Political connections of the boards of directors and department of defense contractorsʼ excessive profits
| Published date | 01 March 2014 |
| Pages | 96-122 |
| DOI | https://doi.org/10.1108/JOPP-14-01-2014-B004 |
| Date | 01 March 2014 |
| Author | Chong Wang |
| Subject Matter | Public policy & environmental management,Politics,Public adminstration & management,Government,Economics,Public Finance/economics,Texation/public revenue |
JOURNAL OF PUBLIC PROCUREMENT, VOLUME 14, ISSUE 1, 96-122 SPRING 2014
POLITICAL CONNECTIONS OF THE BOARDS OF DIRECTORS AND
DEPARTMENT OF DEFENSE CONTRACTORS’ EXCESSIVE PROFITS
Chong Wang*
ABSTRACT. Despite fast-growing interest in research on political
connections, most papers on this topic belong to the economics or public
administration fields. Few studies, if any, look into the role of firms’ political
connections in the Department of Defense (DoD) acquisition area. This
paper attempts to bridge this gap by investigating the impact of political
connections on the excessive profitability of DoD contractors. We find that,
in contrast to what the “corruption hypothesis” predicts, the excessive profits
are less (more) pronounced for those contractors with politically connected
(non-connected) boards. Our findings suggest that those politically
connected board directors may use their experience to serve a benevolent
role to the public in keeping DoD contractors from opportunistic profit-
seeking behaviors that could reach or even cross the federal government’s
regulatory redline.
INTRODUCTION
Political connections1 of either private-sector firms or public
states has increasingly become a popular research topic among
economists, business and public administration scholars, and
political scientists. For example, in regard to states’ political
connections as measured by representation in the U.S. Congress,
scholars have documented that per capita federal expenditures at the
state level are positively related to per capita Senate representation,
which gives rise to a small state advantage (Atlas, Gilligan,
Hendershott, and Zupan, 1995). No similar advantage is found if data
is restricted to earmarks secured in House appropriations bills2
____________
* Chong Wang, Ph.D., is Assistant Professor, Graduate School of Business &
Public Policy, Naval Postgraduate School. His research interests are in
financial and defense-related managerial accounting, corporate finance,
and economics.
Copyright © 2014 by PrAcademics Press
POLITICAL CONNECTIONS OF THE BOARDS OF DIRECTORS & CONTRACTORS’ EXCESSIVE PROFITS 9 7
(Hoover & Pecorino, 2005; Knight, 2008). This seems to suggest that
political connection does matter from a state’s perspective.
Naturally, a similar research question exists for private-sector
firms; that is, do politically connected private-sector firms derive
economic benefits from such a relation? Most studies intended to
answer this question somewhat support this conjecture. For instance,
Goldman, Rocholl, and So (2009) demonstrate that the market
responded positively (i.e., a positive abnormal stock return was
observed) to the announcement of the nomination of a board
member who was politically connected from his or her prior
employment history in the federal government, military services, or as
a former representative of the U.S. Congress. Duchin and Sosyura
(2012) investigate application data for Troubled Asset Relief Program
(TARP) funds and find that those firm applicants with political
connections3 were more likely to be funded. Correia (2012) finds that
for firms with irregular accounting practices, those with political
connections were less likely to become the target of Securities and
Exchange Commission (SEC) investigation, and if they were indeed
investigated, they faced lower penalties on average than non-
connected firms. Khwaja and Mian (2005) used corporate lending
data from Pakistan banks to show the rent-seeking behavior of
politically connected firms. In particular, they find that “political firms
borrow 45 percent more and have 50 percent higher default rates.
Such preferential treatment occurs exclusively in government banks—
private banks provide no political favors” (p. 1371). It is also worth
mentioning that these studies not only document the real impacts of
political connections, but they also share a common theme
suggesting that political connections are a source of corruption and
underlie various rent-seeking behaviors. Simply put, political
connections matter in a negative way.
Despite the fast-growing interest in the research of political
connections, most of the papers belong to the economics, political
science, or public administration field. There are few studies, if any,
that look into the role of firms’ political connection in the DoD
acquisition area, which provides another proof of the alleged
disciplinary disconnect4 that has existed for a long time.
The objective of this paper is twofold. First, we attempt to bridge
the gap that exists between the study of DoD acquisition and other
relevant research fields, such as economics and public
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