LABOR LAWS AND CORPORATE INVESTMENT

• Author: Dalia Marciukaityte
• DOI: http://doi.org/10.1111/jfir.12179
• Date: 01 July 2019
• Published date: 01 July 2019

The Journal of Financial Research Vol. LXII, No. 2 Pages 413–444 Summer 2019

DOI: 10.1111/jfir.12179

LABOR LAWS AND CORPORATE INVESTMENT

Dalia Marciukaityte

Illinois State University

Abstract

In the United States, the costs of unionized labor are higher in states without right‐to‐

work (RTW) laws. I show that unionized firms located in these states invest less.

These firms have about 4 percentage point lower capital expenditures (normalized by

net property, plant, and equipment) than other firms. I confirm these findings by

examining a natural experiment created by the adoption of RTW laws in Oklahoma

and examining union certification elections using regression discontinuity design.

JEL Classification: G31, G38

I. Introduction

About half of U.S. states have adopted right‐to‐work (RTW) laws regulating labor

unions. Once these laws are adopted, unions cannot require payments of fees or

dues from nonunionized employees as a condition of employment.

1

This reduces

financial resources of unions, lowering their bargaining power and lowering union

costs to firms. Defenders of RTW laws contend that these laws increase

investment by businesses, creating more jobs.

2

Critics, including labor unions,

disagree with these arguments and fight against RTW laws.

3

Recent adoptions of

RTW laws and union resistance against them suggest that legislators and unions

think that these laws matter.

4

1

During my sample period, the requirement to join a union as a condition of employment was illegal in all

states.

2

Stephen Moore, “Michigan Workers Set Free,”Wall Street Journal, Political Diary (April 1, 2013),

Available at https://www.wsj.com/articles/SB10001424127887324789504578380591282751214.

3

Shikha Dalmia, “The Next Battleground in the State Labor Wars,”Wall Street Journal, Opinion (September

30, 2012), Available at https://www.wsj.com/articles/SB10000872396390443524904577651302336491614.

4

Shikha Dalmia, “The Next Battleground in the State Labor Wars,”Wall Street Journal, Opinion (September

30, 2012), Available at https://www.wsj.com/articles/SB10000872396390443524904577651302336491614;Stephen

Moore, “Michigan Workers Set Free,”Wall Street Journal, Political Diary (April 1, 2013), Available at https://www.

wsj.com/articles/SB10001424127887324789504578380591282751214; Paul Moreno, “How ‘Right to Work’

Became Politically Possible,”Wall Street Journal, Opinion/Commentary (March 15, 2015), available at https://

www.wsj.com/articles/paul‐moreno‐how‐right‐to‐work‐became‐politically‐possible‐1426458516; Kris. Maher,

“Missouri Becomes 28th Right‐to‐Work State,”Wall Street Journal, U.S. (February 6, 2017), available at https://

www.wsj.com/articles/missouri‐becomes‐28th‐right‐to‐work‐state‐1486407191.

413

© 2019 The Southern Finance Association and the Southwestern Finance Association

As states that adopt RTW laws tend to be smaller and less industrialized, most

U.S. firms still are in states without RTW laws. In this article, I examine whether the

absence of RTW laws reduces capital expenditures of unionized firms. Based on the

findings in earlier studies of unionization and investment (e.g., Hirsch 1992), I expect a

positive relation between RTW laws and investment by unionized firms. However, it

cannot be determined based on these studies whether this relation is significant.

Early studies find that RTW laws have little effect on unionized firms as

unions have ways to evade these laws (e.g., Lumsden and Petersen 1975; Bronars and

Deere 1990; Abraham and Voos 2000). For example, Abraham and Voos (2000)

estimate that the adoptions of RTW laws by Louisiana (1976) and Idaho (1985) have

increased firm value by only 2% to 4%. However, recent studies suggest that this

situation has changed and RTW laws have a significant effect on union bargaining

power. For example, unionized firms in states without RTW laws have higher risk

(Chen, Kacperczyk, and Ortiz‐Molina 2011) and worse stock performance (Marciu-

kaityte 2018) than other unionized firms. When states adopt RTW laws, unionized

firms reduce their financial leverage as the need to improve their bargaining position

with unions is reduced (Matsa 2010). Different from these studies, I focus on capital

expenditures.

