposure thatWal-mart experienced with
to increase their compensation. Debt increases
and consumer campaign against its use of foreign order
child labor in clothing resulted in the efficiency because it prevents managers from
of child-friendly for financing unprofitable investment opportunities,
company's adoption campaigns

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Corporate Values, Codes of Ethics, and Firm Performance 531

such as negative net present value projects. The over bent management teams can be entrenched and are
investment problem can be reduced by issuing debt. hard to
As a result, issuing debt motivates managers to For empirical testing, we use SIZE (company size)
organizational resistance to retrenchment. and ROA (return on assets) as control variables. We
We expect that increasing debt will reduce agency expect a negative relationship between SIZE and the
costs and increase firm value. market-to-book (MTB) value, because ofthe small
firm size effect (Banz, 1981).
Hypothesis 3 The relation between small block
ownership and company shareholder value is
positive. Sample description and methodology

Small block shareholders will monitor incumbent

The sample used in this study consists of firms that
management and discipline
managers. As inefficient
a result of monitoring appeared in 2004 in The Globe andMail 1000 list of
by small block shareholders, the largest publicly traded Canadian companies based
market valuation of the firm will increase. Grossman
on assets and after-tax in the most recent fiscal
andHart (1980) and Shleifer andVishny (1986) ar
year, excluding extraordinary gains or losses. For
gued that atomistic shareholders can act as free-riders each firm, we collected financial data and ownership
and benefit from the monitoring activities initiated
data from Datastream (database) and from The Globe
by large shareholders. Large shareholders can disci
and Mail 1000 list. Next, we extracted the largest
pline and replace incumbent management teams and
firms medium-sized firms and
(1-50), (500-600)
influence incumbent managers to act in the interest
firms (900-1,000) from The Globe and
of all shareholders, including minority shareholders
Mail 1000
list. The final sample includes 240 firms
as well as atomistic shareholders. Monitoring activ
(10 observations were excluded, because of a lack of
ities initiated by large shareholders will reduce
available information) listed on the TSX in 2004.
agency costs and increase market valuation of the
We developed a new CV-Index model. This
model is based on a collection of values that is be
Stulz(1988) developed amodel in which the firm
lievedto represent recognizable and uncontroversial
value first increases, then decreases, as shareholdings
positive, normative corporate values. We chose 10
are concentrated in the hands of insiders. McConnell
commonly accepted and positive value terms which
and Servaes
(1990) found empirical evidence for
would be recognized as such by business, share
such a curvilinear relation between firm value (To
holder, stakeholders, and the community at large.
bin's Q) and insider ownership. Morck et al. (1988)
These terms do not designate of all
the possible values
investigated relationship between managerial
(e.g., we did not include values about equality or
ownership and market valuation. They found
environmental However, those values
empirical evidence that the market valuation first
that we did include are broadly
accepted as positive
increases with then decreases
managerial ownership, values for individuals and corporations to uphold
and finally increases as ownership by the board of
(Schwartz, 2005). The key values identified in our
directors rises.
index are: fair
accountability, courage, excellence,

4 The relation between ness, honor, trust, and

Hypothesis large block honesty, respect, integrity,
and company value is negative. responsibility. following Theis the model we used,
to estimate the CV-Index of a company:
When firm ownership is highly concentrated, the
market for
corporate control is ineffective. Man
agement can hardly be Incumbent man CV-Index
agement teams that operate can be
fired if large block holders are =
opposing proposals of CV-Index, where is an indicator
5Z/=i ?(p Ey
can force to variable which 1 if
management. They management resign equals the corporate Code of
and replace incumbent management with new board Ethics of firm i states a corporate value
j G [0,10]
members. When shareholders are inactive, incum
regardless the number of times Ey is mentioned in

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532Han Donker et al

the Code of Ethics. The

corporate values j G [0,10], states a
corporate value, such as:
include the following terms: [1] accountability, [2] courage, excellence, fairness, honesty, honor, re

courage, [3] excellence, [4] fairness, [5] honesty, [6] spect, trust, integrity and responsibility.
honor, [7] respect, [8] trust, [9] integrity, and [10] HI small = the percentage of shares owned by
responsibility. the largest shareholder who held less than 25%
= of shares owned
Hllarge the percentage by
the largest shareholder (=controlling share
Impact on market-to-book values holder) who held 25% or more.

