This study investigates how social capital affects managers’ use of corporate resources. We find that for firms located in U.S. counties with a high level of social capital, (i) corporate cash holdings have higher marginal value, (ii) the contribution of capital expenditures to shareholder value is higher, and (iii) acquirers experience higher announcement-period abnormal stock returns. We further find that social capital decreases both over- and under-investment, and thus improves ex post corporate investment efficiency. Our evidence suggests that in communities with a high level of social capital, strong social norms and dense social networks constrain unethical corporate behavior, which induces more efficient use of corporate resources.
This is a preview of subscription content, access via your institution.
Buy single article
Instant access to the full article PDF.
Tax calculation will be finalised during checkout.
Subscribe to journal
Immediate online access to all issues from 2019. Subscription will auto renew annually.
Tax calculation will be finalised during checkout.
The data used in this study are available from the public sources identified in the paper.
Prior studies in these disciplines have found that social capital improves governmental performance (Knack 2002; Putnam et al. 1993), promotes economic growth (Knack and Keefer 1997), reduces crime rates (Buonanno et al. 2009), and improves individuals’ career prospects (Burt 2000; Lin et al. 1981).
Specifically, one dollar of cash holdings is, on average, worth less than one from shareholders’ perspective (Faulkender and Wang 2006), because shareholders anticipate managers will waste part of the cash holdings for purposes such as empire building (Dittmar and Mahrt-Smith 2007; Masulis et al. 2007). Similarly, a large number of acquisitions have near-zero or negative announcement returns, because shareholders perceive these acquisitions as value-destroying (Andrade et al. 2001; Moeller et al. 2004).
In their review paper, Adler and Kwon (2002) identify 23 definitions of social capital.
Consistent with these views, Hilary and Hui (2009) find that firms headquartered in a county where the level of religious participation is high tend to exhibit lower risk exposure. Dyreng et al. (2012) find that managers tend to adopt less aggressive accrual choices if the manager’s firm is headquartered in a county with a higher level of religious participation. In the U.S., Di Giuli and Kostovetsky (2014) find that firms headquartered in Democrat-leaning states have higher CSR ratings than firms headquartered in Republican-leaning states.
Similar to our arguments, Hoi et al (2018) suggest that social capital constrains opportunistic managerial behavior such as CEO overcompensation. The study of Hoi et al (2018) focuses on the relation between social capital and rent extraction in CEO overcompensation, while our study focuses on how social capital affects opportunistic managerial behavior associated with corporate cash holdings, capital expenditures, and corporate acquisitions.
Respn and Pvote capture the norm aspect of social capital, while Nccs and Assn capture the network aspect of social capital.
Since the data are not available for every year (e.g., some of the data are obtained from the decennial survey), following Hilary and Hui (2009), values in the missing years are filled by linear interpolation.
Following Masulis et al. (2007), the parameters of the model are computed over the period trading days [− 210, −11], with the CRSP value-weighted return as the market return. We require at least 60 observations to be available during the estimation period.
The data are available on request from NERCRD (http://aese.psu.edu/nercrd).
The descriptive statistics of the variables used in the analysis of capital expenditures are very similar to those in the analysis of the cash holdings, so, for brevity, we do not present these.
Consistent with Verdi (2006), we find far more firms that under-invest (50,263 firm-year observations) than over-invest (23,147 firm-year observations), suggesting that the residuals are highly right-skewed.
Adler, P. S., & Kwon, S. (2002). Social capital: Prospects for a new concept. Academy of Management Review, 27(1), 17–40.
Akerlof, G. A. (1980). A theory of social custom, of which unemployment may be one consequence. The Quarterly Journal of Economics, 94(4), 749.
Akerlof, G. A. (2007). The missing motivation in macroeconomics. American Economic Review, 97(1), 5–36.
Altman, E. I. (1968). Financial ratios, discriminant analysis and the prediction of corporate bankruptcy. The Journal of Finance, 23(4), 589.
Andrade, G., Mitchell, M., & Stafford, E. (2001). New evidence and perspectives on mergers. Journal of Economic Perspectives, 15(2), 103–120.
Banfield, E. (1967). The moral basis of a backward society. New York: Free Press.
Bates, T. W., Kahle, K., & Stulz, R. M. (2009). Why do U.S. firms hold so much than they used to? The Journal of Finance, 64(5), 1985–2021.
Benlemlih, M., & Bitar, M. (2018). Corporate social responsibility and investment efficiency. Journal of Business Ethics, 148(3), 647–671.
Bicchieri, C. (2006). The grammar of society. New York: Cambridge University Press.
