The impact of tourism firm’s philanthropy decision on its business objective

Abstract

This study explains the impact of tourism firm’s corporate philanthropy (CP) decision on its business objective in a competition environment from a strategic management perspective. Key results are summarized as follows. First, tourism firms can use CP as an effective strategy to compete for higher sales revenue and achieve their organizational objective of higher profit if CP generates market competitiveness. Second, if only one of the two competing tourism firms gives to charity and CP generates market competitiveness, the tourism firm’s giving will deteriorate its competitor’s performance. Third, if CP induces no competitive advantage, neither competing tourism firm has an incentive to engage in CP.

Keywords

corporate philanthropy strategic management tourism firms

Introduction

Why do corporations engage in corporate philanthropy (CP)? In response to this interesting question, research studies have used value enhancement theory and agency cost theory to examine the behavior of a corporation’s CP (Brammer and Millington, 2005; Brown et al., 2006; Chen and Lin, 2015b; Navarro, 1988; Wang et al., 2008). Brammer and Millington (2008) stated that engaging in CP could not only benefit stakeholders and societal needs but also achieve business and social objectives.

Indeed, CP can be considered as a tourism firm’s strategy. From the perspective of strategic management, a company’s strategy combines the competitive moves and business approaches that managers use to please customers and to compete and achieve organizational objectives (Thompson and Strickland, 2003). Directors and managers of tourism firms can use CP to create a sustainable competitive advantage for their firms while protecting their reputation and bottom line. Chen and Lin (2015a) empirically showed that CP could benefit the performance of Taiwanese tourism firm in terms of profitability and future growth opportunity.

Moreover, according to value enhancement theory, CP is a type of business expense that creates value for shareholders (Wang et al., 2008), because CP could enhance a firm’s positive image and reputation, improving both customer loyalty (Lev et al., 2010) and employee morale (Navarro, 1988). In addition, agency cost theory proposes that managerial insiders could enhance their personal image and reputation through CP, but at the expense of shareholders (Brammer and Millington, 2005). Therefore, CP can be considered as an agency cost, because it fulfills the managerial insiders’ taste for “doing good” while shareholders suffer an opportunity cost (Brown et al., 2006). Porter and Kramer (2002) also argued that CP could act as a differentiation strategy to enhance corporate competitiveness and performance.

This article makes an important contribution to the tourism research literature by explaining the impact of tourism firm’s CP decision on its business objective in a competition environment from a strategic management perspective. The study differentiates itself from previous work in two ways. First, unlike Chen and Lin (2015a) who used data from a specific country to do empirical tests, we explicitly provide a duopolistic competition model and results from model outcomes can be generally applied.

Second, we argue that before making CP decision, the tourism firm needs to be able to distinguish itself from its competitors in a competition environment. Nonetheless, when examining the CP behavior of tourism firms, Chen and Lin (2015b) focused only on a firm’s giving decision-making without the consideration of the CP decision made by its competitor. The proposed model can explicitly show how engaging in CP could enable tourism firms to compete and achieve their business objectives.

To describe the impact of tourism firm’s CP decision, the model has two main assumptions. Note that these two hypothetical assumptions are theoretically sound, because they are fundamentally based on value enhancement theory and agency cost theory, which are well accepted in the CP literature. First, according to the value enhancement theory, a tourism firm with CP enhances a firm’s socially responsible image and may or may not differentiate itself from a tourism firm without CP to the target consumer and reaped the benefits of consumer loyalty (Lev et al., 2010), which can increase demand for tourism firm’s products and services. Second, in line with the agency cost theory, engaging in CP incurs cost and the total cost of CP includes direct giving expenses, human resource and administrative cost, and agency cost of managerial misconduct (Wang et al., 2008).

Tourism industry without philanthropy

Assume that two competing tourism firms produce and sell similar products and services, and neither tourism firm gives to charity. Let $Q_{i}^{N}$ denote the quantity of the competing good produced by tourism firm i (i = 1, 2). $Q_{i}^{N} > 0$ , because both tourism firms under duopolistic competition enjoy abnormal profits in the long run. Therefore, the quantity of market demand is: $Q^{N} = Q_{i}^{N} + Q_{j}^{N}$ > 0, i, j = 1, 2 and i ≠ j. The market demand for the duopolistic good is given as

Q^{N} = α - P^{N} \Leftrightarrow P^{N} = α - Q^{N}

where $P^{N}$ is the positive market price and α is a positive parameter of market demand (α > 0).

