The Virtuous Cycles between Environmental Innovations and Financial Performance: Case Study of Japanese Automotive and Electronics Companies

By Cortez, Michael Angelo A.; Cudia, Cynthia P. | Academy of Accounting and Financial Studies Journal, April 2011 | Go to article overview

The Virtuous Cycles between Environmental Innovations and Financial Performance: Case Study of Japanese Automotive and Electronics Companies


Cortez, Michael Angelo A., Cudia, Cynthia P., Academy of Accounting and Financial Studies Journal


INTRODUCTION

Sustainability research has stirred a debate on its business rationale. Scholars have earlier determined that there is a positive relationship of sustainability practices through enhanced revenues, increased profits, reduced risks and significant cost reductions. However, recent literature reveals that there could be no effect or relationship amongst the constructs of corporate social performance (CSP) through environmental innovations and financial performance. In fact, some have even countered that the relationship is negative.

Therefore, we join the discussion by presenting more evidence from the Japanese automotive and electronics companies, through a comparative case study. Using eight automotive and ten electronics manufacturing companies listed on the Tokyo Stock Exchange, we perform a panel data regression analysis with firm specifics and fixed effects to establish the relationship. We aim to answer the question: Do environmental innovations positively impact financial performance? Or is it the other way around: Does financial performance in recent years positively impact environmental innovations? Sustainability scholars have also determined that there could be virtuous cycles amongst the constructs, leading us to hence explore this: Do these constructs mutually reinforce each other? Finally, we examine if the relationships hold true over the long run.

The first direction of the relationships is based on the resource-based view (RBV) which explains that investments in internal capabilities bring measurable benefits. Alternatively, the slack availability of resources perspective exhibit the other direction of relationships - if not for available resources, firms would not be able to perform environmental innovations. In relation to the virtuous cycles, Cortez (2010) argues that uniting the two theories could result to the accumulated slack theory. The first direction has a stronger impact than the second direction; hence there is a resulting accumulation of slack resources.

LITERATURE REVIEW

The positive relationship between corporate citizenship (CC) and financial performance with causal mechanisms, such as the improvement of managerial knowledge and skills and enhanced corporate reputation, was earlier established by Orlitzky (2008). Along the same line, Jones and Murrell (2001 in Orlitzky, 2008) examined how a firm's public recognition for exemplary social performance can serve as a positive signal of the firm's business performance to shareholders. In addition, Orlitzky (2008) cites the following causal mechanisms that link financial performance and CC: efficiency, increasing competitors' costs, attracting more productive workforces, boosting sales revenues, and reducing business risk.

Roberts & Dowling's (2002) study shows that superior-performing firms have greater chances of sustaining superior performance if they possess good reputations. In developed countries like Japan, stakeholder influence pressures companies to perform product improvements beyond the required government standard. This translates to improved reputation and legitimacy of the company. Moreover, existing technologies are challenged by the finite availability of energy sources; hence innovation is needed in finding cleaner and more sustainable alternative sources. This clean technology strategy repositions a company in the competitive future. In addition, the creation of a sustainable vision provides a roadmap for addressing changing needs of society, such as climate change, resource depletion and poverty. Thus, this enables a company to have a sustainable growth trajectory (Senge, 2008).

Evidence from the U.S. on environmental disclosure suggests the link to financial performance. The largest number of firms that did not have an environmental policy were the low financial performers (Morhardt, 2009), while high financial performers did have higher incidences of environmental policies as compared to low financial performers. …

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