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Corporate Governance and Firm Value:

The Impact of Corporate Social


Responsibility
Hoje Jo
Maretno A. Harjoto
ABSTRACT. This study investigates the effects of
internal and external corporate governance and moni-
toring mechanisms on the choice of corporate social
responsibility (CSR) engagement and the value of firms
engaging in CSR activities. The study finds the CSR
choice is positively associated with the internal and
external corporate governance and monitoring mecha-
nisms, including board leadership, board independence,
institutional ownership, analyst following, and anti-
takeover provisions, after controlling for various firm
characteristics. After correcting for endogeneity and
simultaneity issues, the results show that CSR engage-
ment positively influences firm value measured by
industry-adjusted Tobins q. We find that the impact of
analyst following for firms that engage in CSR on firm
value is strongly positive, while the board leader-
ship, board independence, blockholders ownership, and
institutional ownership play a relatively weaker role in
enhancing firm value. Furthermore, we find that CSR
activities that address internal social enhancement within
the firm, such as employees diversity, firm relationship
with its employees, and product quality, enhance the
value of firm more than other CSR subcategories for
broader external social enhancement such as community
relation and environmental concerns.
KEY WORDS: corporate social responsibility, corpo-
rate governance, analyst following, rm value
JEL CLASSIFICATION: G34, L2, M14
Introduction
Although there has been a noteworthy discussion
among scholars and practitioners over the last two
decades on what constitutes the best corporate
governance practices, corporate governance across
corporate America is more heterogeneous than ever
before. The recent collapse of many rms has not
only proven to be a watershed momentum in U.S.
corporate governance, it also has highlighted the
importance of information transparency. Informa-
tion problems and managerial incentives typically
limit the effectiveness of corporate governance in
public corporations (Jensen, 1993; Miller, 2005). As
a result, there has been a tremendous acceleration of
corporate governance activities, as well as a con-
vergence of certain trends in corporate governance
over the last few years (Hermalin, 2005). While the
literature indicates that effective corporate gover-
nance curtails managerial self-interest and protects
shareholder interests, this study posits that corporate
governance manages the interests of multiple stake-
holders and resolves the conicts of interest between
shareholders and non-investing stakeholders.
Along with the acceleration of corporate gover-
nance issue, one of the most signicant and con-
tentious corporate trends of the last decade is the
growth of Corporate Social Responsibility (CSR).
In essence, CSR is an extension of rms efforts
to foster effective corporate governance, ensuring
rms sustainability via sound business practices that
promote accountability and transparency. However,
there are various denitions of CSR. Friedman
(1970) rst denes CSR as follows: Corporate so-
cial responsibility is to conduct the business in
accordance with shareholders desires, which gen-
erally 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 eth-
ical custom. Carroll (1979) and Hill et al. (2007)
dene the hierarchical CSR as economic, legal,
moral, and philanthropic actions of rms that
Journal of Business Ethics (2011) 103:351383 Springer 2011
DOI 10.1007/s10551-011-0869-y
inuence the quality of life of relevant stakeholders.
While the denitions of CSR vary, it generally refers
to serving people, communities, and society in ways
that go above and beyond what is legally required of
a rm. According to Barnea and Rubin (2010),
however, if CSR initiatives do not maximize rm
value, such initiatives are a waste of valuable re-
sources and a potentially value-destroying proposi-
tion. CSR has continued to be a highly topical
subject regarding whether investments in CSR are
value-enhancing, value-destroying, or even value-
irrelevant. The debates about CSR continue to grow
without a clear consensus on its meaning or value.
In this paper, we rst examine the empirical
association between various corporate governance
and monitoring mechanisms and U.S. rms choice
of CSR involvement. We then explore how CSR
engagement and various governance mechanisms
affect rm value after correcting for endogeneity and
simultaneity. Well-designed corporate governance
systems would align managers incentives with those
of stakeholders. Hence, rms with effective corpo-
rate governance should place a greater emphasis on
value maximization. We examine two categories of
governance devices: internal (ownership concentra-
tion and board structure) and external (institutional
ownership and monitoring by security analysts).
Given that the relations among CSR, corporate
governance, and rm value are mixed, and that
previous studies do not control for the simultaneity
bias and endogeneity, this study explores the impact
of various governance mechanisms on rms choice
of CSR engagement and the effect of this engage-
ment on rm value after controlling for both the
simultaneity bias and endogeneity.
1
As one of the essential rationales behind CSR
engagement is to build trust relationships and social
capital, increasing attention is being paid to the effects
that social capital has on economic variables.
