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CIBC Centre for Corporate Governance and Risk Management

Hierarchy, Hybrid and Market: Assessing

Governance Structures for Corporate

Philanthropy

Winter 2006

John Peloza and Derek N. Hassay

CCGRM C Working Paper

2006-7

This paper can be downloaded without

charge from:

http://www.afubusiness.ca/cibc-centre/


Hierarchy, Hybrid, and Market:

Assessing Governance Structures for Corporate Philanthropy

John Peloza, Simon Fraser University

Derek N. Hassay, University of Calgary

Forthcoming in the Journal of Nonprofit & Public Sector Marketing.

Please do not quote without author’s permission.

Contact:

John Peloza

School of Business Administration

Simon Fraser University

8888 University Drive

Burnaby, British Columbia

Canada, V5A 1S6

Ph. (403) 208-0757

Fax (403) 282-0095

pelozaj@ucalgary.ca

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Make Versus Buy Philanthropy:

Managing Firm-Cause Relationships for Strategic and Social Benefit

ABSTRACT

This article uses transaction cost analysis (TCA) to explore different approaches to corporate

philanthropic governance, and the firm and market factors that favor one form of governance

over another. Specifically, it examines the conditions under which a firm might choose to enter

into an arm’s length relationship with an existing charitable organization (i.e., a market

governance structure), develop a partnership with an existing charitable organization (i.e., a

hybrid governance structure), or form its own self-branded or firm-owned charity (i.e., a

hierarchy governance structure). Research propositions and a conceptual framework concerning

these conditions are developed to assist firms looking to increase the sustainability of their

philanthropic initiatives.

Keywords:

Corporate philanthropy, transaction cost analysis, cause-related marketing, donations.

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Make Versus Buy Philanthropy:

Managing Firm-Cause Relationships for Strategic and Social Benefit

Corporate philanthropy represents a critical source of support for many charitable

organizations, with donations topping $12 billion annually (Conference Board 2006). Donating

firms have enjoyed a number of benefits from their investment in philanthropy, such as enhanced

brand/firm image (e.g., Barone, Miyazaki, and Taylor 2000), and increased sales (Mohr, Webb,

and Harris 2001). Given that firms can realize important strategic benefits from their

involvement in philanthropy, and that the philanthropic efforts of many firms are actually

motivated by these benefits (e.g., Bennett 2002; Vogel 2005), it is argued that philanthropic

investments are actually more closely related to purchases than donations.

However, the literature examining corporate philanthropy has focused primarily on

philanthropic initiatives that are characterized by a market governance structure (i.e., an arm’s

length relationship with a standalone charity). Much of this research has implicitly made the

assumption that market structures are the most effective method for the firm to engage in

philanthropy. Although the hybrid governance structure (i.e., a relationship that approximates a

joint venture between a firm and a charity) has been examined by previous researchers (e.g.,

Austin 1999; Hoeffler and Keller 2002) it remains largely unexplored. Finally, the hierarchy

form of governance (i.e., an internally developed and controlled charity such as Ronald

McDonald Children’s Charities) has remained unexplored with the exception of Husted (2003).

Extensions to Previous Research

This article makes a number of contributions to the marketing and corporate philanthropy

literatures. First, we use the transaction cost analysis framework (Coase 1937) as a lens into the

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make versus buy philanthropic investment decision, in an attempt to improve the efficiency of

such philanthropic investments. More specifically, we use transaction cost analysis (TCA) to

examine the conditions under which firms should adopt and pursue one form of governance

structure over another. TCA has a rich history in marketing (see Rindfleisch and Heide 1997 for

a review) and this paper extends transaction cost analysis to an area of growing managerial and

research importance within marketing – corporate philanthropy. Indeed, the application of

transaction cost analysis theory to corporate philanthropy represents an important step in

addressing the calls for increasing the professionalization of both the management and corporate

support of charities (Andreasen 1999). Finally, by examining the financial implications of the

decision to invest corporate resources in philanthropic initiatives, we extend the work of Porter

and Kramer (2002) and others who have argued for greater attention to the strategic value of

philanthropy.

This article also extends previous research in corporate philanthropy that has examined

collaborations, partnerships or alliances (e.g., Hoeffler and Keller 2002; Margolis and Walsh

2003) to consider the complete range of investment options specified by TCA – market, hybrid

and hierarchy (Williamson 1991). In doing so it provides an innovative approach to the

categorization and evaluation of corporate philanthropic initiatives, while providing insight into

the factors that shape corporate philanthropy by considering the complete range of investment

alternatives. Finally, the paper outlines future research opportunities in corporate philanthropy

as well as guidance to managers seeking to optimize the strategic value and financial efficiency

of their philanthropic purchases.

