Business executives’ service on UK government boards and firm performance does “insiderness” matter?

Houston and Ferris (2015) distinguish between positive “lobbying effects” from the appointment of former government officials to corporate directorships, and positive “pork effects” that can generate firm-specific benefits when former corporate executives are elected or appointed to serve in government jobs. “Lobbying effects” are good for firm performance because of the bureaucratic capital (i.e. expertise, insights and contacts) that former politicians and civil servants bring from their previous roles. By contrast, “pork effects” accrue to firms when former business executives distribute benefits towards their previous employer as they progressively build bureaucratic capital within government. Executives entering government who wish to return to private sector jobs have an incentive to influence the policy process in ways that are beneficial to potential employers.

Service as NEDs on government boards gives business executives still employed by private firms the opportunity to capture “lobbying” and “pork” effects. Public service can enable executives to build the bureaucratic capital needed to influence politicians and public officials by developing regulatory expertise and brokering new connections between their company and relevant policy-makers (Houston & Ferris, 2015; Sun et al., 2012). Importantly, the on-going service of business executives on government boards enables companies to by-pass “the time gap between public and private offices” (Brezis & Cariolle, 2019, p. 610). Firms with NEDs in government gain better and more regular access to policy-makers that can lead to the award of grants and contracts, advance notice of regulatory changes and an “insider” reputation that is valued by investors (Hillman et al., 1999). The bureaucratic capital developed by business executives who simultaneously serve as government NEDs thus seems likely to enable firms to achieve higher levels of financial and market performance.

Executives serving as NEDs provide unique input into policy-making in government and develop valuable contacts from whom they can learn about contracting opportunities, regulatory changes and policy developments. NEDs on UK government boards directly advise on “performance (including agreeing key performance indicators), operational issues (including the operational/delivery implications of policy proposals), and on the effective management of the department” (Cabinet Office, 2017, p. 6). Because of their dual roles inside and outside of government, executives serving as government NEDs can transfer firm-specific knowledge that enhances their companies’ competitive advantage more quickly than businesspeople appointed to full-time government jobs or former politicians who take up corporate positions (Bonardi & Vanden Bergh, 2015). Nonetheless, it is also possible that personal service substitutes for, rather than complements, conventional market strategy, with companies that invest time and money in developing political connections diverting resources away from potentially more profitable investments in technology, human capital and R&D (Bhuyan, 2000; Bonardi, 2008). Furthermore, executives simultaneously serving as government NEDs could prefer to boost their own prestige and earning power rather than corporate performance (Hadani et al., 2015).

To date, most of the empirical literature on political connections has found positive effects from the appointment of public officials as company directors, using measures of market and accounting performance (e.g. abnormal returns, market capitalization, profitability and sales turnover) (Hadani & Schuler, 2013; Hillman, 2005; Niessen & Ruenzi, 2010; Palmer & Schneer, 2016). Additionally, numerous studies highlight how the appointment of former or current business leaders to political roles may bring benefits for firm performance (Houston & Ferris, 2015; Hillman & Hitt, 1999; Luechinger & Moser, 2014). However, some research suggests moving public officials onto company boards can harm market value and weaken financial controls due to the unpredictable nature of political influence and ties (Carretta et al., 2012; Hadani & Schuler, 2013). Likewise, while former executives may use their new connections in government to assist companies capture more grants and enhance their market power (Faccio, 2010; Szakonyi, 2018), some firms experience weaker market value and profitability (Faccio, 2010).

