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Article topic - Corporate sustainability and financial performance: Collective reputation as moderator of the relationship between environmental performance and firm market value
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Seonghoon Kim | Ann Terlaak | Matthew Potoski Bren School of Environmental Science and Management, University of California-Santa Barbara, Santa Barbara, California, USA "Wisconsin School of Business, University of Wisconsin-Madison, Madison, Wisconsin, USA Correspondence Seonghoon Kim, Bren School of Environmental Science and Management, University of California-Santa Barbara, Bren Hall 3017, Santa Barbara, CA 93106, USA. Email: seonghoon kim@bren.ucsb.edu Abstract Markets value superior corporate sustainability performance in part because investors use a firm's environmental performance as a signal of desirable but difficult-to-observe attributes, such as the firm's integrity capacity. Yet a signaling conflict can arise when a firm belongs to an organizational form that has a collective reputation for being unethical. In such circumstances, the firm's environmental performance may no longer credibly signal its underlying integrity capacity, leading markets to adjust downward the value they would otherwise place on the firm's environmental performance. Using longitudinal data on South Korean firms, we find that improvements in firm environmental performance lead to smaller increases in market values for firms belonging to a poorly reputed organizational form. However, firms can partially recover lost value by adopting firm features that reduce the signaling conflict, thereby restoring the notion of corporate sustainability performance driving firm market values. KEYWORDS collective reputation, corporate sustainability, environmental performance, firm market value 1 INTRODUCTION Scholars and practitioners increasingly find better firm environmental performance to increase firm market value (Busch & Lewandowski, 2018; Chan & Walter, 2014; Hang, Geyer-Klingeberg, & Rathgeber, 2019). A positive relationship between environmental performance and firm value may come about because better environ- mental performance can reduce compliance costs and the risk of envi- ronmental lawsuits while increasing operational efficiencies, legitimacy, and access to pricing premia and market opportunities (Amber & Lanoie, 2008; Bansal & Roth, 2000; Habib & Bhuiyan, 2017). Yet these direct benefits are but one of the drivers connecting environmental performance and firm market value. Another driver is indirect benefits that stem from capital markets using a firm's environmental performance as a signal of valuable underlying firm attributes such as the firm's general management capacity as well as integrity capacity, that is, its higher ethical Bus Strat Env. 2021:30:1689-1701. wileyonlinelibrary.com/journal/bse standards and ability to act on them (Chen, 2010; Delmas, Nairn-Birch, & Lim, 2015; Flammer, 2013; Hoffman, 2005; Russo & Fouts, 1997). The notion that better environmental performance can increase a firm's market value by signaling its integrity capacity raises an intriguing question: what happens if this signal conflicts with other signals that, although unrelated to the firm's environmental perfor- mance, cast doubt on the firm's integrity? Do markets dismiss this signaling conflict, or do they downward adjust the value they would otherwise place on the firm's environmental performance? What is more, if such downward adjustments take place, are firms able to recover by undertaking countervailing signaling actions? In this paper, we investigate these questions by analyzing how environmental performance improvements differently affect market value when a firm belongs to an organizational form that has a collec- tive reputation for being unethical. Organizational forms are "classes of organizations that audiences understand to be similar in their core 2020 ERP Environment and John Wiley & Sons Ltd. 1689 Seonghoon Kim | Ann Terlaak | Matthew Potoski Bren School of Environmental Science and Management, University of California-Santa Barbara, Santa Barbara, California, USA "Wisconsin School of Business, University of Wisconsin-Madison, Madison, Wisconsin, USA Correspondence Seonghoon Kim, Bren School of Environmental Science and Management, University of California-Santa Barbara, Bren Hall 3017, Santa Barbara, CA 93106, USA. Email: seonghoon kim@bren.ucsb.edu Abstract Markets value superior corporate sustainability performance in part because investors use a firm's environmental performance as a signal of desirable but difficult-to-observe attributes, such as the firm's integrity capacity. Yet a signaling conflict can arise when a firm belongs to an organizational form that has a collective reputation for being unethical. In such circumstances, the firm's environmental performance may no longer credibly signal its underlying integrity capacity, leading markets to adjust downward the value they would otherwise place on the firm's environmental performance. Using longitudinal data on South Korean firms, we find that improvements in firm environmental performance lead to smaller increases in market values for firms belonging to a poorly reputed organizational form. However, firms can partially recover lost value by adopting firm features that reduce the signaling conflict, thereby restoring the notion of corporate sustainability performance driving firm market values. KEYWORDS collective reputation, corporate sustainability, environmental performance, firm market value 1 INTRODUCTION Scholars and practitioners increasingly find better firm environmental performance to increase firm market value (Busch & Lewandowski, 2018; Chan & Walter, 2014; Hang, Geyer-Klingeberg, & Rathgeber, 2019). A positive relationship between environmental performance and firm value may come about because better environ- mental performance can reduce compliance costs and the risk of envi- ronmental lawsuits while increasing operational efficiencies, legitimacy, and access to pricing premia and market opportunities (Amber & Lanoie, 2008; Bansal & Roth, 2000; Habib & Bhuiyan, 2017). Yet these direct benefits are but one of the drivers connecting environmental performance and firm market value. Another driver is indirect benefits that stem from capital markets using a firm's environmental performance as a signal of valuable underlying firm attributes such as the firm's general management capacity as well as integrity capacity, that is, its higher ethical Bus Strat Env. 2021:30:1689-1701. wileyonlinelibrary.com/journal/bse standards and ability to act on them (Chen, 2010; Delmas, Nairn-Birch, & Lim, 2015; Flammer, 2013; Hoffman, 2005; Russo & Fouts, 1997). The notion that better environmental performance can increase a firm's market value by signaling its integrity capacity raises an intriguing question: what happens if this signal conflicts with other signals that, although unrelated to the firm's environmental perfor- mance, cast doubt on the firm's integrity? Do markets dismiss this signaling conflict, or do they downward adjust the value they would otherwise place on the firm's environmental performance? What is more, if such downward adjustments take place, are firms able to recover by undertaking countervailing signaling actions? In this paper, we investigate these questions by analyzing how environmental performance improvements differently affect market value when a firm belongs to an organizational form that has a collec- tive reputation for being unethical. Organizational forms are "classes of organizations that audiences understand to be similar in their core 2020 ERP Environment and John Wiley & Sons Ltd. 1689
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