Accountability, Corporate Social Responsibility

1. CORPORATE GOVERNANCE
AND
ACCOUNTABILITY
Stephen Ong, BSc(Hons) Econs
(LSE), MBA International Business(Bradford)
Visiting Fellow, Birmingham City University
Visiting Professor, Shenzhen University
MBA1034 GOVERNANCE, LAW & ETHICS

2. • Discussion: Governance
& Accountability
1
• Corporate Social
Responsibility & Accounting2
• Case Discussion:
McDonald’s
• Video : Supersize Me
3
Today’s Overview

3. 1. Open Discussion
• Niamh M. Brennan, Jill
Solomon, (2008),"Corporate
governance, accountability and mechanisms
of accountability: an
overview", Accounting, Auditing &
Accountability Journal, Vol. 21 No. 7 pp. 885
– 906

5. 2. Corporate Social Responsibility &
Social Accountability
• Reassess the impact of corporate activities on the
environment and society at large
• Cases of environmental accidents, product
failures, etc. impact on the firm’s value and its
market share.
• Review types of corporate policies of stakeholder
management and pay off, including policies that
destroy rather than create firm value.
• Review the increasing importance of indices of
corporate social responsibility as well as socially
responsible investment.

6. Learning Outcomes
• By the end of this lecture, you should be able to:
1. Critically review the studies that investigate the
impact of corporate social responsibility (CSR) on
firm value and vice-versa
2. Describe some of the CSR indices that are available
from commercial providers and evaluate their
usefulness
3. Discuss the definitions of CSR and socially
responsible investment (SRI) and how these may
change with an investor’s set of values
4. Assess the evidence on whether investors pay a price
for SRI.

7. Overview
• Introduction
• The trust gap
• What is corporate social responsibility?
• Compliance with the law
• Market and government failures and stakeholders
• Broader conceptions of social responsibility
• Corporate social responsibility and corporate social
performance
• A framework for corporate social performance
• Corporate governance

8. Introduction
Did you ever expect a corporation to have a
conscience, when it has no soul to be
damned, and no body to be kicked?
Edward, First Baron Thurlow 1731-1806
Lord Chancellor during King George III’s reign.

9. Introduction (Continued)
• Craig Carter, Rahul Kale and Curtis Grimm
define corporate social responsibility as
follows
– “*Corporate] social responsibility deals with the
managerial consideration of non-market forces or
social aspects of corporate activity outside of a
market or regulatory framework and includes
consideration of issues such as employee
welfare, community
programs, charitable
donations, and environmental

10. • While CSR may be in the interest of the
targeted recipients, it is less clear a priori
whether it is in the interest of the company’s
shareholders.
• At worst, CSR may just be a reflection of the
principal–agent problem.
• Let’s attempt to answer the question
whether CSR is in the interest of the
shareholders.
Introduction (Continued)

11. • Many firms go beyond what is
required by their market and
nonmarket environments
–Some explicitly attempt to serve
directly the needs of their
stakeholders or, more broadly, of
society
Introduction (Continued)

12. Integrated Strategy Framework

13. The Trust Gap
• In interacting with the public or with
stakeholders, it is useful to begin
with caution
• The lack of trust in global
companies stands in stark contrast
to the trust in NGOs

14. Milton Friedman’s Profit
Maximization
•“To conduct the business in accordance
with *owners’+ desires, which generally
will be to make as much money as
possible while conforming to the basic
rules of society, both those embodied
in law and those embodied in ethical
custom”

15. Friedman’s Conception of a
Corporation

16. Compliance with the Law
• A fundamental component of
responsible management
–In recent years the number
and size of corporate scandals
and incidents of wrongdoing
have been alarming

17. Market and Government Failures
and Stakeholders
• The market perspective of Friedman leaves
unresolved a number of issues about the role of
business in society
– Market imperfections can cause a divergence
between private and social costs
– The reliance on private ownership and markets to
generate well-being is justified by utilitarianism
– Just as markets can be imperfect, so too can
government
– The agency problem - Market capitalism
coexists with managerial capitalism

18. Broader Conceptions of Social
Responsibility
• The Business Roundtable was
founded to:
–Examine public issues that affect
the economy and develop
positions which seek to reflect
sound economic and social
principles