The article is organized as follows. First, corporate motives for investing in philanthropic

initiatives are explored. Next, an overview of transaction cost analysis theory and its

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applicability to corporate philanthropy is presented. Philanthropic initiatives along the make-

versus-buy continuum are examined along with an application of transaction cost analysis to the

governance structure of corporate philanthropy. Research propositions concerning the strategic

and financial impact of various governance structures are presented next. The article concludes

with an integration of the major themes from the extant literature examining corporate

philanthropy with the TCA framework, and a discussion of future research opportunities.

CORPORATE MOTIVES FOR PHILANTHROPY

Corporate philanthropy dates back to the early 1900s, a period that witnessed a shift from

wealthy owner-managers like Carnegie and Vanderbilt to professional managers who weren’t

afforded the same degree of latitude when committing corporate resources to philanthropic

initiatives, as were their predecessors. As stewards of the money of others, professional

managers “were not free to make corporate gifts unless these could be justified on grounds of

corporate well-being” (Hall 1989, p. 222).

It has been suggested that companies engage in corporate philanthropy in order to

increase sales (Smith 1994), enhance image (Dean 2002), and increase employee and stakeholder

morale (Berger, Cunningham, and Drumwright 2005). Further, Smith (2003) argued that even

when firms are not motivated solely by enlightened self-interest, they engage in promotional

activities that enable them to capitalize upon or leverage their investments in social

responsibility. This underscores the importance of the potential economic benefits from

corporate philanthropy. According to Marx (1999), eighty-six percent of corporations

proactively manage philanthropic initiatives to meet corporate strategic objectives, and ninety-

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six percent rate a favorable company image as either an important or extremely important

outcome of their philanthropic investments.

A study by Brammer and Millington (2003) revealed that the responsibility for

philanthropic initiatives resided in the marketing/PR department in almost one half of firms

surveyed; a finding that further demonstrates the importance of such initiatives to both the

overall corporate and marketing strategies. The architect of what is widely considered to be the

earliest cause-marketing campaign, American Express’ Charge Against Hunger, sums up the

issue: “Philanthropy is about marketing, not philanthropy” (Welsh 1999, p.24).

Garriga and Melé (2004) classified four theories of corporate social responsibility (CSR):

instrumental, political, integrative and ethical. Under instrumental theories of CSR, the

economic return to the firm is paramount, and social impact is supported only to the extent that it

can provide returns to the firm. Under political theories, the firm accepts that its power in

society must be used responsibly, and are bound by a form of social contract. With integrative

theories of CSR, the firm integrates societal demands into its strategies. This group of theories is

closely aligned with those who argue that CSR is a necessary cost, akin to a “license to operate”

in a given community (e.g., Peloza 2006). Finally, ethical theories suggest that managers place

social impact above all other considerations in CSR.

The current paper is closely aligned with the instrumental theory of corporate

philanthropy; one that considers philanthropy to be a strategic tool designed to achieve economic

objectives. Garriga and Melé (2004) point out that this view of corporate philanthropy has a

long tradition and has enjoyed wide acceptance in business. Indeed a common theme in the

literature on philanthropy is that corporate involvement in philanthropic initiatives is largely self-

serving. For instance, Himmelstein (1997, p. 5) has argued that a corporate culture of

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philanthropy represents, “a shared set of understandings about how philanthropy serves corporate

interests.”

In an examination of sixty firm-cause relationships Moir and Taffler (2004) found only

one that could be considered truly altruistic on the part of the firm. In fact, Polonsky and

McDonald (2000) argued that corporations have always looked to leverage their philanthropic

activities for promotional gain, and increases in corporate giving have been linked to increases in

marketing communications expenditures (Fry, Keim, and Meiners 1982).

Given that corporate investment in philanthropy is, at least partially, motivated by self-

interest, it is not surprising that such investments are expected to provide demonstrable financial

value to the company. Moreover, given the recent emphasis on developing the business case for

corporate philanthropy (c.f. Vogel 2005) firms appear to apply the same calculating, bottom-line

oriented decision criteria to their investments in corporate philanthropy that they apply to other

advertising or promotional expenditures. Therefore, these investments are perhaps more

accurately considered purchases on the part of managers. In fact, Bennett (1997, p. 89) argued

that corporate philanthropy “represents the purchase of useful associations with charitable or

voluntary organizations” (italics added).