Biddle, G. C., & Hilary, G. (2006). Accounting quality and firm level capital investment. The Accounting Review, 81(5), 963–982.
Biddle, G. C., Hilary, G., & Verdi, R. S. (2009). How does financial reporting quality relate to investment efficiency? Journal of Accounting and Economics, 48(2–3), 112–131.
Blanchard, O. J., Lopez-de-Silanes, F., & Shleifer, A. (1994). What do firms do with cash windfalls? Journal of Financial Economics, 36(3), 337–360.
Boone, J. P., Khurana, I. K., & Raman, K. K. (2013). Religiosity and tax avoidance. The Journal of the American Taxation Association, 35(1), 53–84.
Buonanno, P., Montolio, D., & Vanin, P. (2009). Does social capital reduce crime? The Journal of Law and Economics, 52(1), 145–170.
Burt, R. S. (2000). The network structure of social capital. Research in Organizational Behavior, 22, 345–423.
Bushman, R. M., & Smith, A. J. (2001). Financial accounting information and corporate governance. Journal of Accounting and Economics, 32(1–3), 237–333.
Chang, E. C., Lin, T., & Ma, X. (2018). Does short-selling threat discipline managers in mergers and acquisitions decisions? Journal of Accounting and Economics, 67(1), 1–10. https://doi.org/10.1016/j.jacceco.2018.12.002.
Chen, T., Harford, J., & Lin, C. (2015). Do analysts matter for governance? Evidence from natural experiments. Journal of Financial Economics, 115(2), 383–410.
Cheng, M., Dhaliwal, D., & Zhang, Y. (2013). Does investment efficiency improve after the disclosure of material weaknesses in internal control over financial reporting? Journal of Accounting and Economics, 56(1), 1–18.
Cialdini, R. B., Kallgren, C. A., & Reno, R. R. (1991). A focus theory of normative conduct: A theoretical refinement and reevaluation of the role of norms in human behavior. Advances in Experimental Social Psychology, 24, 201–234.
Claessens, S., Djankov, S., Fan, J., & Lang, L. (2002). Disentangling the incentive and entrenchment of large shareholdings. The Journal of Finance, 57(6), 2741–2771.
Coleman, J. S. (1988). Social capital in the creation of human capital. American Journal of Sociology, 94, 95–120.
Coleman, J. S. (1990). Foundations of social theory. Cambridge, MA: Harvard University Press.
Core, J. E., Abramova, I., & Verdi, R. S. (2016). Geographic spillovers and corporate decisions, Working paper, Cambridge, MA: Massachusetts Institute of Technology
Dechow, P. M., & Dichev, I. D. (2002). The quality of accruals and earnings: The role of accrual estimation errors. The Accounting Review, 77(s-1), 35–59.
Di Giuli, A., & Kostovetsky, L. (2014). Are red or blue companies more likely to go green? Politics and corporate social responsibility. Journal of Financial Economics, 111(1), 158–180.
Dittmar, A., & Mahrt-Smith, J. (2007). Corporate governance and the value of cash holdings. Journal of Financial Economics, 83(3), 599–634.
Durnev, A., & Kim, E. H. (2005). To steal or not to steal: Firm attributes, legal environment, and valuation. The Journal of Finance, 60(3), 1461–1493.
Dyreng, S. D., Mayew, W. J., & Williams, C. D. (2012). Religious social norms and corporate financial reporting. Journal of Business Finance and Accounting, 39(7–8), 845–875.
Elster, J. (1989). Social norms and economic theory. Journal of Economic Perspectives, 3(4), 99–117.
Faulkender, M., & Wang, R. (2006). Corporate financial policy and the value of cash. The Journal of Finance, 61(4), 1957–1990.
Ferris, S. P., Javakhadze, D., & Rajkovic, T. (2017). The international effect of managerial social capital on the cost of equity. Journal of Banking & Finance, 74, 69–84.
Frésard, L., & Salva, C. (2010). The value of excess cash and corporate governance: Evidence from US cross-listings. Journal of Financial Economics, 98(2), 359–384.
Fukuyama, F. (1997). Social capital and the modern capitalist economy: Creating a high trust workplace. Stern Business Magazine, 4(1), 1–16.
Fukuyama, F. (2001). Social capital, civil society and development. Third World Quarterly, 22(1), 7–20.
Gao, Z., Lu, L. Y., & Yu, Y. (2017). Local social environment, firm tax policy, and firm characteristics. Journal of Business Ethics (forthcoming).