19. The Business Roundtable View of
a Corporation

20. Corporate Social Responsibility and
Corporate Social Performance
• CSR focuses on the responsibility of
a firm for social performance
• Arises from a combination of:
–An ethical failure that establishes
a moral duty
–The assignment of that duty to the
firm

21. A Framework for Understanding
Corporate Social Performance
• Corporate social performance (CSP)
refers to social activities that satisfy
two conditions
–Social activities extend beyond the
requirements of the law and
regulations
–Social activities involve the private
provision of public goods or private

22. Motivations for CSP
• Moral
• Managerial perquisites
• Social pressure
• Strategic (CSR) motivation

23. Corporate Social Performance
and Business Sense

24. Rewards
• Consumer rewards
• Employee rewards
• Investor rewards
• Government rewards

25. Corporate Governance
• Social accountability
–Continues to be an issue for firms
that adopt social responsibilities

26. The Duties of Boards of Directors
• According to the Business Roundtable:
– Select, regularly evaluate and, if necessary, replace the chief
executive officer, determine management compensation, and
review succession planning
– Review and, where appropriate, approve the major strategies and
financial and other objectives, and plans of the corporation
– Advise management on significant issues facing the corporation
– Oversee processes for evaluating the adequacy of internal
controls, risk management, financial reporting and
compliance, and satisfy itself as to the adequacy of such
processes
– Nominate directors and ensure that the structure and practices of
the board provide for sound corporate governance

27. Sarbanes-Oxley
• The act is called the Public Company Accounting
Reform and Investor Protection Act
• Requires:
–Companies to identify an independent
“financial expert” on its board audit
committee
–The CEO and CFO to certify the firm’s
financial statements

28. Say-on-Pay
• A provision in the Dodd–Frank
financial reform act of 2010
• Required corporations to conduct a
nonbinding shareholder vote on
executive compensation at least
once every 3 years

29. The Market for Control
•Disciplines management and
directors to serve shareholder
interests through
mergers, acquisitions, hostile
takeovers, proxy contests, and
depressed market valuations

30. CSR and Financial Performance
• Can the lack of corporate social
responsibility or bad stakeholder
management can cost a
company dearly and may even
be exploited by the company’s
competitors?
• Case : Perrier and Benzene

31. Perrier and Benzene
• Benzene is a chemical which occurs
naturally in crude oil
– In laboratory tests on animals, it has
been found to cause cancer
– It is also believed to cause cancer in humans.
• Perrier was the number one mineral
water, charging premium prices based on its
reputation of the “champagne of bottled
water”.
• In early February 1990, traces of benzene were
found in Perrier bottles in North Carolina, USA.

32. Perrier and Benzene (Continued)
• Perrier initially wanted to hush up the
incident, shifting from explanation to
explanation and delaying any action.
• It finally recalled 160 million bottles
worldwide at a cost of £150m.
• By 1995, its market share in the USA had
dropped by half.
• Its market share in the UK fell from 60% to
9%.

33. CSR and Financial Performance
(Continued)
• Early studies have found mixed evidence on the
link between financial performance and CSR
– Stanley Vance finds a negative link, suggesting that
CSR is a net cost to the firm
– Jean McGuire et al., and Richard Wokutch and
Barbara Spencer find a positive link
– Gordon Alexander and Rogene Buchholz find no
relationship between the two.
• However, apart from McGuire et al., none of the
above studies raises the issue as to the direction
of causality between the two.

34. • Sandra Waddock and Samuel Graves
acknowledge this issue
–Higher levels of CSR may cause
higher levels of financial
performance and vice-versa
–Better performing firms have more
funds to spend on CSR.
CSR and Financial Performance (Continued)

35. • A reason why the direction of causality flows
from financial performance to CSR is given by
Jensen’s free cash flow problem
– Managers who have access to significant free cash
flow may divert some of this to social causes.
• The reason why the direction of causality should
flow from CSR to financial performance
is that CSR is part of good management and part
of having good relationships with the firm’s
stakeholders.
CSR and Financial Performance (Continued)

36. • Waddock and Graves’s measure
of CSR is based on the
Kinder, Lydenberg and Domini
(KLD) index which rates US firms
according to several aspects of
CSR (e.g. community relations
and workforce relations.
CSR and Financial Performance (Continued)