When viewed as marketing expenditures, investments in philanthropy can be subjected to

the same criteria used to examine other vertical integration opportunities, such as channels of

distribution. By providing a framework with which firm-cause relationship governance can be

optimized or at least improved, TCA holds the potential to increase the efficient allocation of

billions of dollars committed to corporate philanthropy each year. Finally, TCA can prescribe

not only the most cost-effective method of philanthropic investment governance, but also the

form of governance that provides the best overall value for the firm (e.g., Zajac and Olsen 1993).

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TCA: AN OVERVIEW

According to Rindfleisch and Heide (1997), investigations of inter-organizational

relationships represent a common application of TCA. TCA has been applied successfully to the

study of co-marketing and other forms of strategic alliances (e.g., Bucklin and Sengupta 1993);

inter-organizational relationships that are closely related to the firm-cause relationships of

corporate philanthropy. The ability of TCA to explain a wide variety of phenomena is often

attributed to the underlying concept of efficiency and specifically, its simplicity.

Set against the default of market transactions, TCA posits that organizational boundaries

exist as they do because they are able to economize on the costs of exchanging goods and

services in the market (Ouchi 1980). Specifically, TCA is concerned with identifying the

environmental and organizational factors that predict which form of governance organizations

will adopt under various circumstances (Williamson 1992).

The central tenet of TCA is that there are costs to executing any transaction regardless of

whether that transaction occurs in a market, a hierarchy, or some combination of the two

(typically referred to as the hierarchy form of governance). Each of these mechanisms can be

illustrated by the example of an automobile manufacturer deciding where to source parts. The

market option would see the firm purchasing parts from an external supplier. The hierarchy

option would see the firm build their own plant to manufacture the necessary parts. The

hierarchy option would see the firm enter into a joint venture with a parts supplier, with the firm

making a less than 100% investment in the new initiative.

Similar to its role in economics, efficiency is seen to play a central role in TCA, with

efficiency being maximized in transactions governed by the mechanism that minimizes these

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transaction costs (Coase 1937). Indeed, transaction cost minimization is seen as a primary

determinant of organizational form in TCA based on the assumption that the most efficient

structure will displace all others. Therefore, for some transactions TCA predicts that the

hierarchy is the appropriate governance mechanism, while for others market governance is

appropriate and for still other transactions, a hybrid governance mechanism is predicted to be the

most appropriate. Although the hybrid form of governance can take many forms with subtle

differences, for the purpose of clarity the current paper limits its examination of governance to

the internal (hierarchy), external (market) and hybrid (partnership) forms of philanthropic

initiative governance.

In their overview of TCA, Rindfleisch and Heide (1997) outlined four primary conditions

which give rise to different potential sources of costs in marketing exchanges: bounded

rationality, opportunism, asset specificity and environmental uncertainty. Bounded rationality

refers to costs that arise as a result of inefficiencies in decision-making. For example, managers

are often required to oversee a large number of diverse transactions, which reduces their ability

to manage these exchanges efficiently; a problem exacerbated by a high degree of environmental

change or uncertainty. According to Simon (1961, p. 24), bounded rationality assumes that

managers exhibit “behavior that is intendedly rational, but only limitedly so.”

Opportunism refers to the potential for economic actors to seek self-interest seeking with

guile. Although not all economic actors are opportunistic, it is impossible to know for sure ex

ante, which trading partners will be opportunistic (Williamson 1985), and therefore costs must

be incurred in the negotiating and monitoring of the relationship to prevent opportunism. In a

market form of governance the firm is most susceptible to opportunism because it is not in a

position to monitor suppliers. By virtue of the firms direct investment and therefore control,

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moving to a hierarchical form of governance is expected to reduce, although not totally

eliminate, opportunism (since individual managers within the firm can still act in their own

interests versus those of the firm).

Asset specificity refers to the extent to which transactions are supported by specialized

assets; those that are uniquely tailored to that transaction. Morgan and Hunt (1994) referred to

these as “idiosyncratic investments.” TCA predicts that when one party makes substantial

investments in specialized assets in order to trade with another, that party will take steps to

safeguard the rent stream expected from the asset. The costs associated with establishing these

safeguards are known as ex ante transaction costs; they serve to reduce the risk of opportunism,

but not to eliminate it. It is, after all, impossible to develop truly comprehensive contracts that

will eliminate the risk of opportunism (Williamson 1985).

Finally, a residual risk of opportunism remains even after ex ante transaction costs, such

as the costs of contract enforcement and the unrecovered rent stream losses have been borne.