García Lara, J. M., García Osma, B., & Penalva, F. (2016). Accounting conservatism and firm investment efficiency. Journal of Accounting and Economics, 61(1), 221–238.
Gow, I. D., Ormazabal, G., & Taylor, D. J. (2010). Correcting for cross-sectional and time-series dependence in accounting research. The Accounting Review, 85(2), 483–512.
Greenberg, J. (1990). Employee theft as a reaction to underpayment inequity: The hidden cost of pay cuts. Journal of Applied Psychology, 75(5), 561–568.
Gross-Schaefer, A., Trigilio, J., Negus, J., & Ro, C. S. (2000). Ethics education in the workplace: An effective tool to combat employee theft. Journal of Business Ethics, 26(2), 89–100.
Guiso, L., Sapienza, P., & Zingales, L. (2008). Trusting the stock market. Journal of Finance, 63(6), 2557–2600.
Hasan, I., Hoi, C. K., Wu, Q., & Zhang, H. (2017a). Does social capital matter in corporate decisions? Evidence from corporate tax avoidance. Journal of Accounting Research, 55(3), 629–668.
Hasan, I., Hoi, C. K., Wu, Q., & Zhang, H. (2017b). Social capital and debt contracting: Evidence from bank loans and public bonds. Journal of Financial and Quantitative Analysis, 52(3), 1017–1047.
Hilary, G., & Hui, K. W. (2009). Does religion matter in corporate decision making in America? Journal of Financial Economics, 93(3), 455–473.
Hoi, C. K. S., Wu, Q., & Zhang, H. (2018). Does social capital mitigate agency problems? Evidence from Chief Executive Officer (CEO) compensation. Journal of Financial Economics. https://doi.org/10.1016/j.jfineco.2019.02.009.
Holland, J. (1976). Vocational preferences. In M. Dunnette (Ed.), Handbook of industrial and organizational psychology (pp. 521–570). Chicago, IL: Rand McNally.
Hong, H., Kubik, J. D., & Scheinkman, J. A. (2012). Financial constraints on corporate goodness, Working Paper No. 18476, NBER, Cambridge, MA.
Hoshi, T., Kashyap, A., & Scharfstein, D. (1991). Corporate structure, liquidity, and investment: Evidence from Japanese industrial groups. The Quarterly Journal of Economics, 106(1), 33–60.
Jarrell, G. A., Brickley, J. A., & Netter, J. M. (1988). The market for corporate control: The empirical evidence since 1980. Journal of Economic Perspectives, 2(1), 49–68.
Javakhadze, D., Ferris, S. P., & French, D. W. (2016). Social capital, investments, and external financing. Journal of Corporate Finance, 37, 38–55.
Jensen, M. C. (1986). Agency costs of free cash flow, corporate finance, and takeovers. American Economic Review, 76(2), 323–329.
Jensen, M. C., & Meckling, W. H. (1976). Theory of the firm: Managerial behavior, agency costs and ownership structure. Journal of Financial Economics, 3(4), 305–360.
Jensen, M. C., & Ruback, R. S. (1983). The market for corporate control. Journal of Financial Economics, 11(1–4), 5–50.
Jha, A., & Chen, Y. (2015). Audit fees and social capital. The Accounting Review, 90(2), 611–639.
Jiang, F., Kim, K. A., Ma, Y., Nofsinger, J. R., & Shi, B. (2019). Corporate culture and investment–cash flow sensitivity. Journal of Business Ethics, 154(2), 425–439.
Kahan, D. M. (1997). Social influence, social meaning, and deterrence. Virginia Law Review, 83(2), 349.
Knack, S. (2002). Social capital and the quality of government: Evidence from the States. American Journal of Political Science, 46(4), 772.
Knack, S., & Keefer, P. (1997). Does social capital have an economic payoff? A cross-country investigation. The Quarterly Journal of Economics, 112(4), 1251–1288.
La Porta, R., Lopez-De-Silanes, F., Shleifer, A., & Vishny, R. (2002). Investor protection and corporate valuation. The Journal of Finance, 57(3), 1147–1170.
Lang, L. H., Stulz, R. M., & Walkling, R. A. (1991). A test of the free cash flow hypothesis: The case of bidder returns. Journal of Financial Economics, 29(2), 315–335.
Lin, N., Ensel, W. M., & Vaughn, J. C. (1981). Social resources and strength of ties: Structural factors in occupational status attainment. American Sociological Review, 46(4), 393–405.
Lin, C., Officer, M. S., & Zou, H. (2011). Directors’ and officers’ liability insurance and acquisition outcomes. Journal of Financial Economics, 102(3), 507–525.