2
Several
studies analyze the relation between social capital and
economic growth (Knack and Keefer, 1997); social
capital and trust building (La Porta et al., 1997a, b);
social capital and government performance (La Porta
et al., 1999; Putnam, 1993); and social capital and
nancial development (Guiso, et al., 2004). In spite
of the increasing attention given to social capital,
however, only a few studies in nance examine CSR
engagement. Aggrawal and Nanda (2004) investigate
the relation between board size and social objectives
and nd that the number of social objectives posi-
tively affects rms board size. Fisman et al. (2005)
examine the link between rms CSR engagement
and accounting prot. They nd that the effect of
CSR on protability is stronger for rms in more
competitive industries. Barnea and Rubin (2010)
examine the relation between rms CSR ratings and
their ownership and capital structures and nd that
insiders tend to over-invest in CSR. Goss and
Roberts (2007) analyze the association between CSR
and the cost of bank loans. They nd that rms with
the worst social responsibility scores pay higher loan
costs while rms with good scores do not receive
lower loan costs. Hong and Kacperczyk (2009) nd
sin stocks from publicly traded rms that produce
alcohol, tobacco, and gambling have higher risk and
returns indicating that social norms affect stock prices
and returns. Although these studies enhance our
understanding of the important benets and costs of
CSR engagement, in our view, the previous research
on this issue is still premature to provide any denite
conclusions regarding the impact of CSR engage-
ment on rm value.
3
To correctly examine the relationship between
CSR and rm value, we need to consider potential
simultaneity bias and endogenous treatment effects.
Since better quality rms tend to choose CSR
engagement, the contribution of CSR engagement
to rm value will be overstated (Greene, 1993) if we
do not correct for the simultaneity and endogeneity
problems. In this paper, we conduct our endoge-
neity and simultaneity analyses in two stages. We
examine the factors determining CSR engagement
extensively in the rst stage, and then compare the
rm values of CSR engaging versus CSR non-
engaging rms in the second stage. Based upon a
large sample of 12,527 rm-year (2952 rms)
observations, including both CSR and no-CSR
rms during the 19932004 period, we initially
perform a rst-stage probit regression analysis of
CSR engagement. Consistent with the conict-
resolution hypothesis, the results show that the
likelihood of opting for CSR involvement is sig-
nicantly and positively related to governance
characteristics such as board leadership, board inde-
pendence, institutional ownership, analyst following,
and anti-takeover provisions after controlling for
such rm characteristics as rm size, leverage, prof-
itability, R&D, a rms diversication, and risk.
352 Hoje Jo and Maretno A. Harjoto
In the second-stage analysis, we nd that after
correcting for the endogenous treatment effect and
simultaneity bias, respectively, rm value, measured
by industry-adjusted Tobins q, is positively
related to the CSR choice or the CSR-combined
scores, suggesting that CSR engagement positively
inuences rm value. The results support the
conict-resolution hypothesis, as opposed to the
overinvestment explanation, and remain robust
under various specications, including the OLS, the
Heckman two-stage regressions, and the instru-
mental variables approach. Our results also suggest
that the value enhancement of rms CSR engage-
ment comes from rms internal social enhance-
ment, such as diversity, employee relations, and
product issues more than their CSR involvement in
broader external enhancement, such as activities
related to community and environmental issues. In
addition, after controlling for a potential simultaneity
bias, our inferences concerning the positive associ-
ation between CSR and rm value remain intact.
Furthermore, we maintain that security analysts
are important information intermediaries who
improve the transparency of a rms CSR activities.
Accordingly, the impact of CSR activities are
stronger when analyst following is higher, and the
impact of analyst following on rm value is also
strongly positive in all models. However, the mon-
itoring impact of institutional investors is occasion-
ally positive, but relatively weaker than that of
security analysts, presumably because of their dual
roles of monitors and investors. Overall, our results
suggest that rms engagement in CSR activities,
together with external monitoring by security ana-
lysts, is value enhancing. Furthermore, the positive
impact of CSR activities on rm value implies that
U.S. rms do not over-invest in CSR activities in
the sample period.
This paper contributes to the literature on CSR
and corporate governance in three distinct ways.