Specifically, environmental uncertainty creates costs for firms that attempt to develop contracts

that will allow flexibility in the face of change; additional costs incurred to deal with this

uncertainty are defined as the ex post transaction costs.

Therefore, total transaction costs in any exchange are seen to be the sum of ex ante and ex

post transaction costs. The core prediction of TCA is that if total transaction costs in a market

setting exceed the costs of governing the same transaction within either a hybrid or hierarchical

setting, the exchange should be internalized in one of these two forms. However, simply

internalizing the transaction does not eliminate contracting costs, because doing so merely

replaces a contract for inputs with an employment contract. A firm does not avoid the market by

internalizing a transaction; it merely replaces contracts for outputs with a contract for inputs

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(Hennart 1994). Hierarchical and hybrid organization involves both the cost of developing and

maintaining the organization and a potential loss due to the theoretically greater efficiency of the

market in transmitting information.

Thus, the basic argument of TCA is that when market organization of economic exchange

is costly other forms of transaction governance may prove more efficient, and non-market (i.e.,

hierarchy or hybrid) forms of governance will arise when these alternative forms promise greater

efficiency.

TCA AND THE GOVERNANCE OF CORPORATE PHILANTHROPY

Williamson (1996, p. 3) stated that, “the analytical action resides in the details of

transactions and governance.” Likewise, the form of governance used to organize corporate

philanthropy will have an effect on the efficiency of philanthropic initiatives. Thus, the

application of TCA represents an extension of previous research that has focused largely on

consumer response to corporate philanthropy.

Corporate philanthropy has become an increasingly active area of study in recent years.

Although early research focused on describing the breadth and participation rates of firms in

various types of philanthropic efforts, recent efforts have identified strategies that would enable

firms to successfully leverage philanthropy for promotional if not strategic gain. For example,

researchers have examined the extent to which firm-cause fit affects the success of the business-

nonprofit relationship, with the majority of authors concluding that businesses should align

themselves with and support causes that have some relevance to their core strategy (e.g., Sen and

Bhattacharya 2001).

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Despite the volume of research on firm-cause fit, there are relatively few studies that

have examined public perceptions regarding the formal relationship between firms and the

causes that they support. Further, those few studies that have explored the structure of firm-

cause relationships have typically considered firm involvement only up to the quasi-joint venture

status. For example, Austin’s (1999) collaboration continuum: consisted of three stages. The

first stage, philanthropic, is exemplified by the kind of arm’s length relationship that exists

between a donor and the charity recipient and according to Austin (1999, p. 71) is “the nature of

most nonprofit-business relationships today.” Because the firm engages an external charity with

no direct investment, this stage involves a market governance structure. Some firms have moved

to the next or transactional stage of collaboration, where donations are focused around specific

activities (e.g. a percentage of every sale) or events. Similar to Austin’s first stage, because the

firm still engages a standalone charity and simply donates the proceeds from a specific event, the

initiative still incorporates a market governance structure. The final stage in Austin’s (1999)

continuum is integrative, where the collaboration includes shared employees and activities - a

relationship that approximates a joint venture (i.e., hybrid governance). Firm-cause relationships

of this latter type are seen in Merck’s development and distribution of a treatment for river

blindness in Africa, and Monsanto’s efforts to teach innovative farming techniques to

impoverished farmers in Africa and Asia both of which were cited by Dunfee and Hess (2000) as

examples of direct corporate humanitarian investment. Although Austin’s integrative stage

requires increased firm involvement when compared to the philanthropic and transactional stage,

it does not capture the hierarchy form of governance since the firm still partners with an external

charity for its philanthropic initiative.

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Although a few studies have considered the complete range of firm-cause relationships,

these examinations have been largely descriptive in nature and focused on the development of

typologies. Hoeffler and Keller (2002), for instance, considered internally branded initiatives as

well as arms-length firm-cause relationships, and Bednall and colleagues (2001) identified

charity ownership as a form of commercial orientation in corporate philanthropy. One notable

exception is Husted (2003), who examined the impact of centrality (the degree to which a firm

has expertise to manage the initiative), and specificity (the degree to which a firm can benefit

reputationally from its initiative) on the governance decision. However, the internal form of

philanthropy, referred to as the “hierarchy” form of governance within the TCA literature, has

not yet been directly compared to other forms of governance, and therefore firms seeking to

maximize the impact from their philanthropy lack guidance. This paper seeks to address this gap

in the literature by using TCA to explore the complete range of firm-cause relationships.