Both competing tourism firms are also assumed to use the similar management and technology in operations and hence have the same cost function. The cost function of tourism firm i’s production is

C_{i}^{N} = m Q_{i}^{N}

where m denotes a constant unit marginal cost (m > 0). Thus, the profit function for each tourism firm ( $π_{i}^{N}$ ) is given as

π_{i}^{N} = P^{N} Q_{i}^{N} - m Q_{i}^{N} = (α - Q^{N} - m) Q_{i}^{N}

Since both competing tourism firms make abnormal profits in the long run, $π_{i}^{N}$ = $(α - Q^{N} - m) Q_{i}^{N} > 0$ , and thus, α − m > 0.

We can solve the equilibrium market outcomes of both duopolistic tourism firms by taking the first-order derivative of the profit function with respect to output and derive the optimal output level and the corresponding sales revenue and profits for the tourism firms under duopolistic competition. Each of the two tourism firms simultaneously sets its optimal output level that maximizes its own profit in equation (3). The equilibrium market outcomes are given as

G_{i}^{N} = 0, Q_{i}^{N} = (α - m) / 3

{SR}_{i}^{N} = (α - m) (a + 2 m) / 9

and

π_{i}^{N} = {(α - m)}^{2} / 9 > 0

where $G_{i}^{N} = 0$ , because neither tourism firm gives to charity, ${SR}_{i}^{N}$ represents the sales revenue for each tourism firm. These equilibrium outcomes serve as the benchmark for evaluating and comparing with those of the situation in which only one tourism firm gives to charity.

Tourism industry with philanthropy

Assume that one of two tourism firms gives to charity and let $Q_{g}^{G}$ and $Q_{n}^{G}$ denote the quantity of the competing good produced by tourism firm with and without CP, respectively. Given that both tourism firms under duopolistic competition enjoy abnormal profits in the long run, the quantity of market demand $Q^{G} = Q_{n}^{G} + Q_{g}^{G} > 0$ . CP produces a socially responsible image, which enhances the competitive advantages of brand differentiation and customer loyalty (Lev et al., 2010), and thus may induce customers to increase their demand for the firm’s products and services (Bhattacharya and Sen, 2003).

Therefore, when a tourism firm gives to charity, its market demand is assumed to increase by βG, where G is tourism firm’s direct giving spending and the parameter β reflects the degree of increased demand for tourism firm’s products and services because of the competitive advantage of brand differentiation and customer loyalty induced by CP (competitive advantage of CP) and β ≥ 0. This denotes that the increase in market demand is proportional to the size of tourism firm’s G(G ≥ 0). The market demand for tourism firm’s products and services increases as the competitive advantage of CP (β) rises. As only one duopolistic tourism firm gives to charity, the inverse market demand functions of tourism firms without CP ( $P_{n}^{G}$ ) and with CP ( $P_{g}^{G}$ ) are

P_{n}^{G} = α - Q^{G}

and

P_{g}^{G} = α + β G - Q^{G}

Engaging in CP also incurs cost. The cost includes direct giving expenses, human resource and administrative expenses, and agency cost of managerial misconduct. McWilliams and Siegel (2001) stated that the costs of human resource and administration may not increase linearly, because economies of scale and learning affect the management of giving practices. Wang et al. (2008) indicated that the agency cost of managerial misconduct resulting from the giving conflicts between the directors and managers participating in CP and shareholders is supposed to be minimal at low levels of CP, but likely to become more significant as CP increases.

Consequently, the cost of CP is assumed to take a quadratic form $κ G^{2} / 2$ , where G is the direct cost of CP and κ (κ > 0) denotes the induced cost of giving practices, including human resource and administrative cost and agency cost of managerial misconduct. Hence, the total cost functions of tourism firms without CP ( $C_{n}^{G}$ ) and with CP ( $C_{g}^{G}$ ) are

C_{n}^{G} = m Q_{n}^{G}

and

C_{g}^{G} = m Q_{g}^{G} + κ G^{2} / 2

Accordingly, the two profit functions can be written as

π_{n}^{G} = (α - Q^{G} - m) Q_{n}^{G}

and

π_{g}^{G} = (α + β G - Q^{G} - m) Q_{g}^{G} - κ G^{2} / 2

where $π_{n}^{G}$ and $π_{g}^{G}$ are the profits of tourism firms without and with CP, respectively.