Studies suggest that unionization reduces investment by U.S. firms (Hirsch

1992; Fallick and Hassett 1999; Chen and Chen 2013). Different from these studies, I

focus on RTW laws rather than the level or presence of unionization. From a regulatory

perspective, the question about labor laws governing unionization is more practical as

labor laws can be changed directly through legislative processes. Moreover, focusing

on RTW laws and using firm‐level unionization measures allows me to mitigate some

econometric problems. First, I use differences‐in‐differences analysis and compare the

effect of RTW laws on capital expenditures of unionized and nonunionized firms. This

allows me to reduce endogeneity problems caused by a lack of randomness in the

adoption of RTW laws. Second, I examine a natural experiment created by the

adoption of RTW laws in Oklahoma. Third, I use the regression discontinuity design

and compare capital expenditures of firms in states with and without RTW laws

following union victories in certification elections. Fourth, I use firm‐level rather than

industry‐level unionization data, which allow me to control for industry effects and

avoid arguments that documented union effects are driven by industry characteristics.

I examine U.S. firms from 1995 to 2014 and find that unionized firms in states

without RTW laws have lower capital expenditures than other unionized firms. This

finding is robust to controlling for firm and state characteristics as well as time,

industry, industry‐by‐year, and firm fixed effects. Although most my tests use a

continuous measure of unionization, to show the economic significance of my results, I

use an indicator for unionized firms (with 20% or higher unionization). Unionized

firms have about 3.9 percentage point lower capital expenditures (normalized by net

property, plant, and equipment) in states without RTW laws.

My tests compare the effect of RTW laws on unionized and nonunionized

firms. To make sure that unionized and nonunionized firms have similar

characteristics, I also use propensity score matching. Examining unionized firms and

matched nonunionized firms, I find a 6.6 percentage point decrease in capital

414 The Journal of Financial Research

expenditures of unionized firms in states without RTW laws. Thus, using stronger

controls for firm characteristics, I find stronger evidence for the impact of RTW laws

on capital expenditures of unionized firms.

I confirm the findings of lower capital investment by unionized firms in states

without RTW laws by using the 2001 adoption of RTW laws in Oklahoma as a natural

experiment. Unionized Oklahoma firms have increased their capital expenditures after

the adoption. Moreover, using regression discontinuity analyses, I show a decline in

capital expenditures of unionized firms in states without RTW laws following union

victories in certification elections.

Lower capital investment is not always associated with slower sales growth as

some firms use their resources more efficiently than others. However, unionized firms

in states without RTW laws do not compensate for their lower capital expenditures by

more efficient use of their resources. I find that these firms have slower sales growth

than other firms.

Overall, my findings suggest that RTW laws have a significant impact on

corporate investment decisions. Unionized firms located in states without RTW laws

invest less. In addition to contributing to the literature on corporate investment, my

study contributes to the growing literature examining the effect of government policies

on businesses (e.g., Naiker and Navissi 2006; Kim, Pantzalis, and Park 2012; Boubakri,

Cosset, and Saffar 2012; Choi 2014; Cyree 2016). As states adopt or consider adopting

RTW laws, it is important to understand their effect on corporate investment decisions.

If RTW laws affect corporate investment, they will affect economic growth and

employment.

Although I examine U.S. firms, my findings are also relevant to other countries

as many countries have labor laws granting significant power to unions. Moreover, my

findings may be viewed as an example of the effect of costly laws or regulations

imposed on some firms. Other laws that reduce regulatory costs imposed on businesses

may have a similar effect on capital investment as RTW laws.

II. Unionization, Labor Laws, and Investment Decisions

Unions and Investment

To make capital investments, firms need positive net present value (NPV) projects and

financing. Unionization decreases the free cash flows projects generate for firms

(Hirsch 1991) and increases risk (Grullon, Lyandres, and Zhdanov 2012), reducing the

NPV of projects. As not all firms that compete for the same customers are exposed to

high union costs, firms exposed to these costs cannot transfer them to their customers

by charging higher prices. Customers can leave these firms if they raise prices.

Unionization also affects financing. Lower profitability of unionized firms

(Clark 1984; Hirsch 1991) limits their internal financing, and their higher risk makes it

costlier to obtain external equity financing (Chen et al. 2011).

5

Thus, unionization,

especially when unions are strong, can decrease capital expenditures of unionized

firms. Examining the staggered adoptions of labor protection laws by U.S. states, Bai,

Fairhurst, and Serfling (2018) show that firms reduce their capital expenditures

415Labor Laws and Corporate Investment