The impact of ISO 9000 on operating performance and senior executive compensation : an empirical analysis

Abstract

ISO 9000 is the most popular meta-standard in management. By the end of 2005, the standard had been adopted by 776,608 companies or business divisions in 161 countries. ISO 9000 is now "a passport to the global business" and a basic requirement for many government tenders. Although ISO 9000 has been widely adopted in different industrial sectors, empirical studies disagree about its impact on the adopting firms' operating performance. Amidst the controversies over the actual benefits of ISO 9000 certification, the number of ISO 9000 certified firms has been increasing dramatically since its introduction 20 years ago. Management researchers are increasingly turning to a social perspective, in particular institutional theory, to explain the diffusion of ISO 9000. Institutional theory argues that the diffusion of administrative innovations like ISO 9000 in a certain industry is an institutional process subject to competitive and institutional effects. The institutional process occurs through coercive, mimetic, and normative mechanisms, and structural isomorphism is the consequence. Accordingly, organizations might adopt a popular management technique despite no evidence of obvious technical benefits from its implementation. In this study we attempt to answer a few research questions related to the institutional and technical benefits of ISO 9000. We seek to find out whether ISO 9000 improves the organizational performance of adopting firms. Based on institutional theory and agency theory, we examine whether the CEOs and top executives of adopting firms are rewarded with higher compensation for ISO 9000 certification. We investigate if the early adopters obtain more technical benefits and senior executives in those firms enjoy higher compensation as a result of ISO 9000 certification. We used event study methodology to examine "abnormal changes" in operational performance, financial performance, and senior executive compensation in ISO 9000 certified firms. We matched individual ISO 9000 certified firms with a group of control firms based on the industry type (two-digit SIC code), firm size (total asset), and pre-event performance. Our results show that ISO 9000 certified firms significantly improved their return on asset (ROA) (+15.48%), return on sales (ROS) (+15.92%), labour productivity (+10.30%), operating cycle (+5.01%), relative sales growth (+25.00%) and manufacturing cost efficiency (MCE) (+2.57%) five years after the initial adoption as compared with non-adopters during the same time period. We also found that CEO salaries increased by 3.1% on average, right after ISO 9000 certification. The bonus and stock options of CEOs significantly increased upon the adoption of the meta-standard. We found that the abnormal performance in ROA, labour productivity, Tobin's q and operating time efficiency dropped significantly along with the time of adoption (measured in years). The late adopters of ISO 9000 obtained significantly less technical benefits than the early adopters. Nevertheless, the "abnormal increase" in the compensation of senior executives persisted. Our study contributes to the literature in several ways. We document the impact of ISO 9000 certification on senior executive compensation. We show that, although ISO 9000 has a significant positive impact on the operational and financial performance of the adopting firms, such benefits decrease dramatically among late adopters. Nevertheless, senior executives in both the early and late adopting firms are rewarded for ISO 9000 certification. We provide evidence that further explains the widespread diffusion of ISO 9000 - firms adopt ISO 9000 not just for improving efficiency and gaining organizational legitimacy, but also for personal legitimacy that might lead to direct benefits for the firms' senior executives. We present a paradox in Operations Management and explain our findings from a social perspective grounded in institutional theory.