On the one hand, the tourism firm that does not engage in CP sets an optimal level of output maximizing its profits in equation (11) while its competitor with CP simultaneously sets an optimal output level and an optimal amount of CP to maximize its profits in equation (12). Thus, the market equilibrium outcomes of the tourism firm without CP are as follows

G_{n}^{G} = 0, Q_{n}^{G} = (α - m) (3 κ - 4 β^{2}) / (9 κ - 8 β^{2})

{SR}_{n}^{G} = (3 κ - 4 β^{2}) (α - m) (2 m (3 κ - 2 β^{2}) + α (3 κ - 4 β^{2})) / {(9 κ - 8 β^{2})}^{2}

and

π_{n}^{G} = {{(α - m)}^{2} {(3 κ - 4 β^{2})}^{2} / (9 κ - 8 β^{2})}^{2} > 0

where $G_{n}^{G} = 0$ denotes the tourism firm that does not engage in CP and ${SR}_{n}^{N}$ represents its sales revenue. Given that a tourism firm operating in duopolistic competition can enjoy abnormal profit in the long run ( $π_{n}^{G} > 0$ ), its optimal output level $Q_{n}^{G}$ is greater than 0, that is $(α - m) (3 κ - 4 β^{2}) / (9 κ - 8 β^{2}) > 0$ . Therefore, equations (14) and (15) are all positive.

On the other hand, the market equilibrium outcomes of its competitor with CP are derived as follows

G_{g}^{G} = 4 β (α - m) / (9 κ - 8 β^{2}), Q_{g}^{G} = 3 κ (α - m) / (9 κ - 8 β^{2})

{SR}_{g}^{G} = 3 κ (α - m) (2 m (3 κ - 4 β^{2}) + 3 α κ) / {(9 κ - 8 β^{2})}^{2}

and

π_{g}^{G} = κ {(α - m)}^{2} / (9 κ - 8 β^{2}) > 0

where $G_{g}^{G}$ is the optimal giving spending and ${SR}_{g}^{G}$ represents the sales revenue for the tourism firm with CP. Because tourism firms operating in duopolistic competition can enjoy abnormal profitability in the long run, $π_{g}^{G}$ is greater than 0. This implies that $9 κ - 8 β^{2} > 0$ . Hence, equations (16) to (18) are also positive.

The impact of tourism firm’s philanthropy decision and its implications

In this section, the study explains the impact of tourism firm’s CP decision and its implications from a perspective of strategic management based on the important results derived from the duopolistic competition model. We arrive at the following results by comparing the equilibrium market outcomes of a tourism firm with CP with those of both tourism firms without CP based on equations (5) and (6) and (17) and (18) if β > 0

{SR}_{g}^{G} - {SR}_{i}^{N} = 8 β^{2} κ^{2} (α - m) (18 a κ + 9 m κ - 8 a β^{2} - 16 β^{2} m) / {(3 (9 κ - 8 β^{2}))}^{2} > 0

and

π_{g}^{G} - π_{i}^{N} = 8 β^{2} {(α - m)}^{2} / (9 (9 κ - 8 β^{2})) > 0

Equations (19) and (20) reveal that when one of two competing tourism firms gives to charity, sales revenue and profit of the tourism firm with CP are greater than those of both tourism firms without CP if CP generates a competitive advantage of brand differentiation and customer loyalty according to the value enhancement theory. These imply that a tourism firm can use CP as its company strategy to compete in terms of higher sales revenue and achieve its organizational objective in terms of higher profits (sales revenue after accounting for cost).

Similarly, we can demonstrate the effects of tourism firm’s CP on the market outcomes of its competitor without CP if β > 0 by showing the following computations

{SR}_{g}^{G} - {SR}_{n}^{G} = 4 β^{2} (a - m) (6 a κ - 4 a β^{2} + 3 m κ - 4 m β^{2}) / {(9 κ - 8 β^{2})}^{2} > 0

and

π_{g}^{G} - π_{n}^{G} = 16 β^{2} {(a - m)}^{2} (κ - β^{2}) / {(9 k - 8 β^{2})}^{2} > 0

The positive signs of equations (21) and (22) imply that a tourism firm engaging in CP can not only compete and achieve its business objective but also deteriorate the sales revenue and profits of its competitor without CP. Since the tourism firm’s CP has negative effects on its competitor without CP, the tourism firm that does not give to charity thus has an incentive to engage in CP to protect its firm’s performance.