Insert table 1 about here

Table 1 applies the make-versus-buy decision schema of TCA to the range of options

subsumed under the general label of “corporate philanthropy.” This table also identifies key

characteristics of purchased versus produced philanthropic initiatives, the governance structures

related to them, as well as examples to help clarify each form of firm-cause relationship.

Interestingly, the hierarchy form of corporate philanthropy, while largely unused among

corporate managers, appears to thrive in the quick-service restaurant (QSR) category. For

instance, while Ronald McDonald Children’s Charities is perhaps the most widely recognized,

Wendy’s operates its own nonprofit public charity - the Dave Thomas Foundation for Adoption.

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And Tim Horton’s, the number two QSR in the Canadian marketplace, operates a series of

summer camps for underprivileged children. Other well-known philanthropic initiatives such as

Home Depot’s support of KABOOM! or Avon’s Run For The Cure in support of the Breast

Cancer Foundation represent market and hybrid governed relationships respectively. In the

remainder of this section, each of the four sources of transaction costs under the TCA framework

are discussed and propositions developed.

Bounded Rationality

As previously discussed, bounded rationality concerns the inability of managers to

engage in contracts that take into account every possible contingency. When bounded rationality

is high, the hierarchy governance structure is preferred because it helps to reduce the potential

long-term costs of entering into contracts with relatively unknown future costs. When bounded

rationality is expected to be low, the market structure is preferred since future contingencies are

relatively easy to predict. Finally, the hybrid form is preferable for moderate levels of bounded

rationality because they allow the firm some flexibility for future contingencies at a lower

investment cost than that of the hierarchy option. The variable most likely to impact bounded

rationality within corporate philanthropy is the degree to which the cause is related to the core

business of the firm, generally referred to as fit.

An example of a high-fit initiative would be the work that Starbucks has undertaken with

activist groups concerning its Free Trade coffee program (cf. Argenti 2004). In this situation, the

company has direct experience and expertise in the field and can therefore effectively work with

external groups without bounded rationality becoming a significant issue. A low-fit initiative, on

the other hand, would be if Starbucks were to undertake an initiative that supported efforts to

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educe illiteracy. Although such an initiative may be popular with consumers and other

stakeholders, the firm has little expertise in this area and would therefore be susceptible to

bounded rationality.

Therefore, the degree of fit is expected to mediate the effects of bounded rationality

within corporate philanthropy. The financial, intellectual and human resources of a firm can

provide significant insights into and progress towards addressing social problems. Managers can

leverage their firm’s business expertise toward achieving social goals, such as the Home Depot

relationship with KaBOOM! where the firm engages the expertise of its employees in a highly

relevant social cause (building playgrounds). Where fit is used to guide corporate philanthropy,

managers are more likely to allocate resources and expertise to charities in a financially

responsible and strategic manner, counteracting the effects of bounded rationality. Further, it is

able to allocate a wider range of resources to the initiative including specific employee expertise,

goods and services and other resources in addition to financial support. Conversely, under

conditions of relatively low fit, managers are less able to predict with certainty the potential costs

associated with alleviating a social problem, and they are less likely to be able to use specific

firm resources (e.g., employee volunteers) to efficiently contribute to the initiative. Therefore, it

is predicted that:

P1: As the level of firm-cause fit (low, medium, high) increases, firms will become

increasingly likely to adopt the relevant governance structure (hierarchy, hybrid,

market).

A second aspect of bounded rationality within corporate philanthropy concerns the ability

of the specific knowledge within the firm to be transferred to an external charity or nonprofit.

Because it can be more beneficial for firms to seek social impact in addition to the economic

impact from their philanthropy (Porter and Kramer 2002), many firms are expanding their

15


involvement from cash donations to comprehensive relationships with charities that could

include employee volunteerism programs, gifts-in-kind, and other non-monetary gifts. The issue

with these types of programs, as it relates to bounded rationality, is that the firm may not be able

to make a meaningful social impact with the initiative if its non-cash resources are not easily

transferred. For example, while the management and employees of a medical services firm

might be particularly valuable to a health-related cause, their skills as employee volunteers and

the benefits of other firm assets will have limited value to a literacy organization.

In situations of high tacit knowledge, firm expertise is not easily transferred outside the

borders of the firm (Kogut and Zander 1993). Thus, the social impact is lessened, decreasing

the overall value of the initiative. Indeed, Margolis and Walsh (2003) argued that firms favor

direct investment in philanthropy (e.g., hierarchy form of governance) when they have a

distinctive capability to address the social need. Therefore, it is predicted that:

Opportunism

P2: As the level of tacit knowledge transfer (low, medium, high) increases, firms will

become increasingly likely to adopt the relevant governance structure (market,

hybrid, hierarchy).