37. • They first regress the level of CSR for each firm in
1990 on the financial performance for the previous
year
– They find that there is a positive linkfor each
of their three measures of performance (ROA, ROE and
return on sales)
– This suggests that the free cash flow hypothesis is valid in
the context of CSR.
• They also regress financial performance for 1991 on
CSR for 1990
– They find a positive link for ROA and
return on sales
– This gives support to the hypothesis of good
management.
CSR and Financial Performance (Continued)

38. • Hence, Waddock and Graves find that
the direction of causality between CSR
and performance flows both
ways
–Firms with better past performance have
more funds to spend on CSR
–Firms with higher levels of CSR perform
better.
CSR and Financial Performance (Continued)

39. • Amy Hillman and Gerald Keim develop a model of
CSR and financial performance.
• They argue that there are two components of CSR
1. One component relates to improving the firm’s
relationships with its primary stakeholders
They call this stakeholder management (SM)
SM has a positive impact on firm performance
2. The other component relates to social issues that do
not improve the relationships of the firm with its
primary stakeholders
They call this social issue participation (SIP)
This component reduces financial
performance.
CSR and Financial Performance (Continued)

40. • Hillman and Keim’s SM and SIP are
equivalent to Waddock and Graves’s good
management and free cash flow
hypotheses.
• They find that financial performance
depends positively on SM and negatively on
SIP.
• However, they do not find that the levels of
SM and SIP depend on financial
performance.
CSR and Financial Performance (Continued)

41. • To summarise, recent empirical research
suggests that it is important to distinguish
between the two types of CSR
–CSR that targets a company’s direct
stakeholders, such as its customers
and employees, has a positive effect
on profitability
–CSR that targets wider social
issues has a negative effect.
CSR and Financial Performance (Continued)

43. CSR Indices
• CSR indices (e.g., FTSE Kinder, Lydenberg and
Domini (KLD) 400 Social Index) tend to be based on
– Exclusionary screens
– Strengths along the lines of a series of attributes.
• Exclusionary screens consist of excluding firms
from the index with significant involvement in e.g.
– alcohol,
– gambling,
– tobacco,
– fire arms, and
– military weapons.

44. CSR Indices (Continued)
• Attributes include e.g.
–Community relations
• Support for education, social housing, …
–Diversity
• The firm has policies in place to promote
women and minorities, …
–Employee relations
• Relationships with trade unions, employee
profit sharing schemes, …

45. –Environment
• Policies aiming to reduce or prevent
pollution, carbon neutrality, recycling, …
–Product
• Quality, innovation, product
safety, antitrust, policies enabling
socially disadvantaged groups to benefit
from the firm’s products and services, …
–Corporate governance
CSR Indices (Continued)

46. • There are now indices which
cater for investors concerned
about e.g.
–Catholic values (KLD)
–Sustainability (KLD)
–Islamic values (Dow Jones).
CSR Indices (Continued)

47. Conclusions
• The link between CSR and firm performance.
• The performance of SRI funds.
• How do you define SRI?

48. CASE DISCUSSION :
MCDONALD’S

49. Case - Nonmarket Environment of
McDonald’s
• Obesity - Economists studied the
increase in the body mass index and
concluded that it was due to several
factors:
– Increase in calorie intake
– Decrease in strenuousness of work
– Decrease in cost of food due to
technological change leading people to
eat more
1-49

50. Case - Nonmarket Environment of
McDonald’s
• Meal and Menu Nutrition Information - Public
attention to the obesity issue led to the introduction of
the Menu Education and Labeling Act (MEAL) in the
House and the Senate
• Healthy Lifestyles - As a result of the concern about
obesity, McDonald’s suspended its promotion of
supersize meals
1-50

51. Case - Nonmarket Environment of
McDonald’s
• Children’s Advertising
– McDonald’s promoted its trademark golden
arches on Barbie dolls and backpacks
– Some schools had McDonald’s days for lunch
– Used plastic toys for promotion
1-51