First, we conduct a full examination of the deter-
minants of CSR engagement and provide insights
into how corporate governance inuences rms
choice to engage in CSR by using all CSR rms
and no-CSR rms available from the Kinder,
Lydenberg, and Dominis (KLD) Stats database,
RiskMetrics (formerly, the Investor Responsibility
Research Centers (IRRC) governance and direc-
tor) database, and the Institutional Brokers Estima-
tion Services (I/B/E/S) database during the 1993
2004 period. Second, we consider more extensive
governance and monitoring mechanisms to examine
the impact of CSR on rms value and revisit the
over-investment hypothesis and the conict-resolu-
tion explanation in light of CSR. By appropriately
controlling for the endogenous treatment effects and
simultaneity bias, we are able to determine whether
rms over-invest in CSR activities. We postulate
that the role of corporate governance in the choice
of CSR engagement and the impact of that choice
on rm value might be different for each of the
internal and external governance mechanisms. We
believe that this is the rst empirical study to for-
mally address both the simultaneity and endogeneity
issues. Third, we provide further evidence that the
impact of security analyst following on rm value is
one of the most signicant among several considered
governance and monitoring mechanisms in the
presence of CSR engagement.
Hypotheses
Why do rms engage in CSR?
Despite large literature on CSR (Bowen, 1953;
Donham, 1927; and for an overview, see Whetten,
et al., 2002), there is no unied theory behind CSR
engagement, and there are at least two alternative
explanations regarding its existence. First, based on
Jensen and Mecklings (1976) agency theory, Barnea
and Rubin (2010) consider CSR engagement as a
principal-agent relation between managers and
shareholders, and argue that afliated insiders have
an interest in overinvesting in CSR in order to
obtain private benets of building reputation as good
social citizens, possibly at a cost to shareholders.
As reputation improves, top management will
enjoy better outside career opportunities and greater
negotiation power, which will eventually lead them
to have overcondence. Malmendier and Tate
(2005) suggest that there is some evidence of over-
investment by overcondent CEOs. Goel and
Thakors (2008) theoretical model also shows that
overcondent managers sometimes make value-
destroying investments. In a related vein, Bertrand
and Mullainathan (2003) argue that when manag-
ers are not closely monitored and insulated from
353 Corporate Governance and Firm Value
takeovers, active empire building may not be the
norm and managers may prefer to enjoy a quiet life.
If overcondent CEOs tend to over-invest in order
to build their reputations as good social citizens
without monitoring, we expect an inverse associa-
tion between monitoring and CSR choice because
the higher internal and external monitoring through
various governance mechanisms should reduce the
insiders incentive for CSR over-investment.
Second, while it may not be completely possible
to satisfy all related stakeholders, there is a growing
literature on conict resolution based on stakeholder
theory (e,g., Calton and Payne, 2003; Harjoto and
Jo, 2011; Jensen, 2002; Sherere et al., 2006), in
which the role of the corporation is to serve the
interests of other non-investing stakeholders as well.
According to the conict-resolution hypothesis,
to the extent that managers use effective monitor-
ing/governance mechanisms together with CSR
engagement to resolve conicts among stakeholders,
CSR engagement should be positively related to
effective governance mechanisms. Alternatively, if
various governance and monitoring mechanisms
view the rms CSR engagement as an effort of
potential conict resolution among various stake-
holders, then we would expect a positive association
between corporate governance and CSR engage-
ment.
Hypothesis 1: According to the over-investment
hypothesis, we expect that the choice of CSR
engagement is inversely associated with gover-
nance and monitoring mechanisms after control-
ling for confounding factors, while according to
the conict-resolution hypothesis, we expect a
positive association between the choice of CSR
engagement and governance and monitoring
mechanisms.
CSR, corporate governance, and rm value
The impact of CSR engagement on accounting
performance (i.e., return on assets (ROA)), is a long-
standing, but still unresolved question. According to
the management literature summarized by Margolis
and Walsh (2003), over 120 studies between 1971
and 2001 examine the empirical relation between
CSR and nancial performance, and the results are
largely inconclusive. They suggest that previous
studies are subject to various imperfections, such as
measurement problems related to both CSR and
nancial performance, a lack of necessary analyses of
causality and/or endogeneity, omitted variable
problems, a lack of methodological rigor, and a lack
of theory. While it is hard to draw a denite con-
clusion because of the imperfect nature of many
studies, the review of the empirical CSR literature
conducted by Margolis and Walsh (2003) indicates a
generally positive association between investing in
socially responsible activities and nancial perfor-
mance.
The impact of CSR engagement on rm value,
however, is relatively less examined.