Lindbeck, A. (1995). Welfare state disincentives with endogenous habits and norms. Scandinavian Journal of Economics, 97(4), 477–494.
Lins, K. V. (2003). Equity ownership and firm value in emerging markets. Journal of Financial and Quantitative Analysis, 38(1), 159–184.
Louis, H., Sun, A. X., & Urcan, O. (2012). Value of cash holdings and accounting conservatism. Contemporary Accounting Research, 29(4), 1249–1271.
Masulis, R. W., Wang, C., & Xie, F. (2007). Corporate governance and acquirer returns. The Journal of Finance, 62(4), 1851–1889.
Masulis, R. W., Wang, C., & Xie, F. (2009). Agency problems at dual-class companies. The Journal of Finance, 64(4), 1697–1727.
McNichols, M. F., & Stubben, S. R. (2008). Does earnings management affect firms’ investment decisions? The Accounting Review, 83(6), 1571–1603.
Moeller, S. B., Schlingemann, F. P., & Stulz, R. M. (2004). Firm size and the gains from acquisitions. Journal of Financial Economics, 73(2), 201–228.
Morck, R., Shleifer, A., & Vishny, R. W. (1990). Do managerial objectives drive bad acquisitions? The Journal of Finance, 45(1), 31–48.
Opler, T., Pinkowitz, L., Stulz, R. M., & Williamson, R. (1999). The determinants and implications of corporate cash holdings. Journal of Financial Economics, 52(1), 3–46.
Petersen, M. A. (2009). Estimating standard errors in finance panel data sets: Comparing approaches. Review of Financial Studies, 22(1), 435–480.
Portes, A. (1998). Social capital: Its origins and applications in modern sociology. Annual Review of Sociology, 24(1), 1–24.
Posner, R. A. (1997). Social norms and the law: An economic approach. The American Economic Review, 87(2), 365–369.
Putnam, R. D. (2000). Bowling alone: The collapse and revival of American community. New York: Simon & Schuster.
Putnam, R. D. (2001). Social capital: Measurement and consequences. Canadian Journal of Policy Research, 2(1), 41–51.
Putnam, R. D., Leonardi, R., & Nanetti, R. Y. (1993). Making democracy work: Civic traditions in modern Italy. Princeton, NJ: Princeton University Press.
Richardson, S. (2006). Over-investment of free cash flow. Review of Accounting Studies, 11(2–3), 159–189.
Rupasingha, A., Goetz, S. J., & Freshwater, D. (2006). The production of social capital in US counties. Journal of Socio-Economics, 35(1), 83–101.
Schneider, B. (1987). The people make the place. Personnel Psychology, 40(3), 437–453.
Sunstein, C. R. (1996). Social norms and social roles. Columbia Law Review, 96(4), 903–968.
Thompson, S. B. (2011). Simple formulas for standard errors that cluster by both firm and time. Journal of Financial Economics, 99(1), 1–10.
Tom, V. R. (1971). The role of personality and organizational images in the recruiting process. Organizational Behavior and Human Performance, 6(5), 573–592.
Verdi, R. S. (2006). Financial reporting quality and investment efficiency, Working paper, Cambridge, MA: Massachusetts Institute of Technology
Vroom, V. H. (1966). Organizational choice: A study of pre- and postdecision processes. Organizational Behavior and Human Performance, 1(2), 212–225.
Wang, T., & Bansal, P. (2012). Social responsibility in new ventures: Profiting from a long-term orientation. Strategic Management Journal, 33(10), 1135–1153.
Woolcock, M. (2001). The place of social capital in understanding social and economic outcomes. Canadian Journal of Policy Research, 2, 11–17.
Wright, P., & Ferris, S. P. (1997). Agency conflict and corporate strategy: The effect of divestment on corporate value. Strategic Management Journal, 21(2), 127–154.
Conflict of interest
All authors declared that they have no conflict of interest.
Springer Nature remains neutral with regard to jurisdictional claims in published maps and institutional affiliations.