Faccio’s seminal (2006) study indicates that the benefits of political connections are stronger when executives serve in government than when politicians sit on company boards. According to He (forthcoming), connections in government may be even more beneficial when firms are able to influence the unelected officials responsible for implementing public policy rather than elected politicians, due to officials’ lower level of public visibility. Firms placing executives as NEDs on government boards are thus able to reap the greater benefits from personal service in government and from the low visibility of the work of governing boards. Therefore, based on the theoretical ideas outlined above regarding the value of placing executives as NEDs on government boards and the related empirical literature, we posit:

In addition to gains in corporate financial performance, accounting scholars argue that companies engaging in CPA are likely to target improvements in tax liabilities (Barrick & Brown, 2019). Hanlon and Heitzman (2010) emphasize that tax legislation is open to the influence of stakeholders outside government. By building connections inside government, companies can lobby for tax breaks and exemptions, weaker regulation and changes in tax law, all of which potentially reduce a firm’s effective tax rate (Barrick & Brown, 2019). Business executives serving within government achieve these goals by persuading regulators to reduce the costs firms incur to meet regulatory standards (Makkai & Braithwaite, 1992). As a result, it may be possible to gain both greater revenue from political connections and to reduce tax liabilities. Indeed, Barrick and Brown (2019) highlight how “firms that engage in general CPA appear more likely to engage in tax-related CPA” (p.67). Furthermore, Hill et al. (2013) highlight how shareholders value tax-related lobbying. Again, firms that employ executives who simultaneously serve as NEDs on government boards may accrue sizeable benefits because those executives exchange knowledge between their employer and tax authorities more efficiently than executives who accept full-time government jobs or the former politicians sitting on company boards.

Empirical evidence on the impact of personal service on corporate taxation is comparatively scarce, but research does suggest that political connections facilitate aggressive tax planning (Kim & Zhang, 2016). As such, firms with connections in government seek lower effective tax rates (see Egerod, 2019; Wang & You, 2022). Some scholars suggest tax-related benefits from political connections may not transpire because tax policy changes are diffused across industries (Faccio, 2010) or because firms seeking influence may choose to respect the letter of the (tax) law (Szakonyi, 2018). However, the wider lobbying-taxation literature highlights that companies that intensively lobby policy-makers benefit from lower tax rates (e.g. Brown et al., 2015; Richter et al., 2009; Wang et al., 2022), face a lower probability of fraud detection (Yu & Yu, 2011) and weaker sanctions for fraud offences when they are caught (Fulmer & Knill, 2012). For the above reasons, we propose:

Firm-level contingencies are likely to influence the effectiveness of companies’ efforts to mobilise their political connections (Getz, 1991; Schuler & Rehbein, 1997). In particular, policy “insiderness”, the extent to which companies are “regular and familiar partners with public officials and whether they are considered as one of the few alternatives on a policy issue” (Albareda et al., 2023, p. 192) is likely to shape the outcomes from personal service in government. By virtue of their market share and economic importance, the largest, most well-established firms achieve “insider” status (Coen, 2007). Such “insiders” benefit from more frequent participation in policy-making on a wide variety of issues, which gives them access to a broader range of policy-makers than other groups (Maloney et al., 1994). As a result, “insider” firms may gain most from their executives’ simultaneous service on government boards because they have stronger and more diverse political connections and can mobilise more bureaucratic capital than firms without insider status.

Empirical evidence highlights the dominance of traditional business and economic interests within European policy-making communities (Binderkrantz & Christiansen, 2015; Dommett et al., 2017; Fraussen et al., 2015; Weiler et al., 2019). However, comparatively little research has addressed whether “insiderness” results in better outcomes for firms. Studies show that large companies benefit from their enhanced reputation in the competition for government contracts (Alonso & Andrews, 2023; Berrios, 2006; Drope & Hansen, 2006), but scholars have yet to identify performance differences between “insider” and “non-insider” firms. Nevertheless, ideas about the benefits that large, prestigious and well-established firms achieve from being “insiders” have long fuelled scholars’ arguments about the connections between political and business elites (Parry, 2005). In particular, FTSE 100 companies are regarded as insiders within the British political system, due to their status as bastions of corporate leadership critical to the UK economy (Davis, 2017; Wilks, 2013). Although this brings greater exposure to public scrutiny, the leaders of FTSE 100 companies can exploit their unique “insider” position to promote the financial goals of their companies by “forming a vital bridging network between financial and state elites” (Davis, 2019, p.112). Based on the above reasons, it seems likely that FTSE 100 companies will be in an especially strong position to benefit from their executives’ service on government boards. As a result, we posit:

To test our proposed hypotheses, we construct a unique dataset combining accounting information for a large sample of companies, with information collected by hand on the governing boards of the full population of 26 departments and 100 agencies of the UK government that were in operation during the study period. This includes the small number of boards for departments and agencies of the devolved governments in Scotland and Wales. Our unit of analysis is the firm-year, consisting of 2,049 firms across 14 years, 2008–2021 in a balanced panel.¹ Firm-level data were obtained from Bureau van Dyck’s FAME database, while data on NEDs and government agencies were obtained from a variety of sources; see Table 2 for a set of summary statistics, and the Supplementary Appendix for full details of the data sources.

The sample used in the study comprises: all the companies that are not domestic or foreign subsidiaries included in the different FTSE listings made available in Bureau Van Dijk’s FAME database (see the Supplementary Appendix); and, non-FTSE firms for whom a NED worked that held assets of more than one million British Pounds. The sample therefore encompasses UK multinational companies (e.g. Astrazeneca, Barclays Bank, BP) and unlisted companies (e.g. Ark Schools, Atom Bank, Marshall of Cambridge).

To accurately match executives who simultaneously served as NEDs on government boards to the companies for whom they work, we first searched the annual reports of all UK government departments and agencies for details about their board composition. These are made publicly available through UK government websites, though in some cases were accessed via stored internet pages in the UK national archives. Next, we examined the biographical details of the NEDs presented in the annual reports and transposed employment details of each company-based NED into a database, matching their dates of employment in private firms with their years of service on a government board. Where there was insufficient biographical detail in the annual reports to facilitate this transposition, we obtained the career history of NEDs via Linkedin pages and other media sources.

We leverage seven outcome measures that explore firm-specific benefits typically investigated in the CPA literature. To test our hypothesis regarding corporate financial performance, we analyse: market capitalization; turnover; pre-tax profit; post-tax profit; return on capital employed; and, return on total assets. To test our taxation hypothesis, we analyse the level of UK corporation tax paid annually by each company. To ensure direct comparability of all coefficients across outcomes and avoid concerns over linearity in the parameters, we transformed all outcome variables, first by mean-standard normalization and second with the inverse hyperbolic sine. This transformation has several advantages over standardisation and log-transformation when dependent variables exhibit substantial right-skew or have negative or zero values, as we do not need additional intercept-shifts or threaten the Gauss-Markov assumption of linearity in the parameters (Friedline et al., 2015).²

We leverage two predictor variables that capture different ways to operationalize how embedded a firm’s executives are as government NEDs. Our first operationalization is a count of all firm executives simultaneously employed as NEDs in government departments and agencies for a given year. If a NED in a given year is also an executive for a firm, that individual is included in the annual count.³ The variable ranges from 0 to 25 with a mean of 0.204. Most firm-years – 25,218 out of 28,686 – have no executives working in government as NEDs, which would suggest that placing the first executive in government as a NED is more difficult than having subsequent executives serve as NEDs. Therefore, our second operationalization is a dichotomous measure of whether a firm has at least one executive simultaneously serving as a government NED in a given year. An added advantage of this second measure is that we model the distinction between firms that can obtain this sort of access, and those firms that cannot. These two measures are lagged by a single year, as a NED is unlikely to provide their firm with appreciable benefits in the same year that they are appointed.

We report the number and distribution of NEDs across government departments and agencies for each year of the study period in Table 1. The table highlights that while the number of NEDs in government departments has remained constant since 2010, the number of NEDs in government agencies has nearly tripled.

We rely on several covariates to control for alternative explanations for firm performance. First, we include two dichotomous indicators capturing whether the firm is a member of the FTSE 100 or FTSE 250 and is therefore recognised to be a successful company. Due to their size and importance in the UK economy, we would expect these firms to draw more government attention from among the sample of firms included in our analysis. In particular, FTSE 100 companies are considered “insiders” within the British political system (Davis, 2017). Second, firm size is measured as the total assets held per annum. This enables us to gauge the total resources available to a company to generate profit through their business activities (Dang et al., 2018). Third, we include firm age measured as the number of years since the year in which the company was incorporated, which serves as a further proxy for the reputational effects of a firm on its performance and its propensity to be connected to government (Hillman et al., 2004).