As discussed earlier, opportunism refers to the potential for one contracting party to take

advantage of the other. Such situations can occur when one party possesses specific knowledge,

or when there is a high degree of asset specificity in a contract, and one party is excessively

reliant on the other for its success. The managerial imperative with opportunism is to structure

contracts in such a way that the ability for one party to take advantage of the other is minimized.

Because of the one-sided nature of most philanthropic initiatives (the firm that voluntarily

provides funding, employee expertise, and other resources to the charity of its own choosing),

opportunism is not specifically an issue related to the firm-cause relationship. However, in

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addition to transactions external to the firm, transaction cost analysis has also been useful in

examining the internal structure of the firm (e.g., Rugman and Verbeke 2001) and specifically,

the role that the internal corporate structure plays upon the potential for opportunism on the part

of internal managers. It is this internal structure that is of particular relevance to the issue of

opportunism within corporate philanthropy.

For example, it has been found that companies are concerned about the potential for

managers to make philanthropic investment decisions based on personal preference or for

personal gain such as political stature in the community rather than corporate gain (Kahn 1997).

Similarly, Bartkus, Morris, and Siefert (2002) used agency theory to illustrate the potential for

influential stockholders to steer philanthropic investment decisions away from the strategic

objectives of the corporation. Therefore, it is necessary for firms to institute policies and

mechanisms that prohibit individual managers to stray from corporate objectives and, in the

process, alleviate the potential for what Pringle and Thompson (2001) referred to as the

“chairman’s spouse syndrome.” To this end, Dunfee and Hess (2000) suggested that the internal

control mechanism of the firm has the ability to exclude corruption from the philanthropic

decision-making process.

Opportunism of this type is expected to be a particularly salient issue for firms that have

dispersed control of the philanthropic support decision. For example, in a widely dispersed

organizational structure (e.g., the quick-service restaurant franchise model), without a

hierarchical governance structure each store manager/owner is free to make corporate

philanthropy investments. In many cases, the investment may be related to a personal motive,

and therefore provide the firm only marginal value in both economic and social impact terms. If

a hybrid or hierarchical structure is introduced, and decision-making authority is removed from

17


the dispersed audience, managers are better able to focus the firms’ initiatives on only those

issues that will deliver economic and social impact. Perhaps it is not surprising that, as

mentioned earlier, the QSR category is where many high profile hierarchical governance

structures can be observed.

Therefore, the extent to which there exists potential for dispersed managers to take

advantage of a corporate philanthropic initiative for personal rather than corporate objectives will

determine the governance structure a firm chooses for corporate philanthropy. Specifically, it is

predicted that:

P3: As the dispersion of decision-making for philanthropy within the firm (low, medium,

high) increases, firms will become increasingly likely to adopt the relevant

governance structure (market, hybrid, hierarchy).

Asset Specificity

Porter and Kramer (2002) state that firms can increase the success of their philanthropic

initiatives by focusing their efforts and building awareness of their support for a specific charity

or cause. Likewise, Varadarajan and Menon (1988) argued that some firms would benefit more

from their cause-related marketing programs by focusing on a specific cause that is meaningful

to their customer base. Through corporate philanthropy, a firm can establish a relationship with

a specific philanthropic cause or initiative. This specific initiative can be used to differentiate the

firm from its competitors and act as a source of competitive advantage. It can therefore be

argued that by choosing a single (or a select few) charity partner, firms are in a better position to

both gain economically and impact social objectives.

However, when a firm engages a single charity partner, it faces a higher degree of risk.

By building a long-term relationship with a specific charitable organization, the firm’s brand

image may become inextricably linked to this charity. The firm essentially becomes tied to one

18


particular charity and runs the risk of having that charity exploit its power, or even having the

charitable brand negatively impact the corporate brand (Bloom, Hussein, and Szykman 1995).

By becoming reliant upon an external organization for its future success, the firm is no longer

able to control the initiative. The balance of power shifts from the firm to the nonprofit partner,

which then has a credible hostage for further negotiations with the firm (Williamson 1996).