Further, we investigated the effect of corporate Descriptive statistics for key variables for 240 com
values on MTB values of equity, and, we regressed panies are presented in Panel A of Table I. On
the following model: average, the ROA is negative (-5.03%), because we
ranked the largest 1,000 firms based on their after
MTB, = a0i+ &SIZE, + jS2LEV,
+ j33ROA, tax profits in their most recent fiscal year, excluding
+ j84CV Index,+ j85 gains or losses and selected the largest
Hlsmalk + P6Hllargei extraordinary
firms (1-50), medium-sized firms (500-600) and
= small-sized firms (900-1,000). The median ROA is
MTB the market value of the firm's equity
still positive (2.65%). We categorized firms with a
divided by the book value of the firm's assets.
owns more
SIZE = log total assets.
shareholder (i.e., shareholder who
than firms with a small
LEV = the percentage of total book debt over 25%), (i.e.,
shareholder who owns less than 25%), and firms with
total assets
= the over dispersed ownership. Firms with a large shareholder
ROA percentage of net earnings =
market (n 67) control 53.83% ofthe votes. The control
ling power of these large shareholders is substantial
CV = the log of the sum of indicator variables,
a firm and can impose entrenchment and cause dilution of
which equals one if the Code of Ethics of


statistics and correlation matrix


Panel A statistics Panel B Correlation matrix


Mean Median Min Max Size ROA

LEV CV Hlsmall Hllarge
SIZE (millions) 12,562 199 37 429,196 1.000
LEV (%) 20.39 16.19 0.00 80.27 0.191 1.000
ROA (%) -5.03 2.65 -136.04 29.31 0.306 -0.071 1.000
CV [0,10] 2.24 0.00 0.00 9.00 0.464 -0.011 0.144 1.000
Hlsmall 16.20 16.30 10.10 24.30 -0.212 -0.016 -0.021 -0.131 1.000
53.83 57.00 25.00 90.80 0.215 0.045 0.051 0.110 -0.314 1.000
Hllarge (%)

The table reports descriptive statistics and the correlation matrix for the sample of 240 firms that appeared in the 2004 The
Globe andMail 1000 hst of the largest publicly traded Canadian companies. SIZE is the total assets inmillions. LEV is the
of total book debt over total assets. ROA is the percentage of net over market Hlsmall
percentage earnings capitalization.
is the percentage of shares owned by the largest shareholder who held less than 25%. Hllarge is defined as the percentage of
shares owned by the largest shareholder (=controlling shareholder) who held more than 25%.
an CV-Index, = where E{j is an indicator variable which equals 1 if the
Corporate values are measured by Ylj=\ ?{/>
i states a corporate value the number of times ismentioned in the
corporate Code of Ethics of firm j 6 [0,10] regardless E{j
Code of Ethics. The corporate values^ G [0,10] contain the following terms: accountability [1], courage [2], excellence [3],
fairness [4], honesty [5], honor [6], respect [7], trust [8], integrity [9], and responsibility [10].

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Corporate Values, Codes of Ethics, and Firm Performance 533