Fourth, we calculate a “ranking” of firms based on the observed prestige of NEDs in a department or agency. When a department or agency lists the NEDs in their annual reports, we wrote their names down in the order they appear. Usually, the chair or co-chairs of the board are listed first. By capturing this order when aggregating data to the firm-year, we observe which firms have “higher-ranked” NEDs on department or agency boards. Therefore, our estimates control for the ability of firms to obtain more benefits from more influential NED positions. Relatedly, we include a variable measuring the proportion of a firm’s executives who are NEDs on the boards of government departments, which are more prestigious than agencies.

Also included are a series of dummies for each year observed in the data. This is to account for any temporal effects that could have affected firm performance. Descriptive statistics for all the variables included in our analysis are shown in Table 2.

Correlations between the variables used in our analysis are displayed in Fig. 1. The correlation matrix shows that our NEDs measures are associated with our firm-level variables – we report strong correlations between our main Count of NEDs variable and our market capitalization, profits, and tax variables, and moderate correlations with most other variables.

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We note that endogeneity threats to our analysis – that firm profits influence the number of executives simultaneously serving as government NEDs – are not borne out by the data. We estimated a pair of models predicting the number of government NEDs each firm has in a particular year, with lagged firm-level variables as our main predictors. We find that only the Average NED ranking and Pct NEDs in Department variables are consistently associated with a higher number of executives simultaneously serving as government NEDs. No firm-level variables are associated with the count of NEDs save membership in the FTSE250 Index, while four variables are associated with having at least one government NED: firms with higher tax, higher turnover, higher pre-tax profit, but lower post-tax profit, have a higher chance of at least one NED. These estimates are reported and discussed further in the Supplementary Appendix (Fig. 3).

We contribute to the growing literature on CPA by focusing on the firm-specific benefits accrued through business executives’ simultaneous service as NEDs on government boards, paying especial attention to the benefits realised by “insider” firms. Drawing on a unique dataset capturing the appointment of executives to government NED positions, we go beyond prior analyses of personal service in government (e.g. Houston & Ferris, 2015; Hillman & Hitt, 1999; Luechinger & Moser, 2014) to address a novel form of CPA through which firms can become formally involved in the policy process. In doing so, our analysis suggests that personal service on government boards may be an efficacious strategy for building bureaucratic capital that can help to create value for companies.

Our findings also contribute to scholarship dealing with “insider” status within policy-making communities. Prior research in this field has emphasised the informational benefits accruing to “insiders” (e.g. Broscheid & Coen, 2003; Weiler et al., 2019), but has yet to identify tangible rewards associated with “insider” status. Drawing on a direct measure of access to and involvement with policy-makers and a battery of corporate financial and taxation indicators, we highlight how “insider” firms benefit financially from participation in the governance of government agencies. Nevertheless, our findings reveal profitability losses for FTSE 100 firms with more NEDs serving on government boards.

Callander et al. (2022) highlight that firms with politically-based market power (i.e. “insiders”) may suffer a corresponding reduction in their capability-based market power due to policy-makers’ efforts to manage competition and dominant firms’ weaker incentive to invest in new technologies and innovation. It is therefore possible that any profitability gains that FTSE 100 firms make through executives’ personal service as government NEDs may have been exhausted already due to their established status as the vanguard of Britain’s business community. As a result, the strength of the position of FTSE 100 firms as “insiders” within the UK corporate elite could itself be a brake on the kinds of innovation and growth that would result in better profitability – something that has been observed in developing economies (Desai & Olofsgard, 2008). Whiffin (2022) argues that the FTSE 100 has become a ‘Jurassic Park’ market dominated by firms that have reached maturity and which operate in industries, such as banking, insurance and energy, that no longer generate rapid revenue growth. Detailed quantitative and qualitative research on the relationship between business leaders’ service as NEDs on government boards and rates of business innovation, investment and development in the UK and elsewhere would therefore cast valuable new light on the dynamics of business-government relations.