Another important implication is that the competitive advantage of CP is a critical determinant of whether or not tourism firms should give to charity. As shown in equations (23) and (24), CP donated by a tourism firm may have no impact on its competitor’s performance if CP induces no competitive advantage (β = 0)

{lim}_{β \to 0} ({SR}_{g}^{G} - {SR}_{i}^{N}) = {lim}_{β \to 0} ({SR}_{g}^{G} - {SR}_{n}^{G}) = 0

and

{lim}_{β \to 0} (π_{g}^{G} - π_{i}^{N}) = {lim}_{β \to 0} (π_{g}^{G} - π_{n}^{G}) = 0

In other words, from a strategic management perspective, as the competitive advantage of its competitor’s CP (β) approaches 0, neither tourism firm has an incentive to engage in CP.

Conclusion

This study uses a duopolistic competition model to explain the impact of tourism firm’s CP decision on its business objective in a competition environment from a strategic management perspective. Several interesting and important results derived from the model offer key insights into CP behavior between two competing tourism firms and are summarized as follows.

First, this study shows that tourism firms should engage in CP in a competition environment. The reason is that tourism firms can use CP as an effective strategy to compete for higher sales revenue and achieve their organizational objective of higher profits if CP generates market competitiveness.

Second, if only one of two competing tourism firms gives to charity and CP generates market competitiveness, the tourism firm’s giving will deteriorate its competitor’s performance. Therefore, the tourism firm that does not give to charity should engage in CP to protect its firm’s performance.

Third, tourism firms would give to charity only if CP could induce a competitive advantage of brand differentiation and customer loyalty to increase market demand for their products and services. If CP induces no competitive advantage, tourism firms under duopolistic competition have no incentive to engage in CP. This provides a theoretical explanation for Chen and Lin’s (2015a) empirical finding of why some Taiwanese tourism firms with CP did not continuously engage in CP. The finding also highlights the importance of the competitive advantage of CP. Consequently, an accurate measure of the competitive advantage of CP can be a major factor in effective CP decision-making.

Footnotes

Declaration of conflicting interests

The author(s) declared no potential conflicts of interest with respect to the research, authorship, and/or publication of this article.

Funding

The author(s) received no financial support for the research, authorship, and/or publication of this article.

References

Bhattacharya

Sen

(2003) Consumer-company identification: A framework for understanding consumers’ relationships with companies. Journal of Marketing 67(2): 76–88.

Brammer

Millington

(2005) Profit maximisation vs. agency: An analysis of charitable giving by UK firms. Cambridge Journal of Economics 29(4): 517–534.

Brammer

Millington

(2008). Does it pay to be different? An analysis of the relationship between corporate social and financial performance. Strategic Management Journal 29(12): 1325–1343.

Brown

Helland

Smith

(2006). Corporate philanthropic practices. Journal of Corporate Finance 12(5): 855–877.

Chen

Lin

(2015a). The impact of corporate charitable giving on hospitality firm performance: Doing well by doing good? International Journal of Hospitality Management 47: 25–34.

Chen

Lin

(2015b). Understanding corporate philanthropy in the hospitality industry. International Journal of Hospitality Management 48: 150–160.

Lev

Petrovits

Radhakrishnan

(2010). Is doing good good for you? How corporate charitable contributions enhance revenue growth. Strategic Management Journal 31(2): 182–200.

McWilliams

Siegel

(2001). Corporate social responsibility: A theory of the firm perspective. Academy of Management Review 26(1): 117–127.

Navarro

(1988). Why do corporations give to charity? Journal of Business 61(1): 65–93.

10.

Porter

Kramer

(2002). The competitive advantage of corporate philanthropy. Harvard Business Review 80(12): 56–68.

11.

Thompson

Strickland

(2003) Strategic Management: Concepts and Cases, 13th ed. New York: Mcgraw-Hill.

12.

Wang

Choi

(2008). Too little or too much? Untangling the relationship between corporate philanthropy and firm financial performance. Organization Science 19(1): 143–159.