shareholder's minority interests (Grossman and Hart, ethics across different sizes of firms, we used total
Firms with a small shareholder = assets as a measure
1980). (n 55) for firm size. Panel A illustrates
control on average 16.2%. Panel B of Table I shows that 84% of the large-sized firms and 54% of the
the correlation
among the
independent variables. small-sized firms have a published code of ethics
The highest correlation coefficient is 0.464 (between while 25% of the medium-sized firms have a pub
SIZE and CV). The correlations between other lished code. Hence, a substantially lower
portion of
variables are low. it indi medium-sized firms have a
explanatory quite Hence, published code of ethics.
cates that the extent of multi-collinearity problem is Panel B shows that in all sectors but finance, the use
minor. of a code of ethics is almost 50%. A majority of the
finance sector does not report having a code of
ethics. We found this pattern across firm size and
Empirical results industries to be surprising.
In Panel C of Table II, we demonstrate that
To identify whether or not firms publish a code of with a code of ethics are
companies statistically and
we searched the websites of the respective
ethics, significantly larger in size than companies without a
companies. The results on the use of a code of ethics code of ethics (p = 0.02). The difference in means
appear in Table II. To analyze the use of a code of with respect to the MTB ratio between companies

Code of ethics

Code of ethics No code of ethics Total number

Panel A
Large-sized firms (1-50) n= 38 (84%) n = 7 =45a
Medium-sized firms (500-600) n= 24 (25%) n= n=96a
72 (75%)
Small-sized firms (900-1,000) n= 53 (54%) n= n=99a
46 (46%)
I =
Total 115 (48%) I = 125 (52%) S = 240a
Panel B
Oil, gas, and mining ? = 23 n =
44n- 21
? = 39 ? =?=36
Industry 75
n ? 14
Finance ? = n=23
? = 39
Others ? =?=45
S = 115 (48%)
Total 2 = 125 (52%) Z = 240a

CodeC of ethics
Panel No code of ethics A inmeans
(standard deviation) (standard deviation) (p-values)
1.24 1.34
(1.02)(1.40) =
(p 0.52)
SIZE (inmillions) 20,598 5,168 15,430**
(66,218) (31,341) (p 0.02)
The sample contains statistics of the code of ethics of 250 publicly traded Canadian companies on December 31, 2004.
The sample is selected from The Globe andMail 1000 Hst of the largest publicly traded Canadian companies, measured by
assets and ranked to their after-tax in their most recent fiscal or
according profits year, excluding extraordinary gains losses.
The largest firms (1-50), medium-sized firms (500-600) and small-sized firms (900-1,000) were extracted from the
sample. MTB is the market divided total assets. ROA is the of net over
capitalization by percentage earnings market
capitalization. SIZE is the total assets in millions.
* Indicates statistical at the 1% and 5% and 10% levels,
***, **, significance respectively (two-sided
a tested).
Sample misses in total 10 observations, because financial data were not available.

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Han Donker et al.

TABLE III code of ethics (one or more times) with an emphasis

values on terms as: respect, responsibility,
Corporate integrity
and trust. These terms seem to be the most relevant
Panel A: Mean Number Min Max corporate values for most codes of ethics evaluated in
corporate values this study.
In this section, we
explore the influence of cor
0.271 I? = 65 0 3
Accountability porate values, ownership structure, and financial
Courage 0.171 Iw = 41 0 12
variables on firm performance. The OLS regression
Excellence 0.117 S? = 28 4 0
Fairness 0.342 I? = 82 6 0 analysis was conducted in order to estimate how
corporate values affect firm performance. Table IV
Honesty 0.550 Eh =132 0 6
the results of a cross-sectional
Honor 0.042 Eh = 10 0 1 displays regression

Respect 2.325 In = 558 0 29 analysis on firm performance where firm perfor

Trust 0.954 In = 229 0 46 mance is measured by the MTB ratio. The MTB

Integrity 1.700 Zn = 408 0 25 ratio is often used as a measure for growth oppor

Responsibility 1.783 In = 428 0 25 tunities. Therefore, we restructured the sample into

Total 0.825 IN = - two sub-samples based on high and low MTB
1,981 ratios
with a cut-off when MTB = 1. with a
Panel B: corporate Mean SD Min Max Companies
high MTB ratio are typical high-performance
value index

