Ananya Mittal, Business
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Doing Good vs. Doing Well: Corporate Social Responsibility and its impact on a firm’s financial performance

Image Source: Bela Geletneky

Corporate Social Responsibility has gained much traction in recent decades as a self-regulatory management strategy that firms employ for both individual and societal benefit. However, how these strategies affect a firm’s financial performance still remains a highly contested issue.

By Ananya Mittal

Profit maximization and shareholder satisfaction are traditionally considered the primary and most important responsibilities of businesses. Why did Coca-Cola, then, make their packaging 100% recyclable, despite the burden of increased costs? Why is Netflix offering 52 weeks of paid parental leave compared to the median 18 weeks if that involves reduced labor productivity? Why did Google’s CEO stand up against former president Donald Trump’s anti-Muslim comments even if it has no bearing on the company’s operations? 

Such actions have been brought about due to changes in the landscape of business objectives, ushering in a new era where stakeholders are starting to gain as much importance as shareholders to corporations. And with newly incorporated interests comes new management strategies, Corporate Social Responsibility, or CSR, being one of the most important ones. 

CSR is based on the idea that companies need to achieve a balance of economic, social and environmental imperatives in order to fulfill their obligation to the society around them. While incorporating CSR is largely voluntary in a majority of countries around the world, there are hardly any corporations that are not involved in CSR initiatives today as it is recognized as an integral part of their long-term goals. Hence, many of their business operations are complemented by measures such as environmental initiatives, ethical labor practices, charity work and volunteer projects. In fact, a survey conducted by Wesley Hutchinson of the Wharton Behavioral Laboratory concluded that one of the most popular reasons for such investments includes the improvement of a company’s brand image for their products or services and their “general corporate reputation.” Even so, while the importance and benefits of CSR cannot be contested, an important question remains related to the traditional role of firms: How do a company’s CSR activities affect its financial performance? Can a firm’s goals of profit maximization and social responsibility co-exist without a tradeoff? As it turns out, there are conflicting opinions on this matter with various studies claiming that CSR activities have either a positive, negative or no impact on a firm’s profits. 

I. A firm’s CSR activities positively affect its financial performance.

Most executives believe that CSR is beneficial as it helps manage their risk, attract better employees, ease their supply chains, increase access to capital and most importantly, differentiate themselves from competitors. A better brand image can also result in higher sales and other added benefits such as a possible listing in indices like the Dow Jones Sustainability Indexes, enhancing the company’s stock price and ultimately leading to greater profit. Another subtler, yet nonetheless essential, advantage could lie in the type of CSR activities that a firm pursues; investment focusing on sustainability issues could lower costs and improve efficiencies as well.

However, it is crucial to consider the time frame in which we consider a business’ returns from its corporate social performance. A meta-analysis of 58 studies conducted revealed that the enhanced corporate reputation resulting from CSR activities did not lead to better short-term financial performance and may have even decreased profits. In the long term, however, such investments contribute to increased stock returns, satisfying the interests of the stakeholders involved.

Another factor to take into consideration while evaluating the impact of CSR activities is the extent of their positive effect. This is highlighted by the results of a 2010 thesis that revealed that while CSR activities do not negatively impact a firm’s profitability, only a minimal positive effect is achieved in most cases. Another study by Cho, Chung and Young also pointed out that the type of investment affects how much profit a firm achieves. Their study discovered that among factors such as employee satisfaction, social contributions, environmental protection etc., only social contributions yielded a statistically significant positive correlation between CSR performance and profitability.

II. A firm’s CSR activities negatively affect its financial performance.

Some critics are skeptical of CSR’s impact on a company’s profits. McWilliams and Siegel highlight such issues in their study, arguing that firms infringe on shareholder interests by increasing costs beyond their original operations. They stress the original responsibility that firms bear, i.e., to create jobs and develop the economy. In a way, in fact, achieving this through profit maximization is in itself fulfilling their social responsibility. 

The type of industry a firm is involved in also plays a role in deciding whether it will benefit from “doing good” or not. For example, “The Economics and Politics of Corporate Social Performance” shows that firms in consumer industries benefit from better corporate financial performance with an increase in their CSR activities, while industrial companies face a contradicting situation. Other factors were also found to influence whether firms would benefit from investing in CSR activities, one of them being the level of price competition. Price competition involves companies trying to sell their products at a lower price as compared to their competitors who have similar goods or services, which in turn results in reduced profit margins. Hence, if the degree of price competition is high, the firm would receive less revenue and would not benefit from CSR activities due to minimal product differentiation. Hence, CSR investment would ultimately reduce profits for the corporation.

Consumer perception plays a big role in determining the profitability of a firm as well. If a consumer is indifferent to a firm’s social contributions, that is, if CSR does not influence their purchasing decisions, the firm will not receive additional revenue to offset the costs of their CSR investment. Consumers could also be skeptical of a company’s “greenwashing” techniques, where they believe that the firm is exaggerating how socially responsible it is or how environmentally sound its products are, deterring them from purchasing goods from the company. This would make any CSR investment, even if minimal, an additional cost with no returns, eventually reducing profits for the firm. 

III. A firm’s CSR activities have no impact on its financial performance.

Several studies support neither of the aforementioned views and have instead found it difficult to ascertain CSR activities’ effect on a company’s profits. Nelling and Webb, for example, suggested that previous literature indicating a positive relationship does not have research models that are detailed enough. They state that there is no statistically significant association between CSR activities and a firm’s financial performance when excluding the time-series effects, that is, how financial performance changes over time. Jung and Kim also concluded that while an increase in environmentally sound activities led to a decrease in costs, there was no evidence of an increase in sales revenue due to an improved brand image.

Another study by Baron, Harjoto and Jo states that while good corporate social performance could lead to higher profits, it could also be possible that profitable companies have enough slack resources that allow them to invest in CSR activities. This indicates that while there may be an association between the two variables, causation is still hard to determine. In other words, it is unclear whether CSR activities lead to higher profits, or if higher profits lead to better corporate social performance.

Final Thoughts

While there exist contradicting opinions and studies on the impact of a firm’s CSR activities on its profitability, there is no doubt that the importance of such management strategies is growing at an ever-increasing pace. In fact, it was found that 66% of global consumers in 2015 reported that they were willing to pay more for sustainable brands – an increase from 55% in 2014. Businesses will hence have to explore different methods in order to be able to strike a balance between their traditional and more recent responsibilities and ultimately decide how they will satisfy both personal and social goals. □

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