In any philanthropic initiative, managers will seek to minimize the potential risks and

maximize the potential benefits from the effort. If the firm pursues a single cause, a manager can

minimize risk by incorporating a hierarchy structure and therefore retain control over the asset

necessary for future success. On the other hand, a manager can choose to minimize risk by

developing initiatives across a number of causes, thereby engaging in a diversification strategy of

philanthropy. Under such a strategy, pursuing strategies that encompass the other governance

options (hybrid and market) is the more efficient means of reducing risk. Therefore, it is

predicted that:

P4: As the focus of the philanthropic efforts on a single cause (low, medium, high)

increases, firms will become increasingly likely to adopt the relevant governance

structure (hierarchy, hybrid, market).

Environmental Uncertainty

Corporations that are seen as more committed to a cause are perceived more positively,

while firms that are seen to be exploiting the cause for monetary gain in the short term are

perceived less favorably (Bloom et al. 1995). Further, Ellen and colleagues (2000) found that

consumer perceptions of long term corporate commitment were positively related to purchase

intentions. Based on these and other findings, researchers have encouraged firms to consider

19


social activities as strategic and long-term rather than opportunistic and short-term (Handleman

and Arnold 1999).

However, environmental uncertainty and the need for adaptation are in direct conflict

with the aforementioned benefits of long-term investment in philanthropy. Therefore, while

firms benefit by demonstrating commitment to philanthropy, these benefits may be outweighed

by the firm’s need to react to environmental changes. Thus a significant influence on the need

for adaptation is the industry in which the firm operates. Rapidly changing environments dictate

that firms remain nimble and reduce risk by incorporating fewer internal investments (Rangan,

Corey, and Cespedes 1993). Indeed, factors such as industry sector (Brammer and Millington

2003) and other institutional forces (Useem 1991) have been found to affect the giving behavior

of corporations.

When a firm engages an external charity partner, even when the relationship is a long-

standing one, its commitment is typically low. In fact, some firms institute strict time limits on

their support of external charities. However, when a firm establishes its own charitable

organization, as with any other forms of internal investment, the investment time horizon is

generally much longer. Even moving from a market to a hybrid model of governance requires

significantly more planning, resources, and a longer time horizon (Sagawa and Segal 2000).

Therefore the frequency with which the hierarchy form of governance appears within the QSR

category is arguably a reflection of the relative stability of this particular sector; generally

regarded as one of the most stable industries in North America and Europe.

P5: As the level of environmental uncertainty (low, medium, high) increases, firms will

become increasingly likely to adopt the relevant governance structure (hierarchy,

hybrid, market).

The propositions presented in the preceding section are summarized in table 2.

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Insert table 2 about here

DISCUSSION

Given the increasing funding challenges faced by charitable organizations, the continued

viability of corporate philanthropy is critical to the sustainability of many charities and nonprofit

organizations. However, corporate investment in philanthropic initiatives is only sustainable in

the long run if it demonstrates a positive return to the firm. Thus, it is our contention that an

examination of the governance of philanthropic practices of firms is critical to ensure that

investments in philanthropy are optimized. The governance structure selected for a firm’s

production function or distribution network has been shown to have a dramatic effect on the

profitability of those functions (Hennart 1994; Rangan et al. 1993). Similarly, we argue that the

means by which a firm chooses to govern its philanthropic initiatives can have a significant

effect on the efficiency and efficacy of its philanthropic investments.

One of the most significant contributions of this article is the expansion of the continuum

of corporate philanthropic initiatives to include self-branded or firm-controlled charitable

organizations. Apart from offering a potentially more efficient means of philanthropy, the

hierarchy form can also help encourage other firms to support the same cause. For example,

charities such as Ronald McDonald Children’s Charities are supported by other firms looking to

participate in high profile philanthropic investment opportunities (Barnes and Fitzgibbons 1991).

Firm-cause relationship governance also influences the ability of a firm to promote its

philanthropic investment. Although the inclusion of cause-marketing messages in advertising is

generally seen as beneficial to the firm, researchers caution that this type of promotion requires

21


great care. For example, Webb and Mohr (1988) found that the vast majority of consumers are,

to some extent, skeptical of the actual amount of support generated by and motives behind

corporate involvement in cause-marketing programs. Indeed, companies run the risk of

offending their publics and unwittingly negating whatever good they might have been able to do

when they promote their good deeds. However, a firm reticent to talk about its philanthropic

initiatives may be perceived as inactive in this regard (Alsop 2002). For some firms, a

relationship with an external charity allows the firm to let the charity promote the relationship,

thus alleviating consumer perceptions of self-serving motives (Szykman and Clark 2005).

