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Political connections and profit persistence in India

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Abstract

The extant literature on corporate political activities has extensively examined whether and how political connections help in improving performance. We extend this literature by examining whether and how political connections help in profit persistence, a fundamental concern for firms. Using a unique panel dataset of politicians who were elected at either the national or state level in India and examining their membership on the board of directors of firms, we find that firms with political connections demonstrate higher profit persistence. Further, we report that connections with state-level politicians have a larger effect on persistence compared to connections with national-level politicians. This finding emphasizes the importance of micro and recurring benefits in emerging economies such as India, in the form of help with acquiring licenses, permits, land and infrastructure, which are usually provided by state-level politicians relative to policy-related benefits, which are typically provided by national-level politicians. Our results also show that political connections have a greater effect on profit persistence for firms that are affiliated to business groups. Our results suggest that political connections seem to operate as higher-order resources, defined as resources that do not contribute to profits directly but can affect other resources that in turn affect profits over time.

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Notes

  1. It may seem counter-intuitive to argue that CPA can lead to profit persistence even when they do not have a direct effect on profits. A simple example can demonstrate why this is not contradictory. Consider the sustained profits that Coca-Cola and PepsiCo earn in the soft drinks industry. These can be attributed to limited rivalry (monopoly rents), or to their marketing capabilities in building and sustaining a brand (Ricardian rents) (Peteraf, 1993). In addition, to sustain their profits, these firms lobbied the US Congress to pass a legislation that preserved their right to grant exclusive territories to their bottlers (Yoffie, 2009). This political lobbying activity did not directly create profits; rather, it sustained the profits that these two companies were already making through limited rivalry and their marketing capabilities. Thus, the factors that lead to firm profits (such as limited rivalry or marketing capabilities) can be different from those (such as CPA) that lead to profit persistence, a point that we will discuss in more detail later in the paper.

  2. Given the nature of CPA—it can be secretive and may attract penalties if revealed—it is difficult to provide direct and concrete evidence that political directors can influence government actions (Hadani and Schuler, 2013; Hillman et al., 1999; Lester et al, 2008). However, prior literature provides several anecdotal examples of how political directors can influence legislation and regulation (for example, see Hillman et al., 1999). The collective evidence from the broad literature on CPA (for example Baron, 1997; Frynas, Mellahi and Pigman, 2006; Hillman et al, 2004; Lux, 2016; Marvel, 1977; Rajwani and Liedong, 2015) is also in line with our claim that political directors can influence policies, legislation, regulation, and enforcement.

  3. It is important to note that new projects are initiated by established companies as well. In fact, data from the Prowess Capex database shows that a large fraction of new projects in India (over 90%) are announced by firms that are more than 5 years old.

  4. This ranking has been discontinued recently due to allegations about data manipulation. However, this does not negate the conclusion about the low ease of doing business in India.

  5. As Sen (2017, p. 14) notes: “In recent decades, politicians weakened the independent bureaucracy through several mechanisms in order to make them more pliant. These include: (a) using frequent transfers of recalcitrant and upright officers to unimportant posts as a way of “incentivizing” compliance; (b) dividing the bureaucracy and creating “friendly” officers through favouritism in posting and promotions based on caste identities; (c) favouring civil servants based on political affinity; and (d) damaging careers of non-compliant officers by writing unfair and discriminatory annual confidential reports (ACRs).”.

  6. The importance of state-level political connections in India is reflected in the interest in state-level elections. Additional data that we collected revealed that voting percentages are higher for state elections than for national elections in India. While the mean voting percentage for state elections in India across 20 years is 71.83%, it is 66.39% for national elections. The difference of 5.44% is statistically significant (T-test statistics=5.04). Thus, Werner's (2017) arguments about the low salience of state elections do not seem to apply to India.

  7. http://adrindia.org/research-and-reports/election-watch

  8. CMIE Prowess is the most widely used database by academic researchers for financial information on Indian companies. It includes data on over 50,000 companies (including all listed companies).

  9. A promoter is a person “who has control over the affairs of the company, directly or indirectly whether as a shareholder, director or otherwise” (The Companies Act, 2013, Sect. 1:69B). Promoter ownership refers to the total percentage of common shares held by the controlling owner group (Securities and Exchange Board of India Regulations on substantial acquisition of shares and takeovers, 1997, Sect. 11E and 11H).

  10. Awasthi et al.’s (2019) multi-dimensional index of regulated industries has eight constituent parameters: (i) the presence of an industry regulator, (ii) market entry restrictions on Foreign Direct Investment (FDI), (iii) regulation regarding the protection of domestic industries from foreign competition, (iv) regulation related to quantitative restrictions on the trade of goods and services, (v) whether industry belongs to the natural resources industry or the infrastructure sector, (vi) the extent of regulator control over the industry owing to the government being either a major buyer or supplier of the concerned industry, (vii) the perspective of independent agents such as media analysts on the rent seeking potential of the industry thereby abetting crony capitalism, and (viii) Pittman’s (1977) seminal work which listed industries that have state or national regulation. An industry was classified as regulated if a minimum of four of the above eight parameters fullfed the required criteria.