Appendix: Definitions of Variables Used
Appendix: Definitions of Variables Used
- Social Capital :
is based on the social capital measure of Rupasingha et al. (2006). It is computed by using the first principal component from Respn (the response rate to the surveys conducted by the U.S. Census Bureau), Pvote (voter turnout in the U.S. presidential elections), Nccs (the number of non-governmental organizations), and Assn (the number of social associations)
- Age :
is the county-level median age of the population
- Income :
is the household median income in each county
- Population :
is the county-level population size
- Pop_Density :
is population per square mile in a county
- Pop_Growth :
is the 10-year percentage change in population in a county
- Married :
is the percentage of the population over 15 that is currently married in a county
- Minority :
is the county-level percentage of minorities
- Religious :
is the county-level percentage of religious adherents; this variable is computed following Hilary and Hui (2009)
- AbRet :
is abnormal stock return over the year ending three months after the end of the year, calculated by subtracting the Fama–French book-to-market and size-matched portfolio return from the raw return
- ΔCash :
is a change in the sum of cash and marketable securities, divided by the market value of equity at the year-beginning
- ΔCapex :
is change in capital expenditure divided by market value of equity at the year-beginning
- Analysts :
is log (1 + the number of analysts covering a firm)
- Institutions :
is the percentage of firm shares held by institutional investors
- Leverage :
is total debt over market value of total assets
- Earnings :
is earnings before extraordinary items divided by market value of equity
- ΔNCA :
is change in non-cash assets of the year divided by market value of equity at the year-beginning
- ΔR&D :
is change in R&D expenses of the year divided by market value of equity at the year-beginning
- ΔInterest :
is change in interest expense of the year divided by market value of equity at the year-beginning
- ΔDividend :
is change in cash dividend payment of the year divided by market value of equity at the year-beginning
- NetFinancing :
is calculated as equity issue minus equity repurchases plus change in long-term debt, divided by lagged market value of equity at the year-beginning
- CAR :
is acquirer’s announcement-period abnormal returns. It is computed as the sum of [− 2, + 2] daily abnormal returns, where day 0 is the date of acquisition announcement. Abnormal returns are residuals from a standard market model, whose parameters are from the day − 210 to day − 11, using value-weighted return of CRSP as the market return. We require at least 60 observations to be available during this estimation period
- MB :
is the ratio of the market value of total assets to book value of total assets
- ROA :
is net income over book value of total assets
- DealSize :
is the ratio of transaction value to acquirer’s market value
- HighTech :
is an indicator variable that equals 1 if acquirer and target are both from the hightech industries, and zero otherwise
- Diversifying :
is an indicator variable that equals one if acquirer and target are not in the same Fama–French 48-industry classification, and zero otherwise
- Public :
is an indicator variable that equals 1 for public targets, and zero otherwise
- Private :
is an indicator variable that equals 1 for private targets, and zero otherwise
- Sub :
is an indicator variable that equals 1 for subsidiary targets, and zero otherwise
- CashDeal :
is an indicator variable that equals 1 for purely cash-financed deals, and zero otherwise
- StockDeal :
is an indicator variable that equals 1 for deals at least partially stock financed, and zero otherwise
- Investment :
is the sum of capital, acquisition, and R&D (zero if missing) expenditures, minus cash receipts from sale of PPE, multiplied by 100 and divided by lagged total assets
- OverInv :
is a ranked variable based on the ranked decile cash and leverage, where leverage is multiplied by − 1 before the ranking, so both cash and leverage are increasing in the likelihood of over-investment
- DD_AQ :
is a measure of accrual quality calculated from the standard deviation of firm-level residuals from the Dechow and Dichev’s (2002) model during the previous five years and multiplied by − 1
- CFOVol :
is the standard deviation of cash flow from operations divided by average total assets from the year t − 5 to the year t − 1
- SalesVol :
is the standard deviation of sales divided by average total assets from the year t − 5 to the year t − 1
- InvVol :
is the standard deviation of total investment divided by average total assets from the year t − 5 to the year t − 1
- ZScore :
is the Altman Z score (Altman 1968)
- Tangibility :
is the ratio of PPE to total assets
- IndKStructure :
is the industry mean value of each firm’s ratio of long-term debt to the sum of long-term debt to the market value of equity
- CFOSale :
is the ratio of CFO to sales
- Dividend :
is an indicator variable that equals 1 if the firm paid a dividend, and zero otherwise
- Firm_Age :
is the log of 1 plus the difference between the current year and the first year in which the firm appears in Compustat
- OperCycle :
is the log of receivables to sales plus inventory to COGS multiplied by 360
- Loss :
is an indicator variable that equals 1 if net income before extraordinary items is negative, and zero otherwise
About this article
Cite this article
Gao, Z., Li, L. & Lu, L.Y. Social Capital and Managers’ Use of Corporate Resources. J Bus Ethics 168, 593–613 (2021). https://doi.org/10.1007/s10551-019-04223-7
- Social capital
- Cash holdings
- Capital expenditure
- Agency problem
- Investment efficiency