However, for other firms moving to a hierarchy form of governance may help alleviate some of

the promotional challenges associated with corporate philanthropy, insofar as such initiatives

signal the increased efforts and commitment of the firm. Further, Ellen and colleagues (2000)

demonstrated that consumers are more supportive of firms that they perceive as more committed

and exerting more effort toward philanthropy, and firms can signal higher levels of effort and

commitment when they choose to brand their philanthropy (Peloza, Hassay and Hudson, 2005).

Although some firms will benefit from a hierarchical form of governance, it is not

appropriate for all firms. For example, Osterhus (1997) cited consumer trust in the firm as a

critical factor in corporate social programs. He states that trust in a corporate brand can enhance

the success of the promotion of corporate social programs, while lack of trust can cause the

initiative to backfire. Similarly, Strahilevitz (2003) found that perceptions of company ethics

had a positive effect upon the perceived motives for developing the philanthropic initiative.

Therefore, partnering with a well known, well-regarded charitable brand may be able to mitigate

the effect of negative consumer perceptions of a firm (e.g., Dawar and Pillutla 2000), or to

leverage the “halo effect” that a firm can receive when partnering with a respected nonprofit

22


(Basil and Herr 2003). In such cases, “purchasing” a philanthropic initiative would appear to

represent the best form of firm-cause relationship governance. However, corporations that

associate with charities that have tarnished images run the risk of having the tarnished image of

the charity impact the success of the philanthropic initiative as well as the corporate brand

(Bloom et al. 1995). In cases where firms may find their market options limited, they may be

forced to internalize or “make” their own philanthropic initiative.

Finally, although we examined corporate philanthropy as a form of instrumental

investment - one made to increase profits - firms engage in philanthropy for other reasons. For

example, the political theory of corporate social responsibility proposed by Garriga and Melé

(2004) suggests that firms engage in philanthropy to gain political clout and strength. In such

cases, even though internalization may be the appropriate strategy given market conditions, a

firm may still choose to engage an external charity to gain exposure to board members, etc.

The propositions presented here directly extend the work of Margolis and Walsh (2003,

p. 289) who stated: “Categorizing corporate responses using this scheme of make, buy or hybrid

can provide insight into the factors that shape companies’ investment and control decisions

surrounding responses to social ills.” In exploring the propositions set forth in this paper,

researchers can complement their examination of consumer perceptions to include the impact of

managerial-level factors on the shape of corporate philanthropic initiatives.

Finally, this article extends existing research on corporate commitment, effort, and firm-

charity fit within corporate philanthropy by examining the effects of transaction costs on firm-

cause relationship governance. The application of the TCA framework produced a number of

testable propositions and an innovative framework for understanding and examining firm-charity

relationships. The ability of firms to recognize and respond to these costs is critical if they are to

23


successfully leverage the billions of dollars spent annually on corporate philanthropy. Firms

who successfully invest in philanthropy will not only receive significant strategic benefits but

will generate considerable social benefit by helping the many charities that now rely on corporate

funding.

24


TABLE 1

A Make-Versus-Buy Schema of Philanthropic Investment Options

Governance Structure Market Hybrid Hierarchy

Strategy Buy Collaborate Make

The firm offers The firm enters into a co- The firm develops and

Initiative description

support to an

existing charitable

branded partnership with

an existing charitable

brands its own, internal,

wholly- owned nonprofit

organization. organization.

organization.

McDonald’s makes McDonald’s partners with Ronald McDonald

a donation to a a children’s hospital to Children’s Charities

Example

local children’s establish and fund a

hospital.

specialized burn treatment

center.

Control of use of funds Charity Firm

Firm’s brand exposure (e.g.,

philanthropic investment risk)

Limited Acute

Investment commitment

Episodic Long-term

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TABLE 2

Corporate Philanthropy Transaction Costs and Preferred Governance Structures

Source of Transaction Costs Key Issues Firm Preference

Behavioral Assumptions

1. Bounded Rationality

2. Opportunism

Transaction Dimensions

1. Asset Specificity

Firm-Cause Fit,

Employee

Involvement

Corporate Structure

Firm Focus,

Commitment

2. Environmental Uncertainty Industry, Firm

Commitment

P1: Fit ↑: Hierarchy

Fit ↓: Market

P2: Tacit Knowledge ↑: Hierarchy

Tacit Knowledge ↓: Market

P3: Decentralization ↑: Hierarchy

Decentralization ↓: Market

26

P4: Single Cause Focus ↑: Hierarchy

Single Cause Focus ↓: Market

P5: Uncertainty ↑: Market

Uncertainty ↓: Hierarchy


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