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Acknowledgment

The authors gratefully acknowledge the valuable inputs of Manish Srivastava, Rajiv Kozhikode, Ravee Chittoor, Dalhia Mani, the Senior Editor Anna Lamin and three anonymous reviewers of APJM which greatly helped in the development of the paper. We would also like to thank the participants at the Academy of Management Conference, Strategic Management Society Conference and IMRDC Conference for their comments during the presentations of earlier versions of the paper.

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Authors and Affiliations

  1. Strategic Management, Indian Institute of Management Lucknow, 119, Chintan Building, Prabandh Nagar, IIM Road, Lucknow, 226013, Uttar Pradesh, India

    Kshitij Awasthi

  2. Strategy, Indian Institute of Management Bangalore, Bangalore, India

    Sai Yayavaram & Rejie George

  3. Decision Sciences & Information Systems, Indian Institute of Management Bangalore, Bangalore, India

    Trilochan Sastry

Authors
  1. Kshitij Awasthi
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  2. Sai Yayavaram
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  3. Rejie George
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  4. Trilochan Sastry
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Correspondence to Kshitij Awasthi.

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Appendices

Appendix 1

Licenses, Permits, Clearances, and Approvals Required for a Business in India

Approvals/Clearances Required

Jurisdiction

Incorporation of company

Central Government

Registration/IEM/Industrial license

District Administration/State Government

Allotment of land

State Government

Permission for land use

District Administration/State Government

NOC and consent under Water and Air Pollution Control Acts

State Government

Approval of construction activity and building plan

Various local authorities

Sanction of power

State Electricity Board

Finance

State Financial Corporation

Registration under States Sales Tax Act, and Central and State Excise Act

State Government & Central Government

Extraction of minerals

State Director of Mines and Geology

ISI Certificate

Regional Office of the Bureau of Indian Standards (BIS), Central Government

Quality Marking Certificate

State Government

Weights and measures

Local authorities/State Government

Code Number for export and import

Regional Office of Director General of Foreign Trade (DGFT), Central Government

Other legislations (vary by states)

Inspection, registration, and licensing of factories

State Government

Health, safety, and welfare of workers

State Government

Working conditions of employees

State Government

Other approvals/facilities required from local authorities

Design plan/structural plan approval and site inspection

Local Authorities

NOC from Tree authority & Approach Road Certificate

Local Authorities

NOCs from Storm Water and Drain Department, Sewerage Department, Electric Department, Traffic and Coordination Department, Chief Fire Office

Local Authorities

Commencement certificate

Local Authorities

Water and sewerage connection

Local Authorities

Completion and occupancy certificates

Local Authorities

Property registration

Local Authorities

Regulations/Compliances for a Running a Business

Sector/Industry-specific compliances and reporting

Central Government/State Government

Disclosures and quality control

Central/State Government/Local Authorities

Renewing licenses and obtaining patents

Central/State Government/Local Authorities

External trade and foreign exchanges

Regional Office of DGFT, Central Government

Settlement of industrial disputes

Central/State Government/Local Authorities

  1. *NOC: No-objection certificate.
  2. Sources:
  3. a) Department of Industrial Policy & Promotion. Government of India 2015. Approval/Clearances Required for New Projects.
  4. b) Ernst & Young. 2013. Doing business in India
  5. c) World Bank., 2016. Ease of Doing Business-India.
  6. d) Report of the Working Group on Business Regulatory Framework (2011) “Towards Optimal Business Regulatory Governance in India” Steering Committee on Industry, Planning Commission of India
  7. e) Singh, V. V., & Mitra, S. 2012. Regulatory management and reform in India. CUTS International.

Appendix 2 Additional Robustness Checks

Tables 5, 6, 7, 8, 9, 10 and 11

Table 5 Panel Data Regression Results for Return on Sales (Elected vs Appointed)
Full size table
Table 6 Panel Data Regression Results for Return on Sales (Dynamic Panel Model with 1–3 Lags as Instruments)
Full size table
Table 7 Panel Data Regression Results for Return on Sales (Dynamic Panel Model with All Lags as Instruments)
Full size table
Table 8 Panel Data Regression Results for Return on Sales (With additional control variables)
Full size table
Table 9 Panel Data Regression Results for Return on Sales (Dynamic Panel Model with 1–2 Lags as Instruments) Regulated Industries & Non-Regulated Industries samples
Full size table
Table 10 Panel Data Regression Results for Return on Sales (Dynamic Panel Model with 1–2 Lags as Instruments) Manufacturing & Non-Manufacturing Firm samples
Full size table
Table 11 Panel Data Regression Results for Return on Sales (Dynamic Panel Model with 1–2 Lags as Instruments) – Business & Non-Business Group Firm samples
Full size table

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Awasthi, K., Yayavaram, S., George, R. et al. Political connections and profit persistence in India. Asia Pac J Manag (2024). https://doi.org/10.1007/s10490-024-09945-5

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