Fall from grace: Ethical shortfalls and firm actions

Abstract

Financial misconduct damages and stigmatizes organizations because top management is perceived to have substantial control over such actions. The extent to which misconduct is considered egregious, however, may vary depending on the context of the ethical violation. This study introduces the idea that perceptions of and reactions to a firm’s ethical performance are influenced by the conduct of its peers. Using data on S&P 1500 firms charged with financial misconduct between 2003 and 2012, we find that a firm’s ethical underperformance relative to peers, which we label as ethical shortfall, predicts CEO dismissal following an ethical violation. Our study confirms that even egregious ethical violations are interpreted and acted on using a comparative yardstick. We also find that the media’s reaction to the ethical shortfall moderates this relationship, with greater media attention strengthening the relationship between ethical shortfall and CEO dismissal. Finally, we demonstrate that the firm’s past involvement and support for corporate social responsibility (CSR) initiatives act as a buffer, reducing the effect of the ethical shortfall on CEO dismissal. This finding indicates that the positive reputational benefits of CSR activities can help safeguard the firm in cases of comparative ethical lapses.