52. Cases - Nonmarket Environment of
McDonald’s
• Acrylamide – Activists argued that the
concentrations of acrylamide exceeded the
EPA and WHO standards for water specifically
in french fries from McDonald’s
• Mad Cow Disease - McDonald’s had dealt
with the issue of mad cow disease in a
number of other countries and had used that
experience to prepare for such an event in
the United States
1-52

53. Cases - Nonmarket Environment of
McDonald’s
• Antibiotics and Growth Hormones -
McDonald’s, the environmental group
Environmental Defense, and Elanco Animal
Health joined together to create the Antibiotics
Coalition
• Animal Welfare - McDonald’s adopted new
standards for its beef suppliers, including
minimum space standards for cattle in feedlots
• The Environment - McDonald’s established an
environmental policy pertaining to natural
resources, rain forests, sustainability, and waste
management
1-53

54. Further Reading
• Solomon, Jill (2010) Corporate Governance and
Accountability 3rd Edition, Wiley, UK. Ch.9-11
• Goergen, Marc (2012) International Corporate
Governance, Pearson. Ch.8
• Gary, Owen & Adams (1996) Ch.2-4
• CIMA - Performance Strategy: Study Text (2012)
BPP Learning Media Ltd. Part B : 4
• Baron, David P.(2013) Business and its
environment, 7th Edition, Pearson

55. Additional Readings (1)
• Mallin, C. A., Saadouni, B. and Briston, R. J. (1995) ‘The financial
performance of ethical investment funds’, Journal of Business Finance
and Accounting, 22, 483–96.
• Gregory, A., Matatko, J. and Luther, R. (1997) ‘Ethical unit trust financial
performance: small company effects and fund size effects’, Journal of
Business Finance and Accounting, 24(5), June, 705–725.
• Drexhage, G. (1998) ‘There’s money in ethics’, Global Investor, 109, 56.
• Williams, S. (1999) ‘UK ethical investment: A coming of age’, Journal of
Investing, summer, 58–75.
• Hancock, J. (1999) Making Gains with Values: The Ethical
Investor, Financial Times/Prentice Hall, London.
• Friedman, A. L. and Miles, S. (2001) ‘Socially responsible investment and
corporate social and environmental reporting in the UK: An exploratory
study’, British Accounting Review, 33, 523–548.
• Sparkes, R. (2002) Socially Responsible Investment: A Global
Revolution, John Wiley & Sons, Chichester, UK.
• Solomon, J. F., Solomon, A. and Norton, S. D. (2002) ‘Socially responsible
investment in the UK: Drivers and current issues’, Journal of General
Management, November 2001.

56. Additional Readings (2)
• Mercer Investment Consulting (2005) SRI: What Do Investment
Managers Think? 12st March, Mercer Human Resource Consulting
LLC and Investment Consulting Inc., New York, USA.
• Cobb, G., Collison, D., Power, D. and L. Stevenson (2005)
FTSE4Good: Perceptions and Performance, ACCA Research Report
No.88, Certified Accountants Educational Trust, London, UK.
• Freshfields Bruckhaus Deringer (2005) A Legal Framework for the
Integration of Environmental, Social and Governance Issues into
Institutional Investment, UNEP Finance Initiative, produced for the
Asset Management Working Group of the UNEP Finance
Initiative, October.
• Solomon, J. F. and L. Darby (2005) "Is Private Social, Ethical and
Environmental Disclosure Mythicizing or Demythologizing
Reality?", Accounting Forum, Vol.29, pp.27-47.
• Mercer Investment Consulting (2006) 2006 Fearless Forecast:
What Do Investment Managers Think About Responsible
Investment? March, Mercer Human Resource Consulting LLC and
Investment Consulting Inc., New York, USA.
• Solomon, J. F. and A. Solomon (2006) "Private Social, Ethical and
Environmental Disclosure", Accounting, Auditing and
Accountability Journal.
• Solomon J. F. (2008) Preliminary Report on Pension Fund Trustees
and Climate Change, ACCA (on blackboard).

57. NEXT Ideas for Discussion
• Carcello, Joseph
V., Hermanson, Dana R. &
Ye, Zhongxia (Shelly) (2011)
Corporate Governance Research in
Accounting and Auditing:
Insights, Practice Implications, and
Future Research
Directions, Auditing30. 3 (Aug

58. QUESTIONS?