CV-Index 2.238 2.726 0 9.00 companies with

high growth potentials.
Ordinary least squares performance regressions for
The contains descriptive statistics of corporate each sample (total, high MTB, low MTB) reveal the
values of 250 traded Canadian on
publicly companies
following: The coefficient on SIZE has a negative
December 31, 2004. values are measured
sign and is significant at the 1% level for regression
the following CV-Index: CV-Index, = where
OLS1 and OLS 3 (MTB < 1) and is significant at the
]C/=i ?y>
an which 1 if the
Ey is indicator variable equals corporate 10% level for regression OLS 2 (MTB > 1). The
Code of Ethics of firm i states a corporate value jE. [0,10] evidence that returns are
empirical risk-adjusted
regardless the number of times Ey is mentioned in the
larger for small firms than for large firms is known as
Code of Ethics. The corporate values j contain the fol
the firm size effect. Banz (1981) showed that the size
lowing terms: accountability [1], courage [2], excellence on its common are
of a firm and the return stock
[3], fairness [4], honesty [5], honor [6], respect [7], trust
related. Although we do not estimate risk
[8], integrity [9], and responsibility [10]. inversely
returns, our results are not in contrast with
the small firm size effect. The coefficient of the
with a code of ethics and companies with no code of variable LEV is negative and significant all in
= This is in accor
ethics is not statistically significant (p 0.52). regressions. negative relationship
We also investigated the use of corporate values in dance with the under-investment theory (Myers,
more selective
codes of ethics. Panel A of Table III illustrates the 1977). The higher the LEV ratio, the
statistics of terms related to corporate values men managers will operate regarding new investment
tioned in the code of ethics. We focused on the projects and thus reduce new investment opportu
following terms: accountability, courage, excellence, nities and hence reduce firm value.
fairness, honesty, honor, respect, trust, integrity and The estimated coefficients on ROA are consis
These terms are mentioned 1,981 tently positive and statistically significant for regres
times in the codes of ethics. The most
named often sionOLS 1 (5% level) andOLS 3 (1% level).
are = The coefficient related to corporate values
corporate values (82%): respect (n 558), (CV)
= = and has the predicted and is statistically
responsibility (n 428), integrity (n 408), sign (positive)
trust (n = 229), whereas honor (n 10) is the least significant for regression model OLS 1 (10% level)
named corporate value. and OLS 3 (1% level) and is negative and insignifi
Panel B of Table III shows the average of the cant for model 2. The empirical results indicate that
= On two or values are positively related to firm
CV-Index (mean 2.238). average, corporate
more values are in the performance. In addition, the results show that
corporate reported respective

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Corporate Values, Codes of Ethics, and Firm Performance 535


The effects of values, structure, and financial characteristics on firm

corporate ownership performance


Independent variables Predicted sign OLS 1 All MTB OLS 2 High MTB (>1) OLS 3 Low MTB (<1)

- 4.513*** 4.866*** 1.443***

Intercept (0.557) (1.360) (0.159)
- -0.219*** -0.181* -0.061***
Size (SIZE) (0.044) (0.118) (0.012)
Leverage (LEV)? -1.563***a (0.422) -1.592*a (0.903) -0.246**a (0.112)
Return on assets (ROA) + 0.745** (0.356) 1.034 (0.971) 0.197*** (0.082)
values (CV) + 0.388* (0.263) -0.237 (0.490) 0.215*** (0.077)
SmaU shareholder (Hlsmall) + 0.007 (0.012) -0.002 (0.020) -0.004 (0.004)
- -0.004* 0.001 -0.001*
Large shareholder (Hllarge) (0.003) (0.007) (0.001)
Adj. R2 0.13
F-statistic 10.17*** 2.16*

Number of observations 92
106 198

= ao, +
This table reports regression of the form: MTB,
estimates from /^SIZE, + j32LEV,+ j83ROA,+
j?4CV,+ P5Hlsmalli -f P6Hllargei, where MTB is defined as the market capitalization divided by total assets.
SIZE is the log of total assets. LEV is the ratio of total book debt over total assets. ROA is the ratio of net earnings over
market capitalization. Hlsmall is the percentage of shares owned by the largest shareholder who held less than 25%.
Hllarge is defined as the percentage of shares owned by the largest shareholder (=controlling shareholder) who held more
than 25%.