The results of our study demonstrate to business executives that simultaneous service on government boards can enable them to develop bureaucratic capital that generates desirable outcomes for the firms that employ them. In particular, the findings suggest that having at least one government NED can spur higher market capitalisation and more sales turnover. These benefits are even greater for firms that have more government NEDs than those that have a smaller number, and include a reduced tax bill, thereby highlighting that firms encouraging a higher intensity of personal service seem to be doing especially well. Nevertheless, while our results highlight that FTSE 100 firms can improve their market capitalisation, turnover and tax profile if they encourage firm representatives to undertake personal service as NEDs, they appear to do so at the expense of profitability. Hence, for “insider” firms, questions might arise about trade-offs between different outcomes when becoming more involved in the governance of government agencies. Our study suggests that “insiders” in Britain may be willing to trade high profitability for the more stable and secure benefits of high market capitalisation, high turnover and low taxes.

Although the involvement of NEDs from private firms in the governance of government agencies has become more common in many countries (Lafuente & Nguyne, 2011), questions remain about the desirability of the “boardization” of government (Wilks, 2007). In the UK, if the lead NED believes that “the permanent secretary [of a department] is a barrier to effective delivery, in extremis, they can recommend that the PM, lead minister and Head of the Civil Service, should remove him or her from post” (Cabinet Office, 2011, article 3.6). According to some observers, allocating this level of political authority to business executives poses a major challenge to democratic accountability (Barratt, 2015; Schillemans & Bovens, 2019). Prior research suggests that NEDs carry out their responsibilities conscientiously (Kakabadse & Kakabadse, 2023), but the wider citizenry (and their elected representatives) may have justifiable concerns about conflicts of interest. For example, the UK Committee on Standards in Public Life (2021) raised questions about the tendency for NEDs to be appointed without competition through political connections. For business executives serving as NEDs on government boards, efforts to demonstrate their expertise, commitment to creating public value and a reputation for impartiality may reassure critical observers of the validity of their role within government (Hazell et al., 2017). For public policy-makers, full transparency of the NEDs appointments process and publication of the minutes of the meetings of governance boards can potentially make the role of business executives on government boards more open to scrutiny, especially those that are employed by “insider” firms.

This study represents an important first step in the investigation of the potential private gains that firms can realize from the simultaneous service of their executives as NEDs on government boards. Such boards are increasingly used to steer central government agencies across the world, so further research into this phenomenon is needed to corroborate our findings. An important goal for such studies would be to address some of the limitations of our approach.

Firstly, the available data do not permit us to determine the precise mechanisms through which business leaders’ personal service as government NEDs results in better firm performance. More research is needed to pinpoint whether the benefits of placing a NED on a government board are a result of stock market reactions, regulatory capture or preferential treatment in government contracting processes. Secondly, were it available, information on competitive selection processes for the appointment of NEDs to government boards could facilitate experimental designs comparing the performance of firms for whom successful applicants worked with that of firms for whom un-successful applicants work. Thirdly, while we follow prior CPA studies in using market capitalization and turnover as proxies for corporate financial performance, both indicators are correlated with firm size, which could influence our results. Subsequent studies could address the full complexity of firm performance using a wider array of financial ratios and indicators of firms’ environmental and social goals (Hristov et al., 2022). Finally, research dealing with CPA in general would benefit greatly from a systematic effort to understand whether the realization of private gains comes at the expense of public and societal value (Mollona & Faldetta, 2022). Management researchers have long queried the benefits of outside directors on company boards (Bhagat & Black, 2001), so analysis of the relationship between the use of NEDs from private firms on government boards and the performance of government departments and agencies, as well as their contribution to the wider social good, would be invaluable.