values are measured an CV-Index: = where is the of the sum of the indicator
Corporate by CV, ^)> CV, log
variables is an indicator variable which 1 if the corporate Code of Ethics of firm / states a corporate value
Ej. Ej equals

j? [0,10]. The corporate values j contain the following terms: accountability [1], courage [2], excellence [3], fairness [4],
honesty [5], honor [6], respect [7], trust [8], integrity [9], and responsibility [10].
The standard errors are in
* Indicates statistical a
***, **, significance at the 1% and 5% and 10% levels, respectively (one-sided tested). Two-sided

corporate values are among the three most In such cases, the entrenchment that
signifi theory suggests
cant out of the six variables listed for companies with the market value of a firm will decrease for high
low MTB ratios. levels of

The variables related to ownership structure differ Our regression results indicate that the MTB
significantly between small and large shareholders. value decreases for
high levels
ownership of
We expected some form of entrenchment when (Hllarge). The estimated regression models have
there is a large shareholder (Hllarge). The coeffi adjusted R values ranging between 0.13 and 0.27,
cients for Hllarge are negative and significant for with F-statistics
corresponding statistically signifi
OLS 1 and OLS 3 (10%). This result is consistent cant. Diagnostic checks for the OLS estimation (not
with the entrenchment theory. Our findings are reported here) revealed no significant concern with
related to Morck et al. (1988) and McConnell and heteroskedasticity (White test).
Servaes (1990), although they focused their studies In sum, taking all firms together, the findings of
managerial entrenchment. We argue that the the multivariate analysis show that firm performance:
market for corporate control is ineffective when the (a) increases with increases in the appearance of
ownership structure of a firm is highly concentrated. ethical value terms, (b) decreases with firm size, (c)

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Han Donker et al.

decreases with debt ratio, (d) increases with ROA, rather in an integrated fashion incorporates ethics and
and (f) decreases with shareholdings of large share firm performance as part of a rational decision
holders (holdings more than 25%). making model of operation.
Separating firms into high and low MTB, results
show that increases in the appearance of ethical value
terms in annual reports has no significant impact on Conclusions
the former and a significant impact on the latter. In
fact, it is only the latter association that seems to In this empirical study, we introduced two new
drive the result in the first regression. As well, 4 of models, identified a set of parameters (values) that
the 6 predictors of firm performance in the high represents a CV-Index and generated a set of
MTB case have no significant impact. hypotheses to test the impact of the CV-Index on

corporate performance. The purpose of our first

model (CV-Index) is to numerically quantify CV
Implications using 10 values that represent an integrated set of

corporate values; and the second is a model that

Boatright (2000, p. 9) argued that when faced with calculates the influence of corporate values on
an ethical problem, "the ideal resolution is not a MTB-value. Our findings suggest a positive and
trade-off between ethics and other consider statistically significant relationship between corpo
ations... but a decision thatis ethically defensible rate values and firm performance. This article
while at the same time satisfying the legitimate emphasizes the significance of business ethics and
demands of economic performance and a company's corporate social responsibility for business strategies

legal obligation." and practices. Since corporate ethics arise out of

We strongly agree. It is critically important to social associations in the context of corporate culture
business ethics that minimally there are no disin and management interaction processes, the practical
centives to acting ethically for business people. Other application of such ethics in the day-to-day business
is a better place ifwhen more clarification for
things being equal, the world operations requires strategic
businesses are given the choice between choosing executives and managers in organizational terms.
actions that are consistent with the values that we
identified in our study versus making choices that are
not consistent with integrity, fairness, courage, Note
and so forth that make choices con
honesty, they
sistent with good ethical values. Since a primary focus It should be noted that Dentchev used 'expert' data

of business is to increase firm performance, rather than financial performance data in this study.
evidence that reinforces consistency between

espousing ethical values and positive firm perfor

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