4
In particular,
there is less evidence regarding how corporate
governance and the CSR engagement jointly affect
rm value after controlling for both the simultaneity
bias and endogeneity. According to the over-
investment hypothesis, insiders such as the CEO and
the board have a natural motivation to over-invest in
CSR activities if doing so enhances their reputation
building process (Barnea and Rubin, 2010). Then,
rm value will be negatively inuenced by the
CSR engagement. In contrast, the conict-resolu-
tion hypothesis suggests that if managers use effective
governance and monitoring mechanisms in con-
junction with CSR engagement to resolve conicts
among stakeholders, then rm value could be posi-
tively associated with CSR engagement and effective
governance mechanisms through reduced conict-
of-interests among various stakeholders.
Since there is no clear monitoring mechanism to
prevent rms from over-investing in various CSR
activities, we postulate that there should be some
effective monitoring mechanism out of all consid-
ered internal and external governance mechanisms
for the checking and balancing of CSR investments.
Board independence can be important in monitoring
the behavior of top management. Fama and Jensen
(1983) maintain that boards can be effective mech-
anisms to monitor top management on behalf of
dispersed shareholders by effectuating management
appointments, dismissals, suspensions, and rewards.
Other studies, however, point toward a paradoxical,
insignicant, or negative association between gov-
ernance quality, as proxied by the percentage of
outside directors on the board, and rm value.
354 Hoje Jo and Maretno A. Harjoto
Bhagat and Black (2001), Hermalin and Weisbach
(1991), and Morck et al. (1988) nd no signicant
relation between board independence and Tobins q.
Coles et al. (2008) examine the relation between
board structure and rm value, and nd that one
board size or composition does not provide the same
monitoring benets for all rms. Furthermore,
Bhagat and Black (2001), Hermalin and Weisbach
(1991), and Mehran (1995) nd an insignicant
relation between board independence and account-
ing performance. Agrawal and Knoeber (1996) nd
that Tobins q decreases with an increase in the
proportion of outside directors. Thus, the evidence
regarding the merits of independent boards remains
largely inconclusive.
Internal control systems, such as managerial incen-
tives, corporate charters, and boards of directors,
however, may not be a sufciently effective mecha-
nism to ensure corporate transparency and the
self-monitoring of rm behavior (Jensen, 1993).
Consequently, external monitoring by institutional
investors who own blocks of the rm has become
increasingly important. Agency theories argue that
pressures from external investors, such as institutional
investors, are necessary to motivate managers to max-
imize rm value instead of pursuing managerial
objectives (Allenet al., 2001; Jensen, 1986; Shleifer and
Vishny, 1986). Institutional investors are more willing
and able to monitor corporate management than are
smaller and more diffuse investors. Large blockholders
identify that managers are often driven by their self-
interests. Thus, as large shareholders, blockholders
have strong incentive to monitor managers (Demsetz
and Lehn, 1985; Shleifer and Vishny, 1986).
Chung and Jo (1996) indicate that security analysts
play important roles as corporate monitors in
reducing agency costs and motivating managers.
Analysts act as information intermediaries who help
expand the breadth of investors cognizance about
the managerial actions, and therefore, analyst fol-
lowing should have a positive impact on the market
value of rms. Knyazeva (2007) and Yu (2008) also
consider the potential role of analysts as an indirect,
but additional monitoring mechanism and support
the notion that analyst following imposes discipline
on misbehaving managers and helps align managers
with shareholders, thus improving managerial
incentives to undertake more optimal policies. Jo and
Kim (2007, 2008) further indicate that an improved
corporate transparency through frequent voluntary
disclosure will reduce the information asymmetry
between insiders and outsiders, discourage manage-
rial self-dealings, and therefore, enhance rm value.
Thus, to the extent that institutional investors and
security analysts provide effective external monitor-
ing regarding the information transparency of CSR
engagement, the CSR activities will have positive
effects on rm value. Combined together, the
implication that we draw from the above discussion
leads to the second hypothesis.
Hypothesis 2: (a) If the over-investment hypothesis
(the conict-resolution hypothesis) is correct,
then rm value measured by Tobins q is inversely
(positively) associated with the choice of CSR
engagement or investing in CSR activities after
correcting for simultaneity and endogeneity; and
(b) Because security analysts and/or institutional
investors provide external monitoring that im-
proves information transparency, we expect a
positive association between CSR engagement
and rm value to the extent that there exist
external monitoring mechanisms.
If analysts are afliated with investment banks,
then they face their own conicts of interest, raising
questions about their effectiveness. For instance,
Dechow et al. (2000) and Lin and McNichols (1998)
suggest that analysts afliated with investment banks
that underwrite equity issues tend to make higher
growth forecasts than unafliated analysts do, and
subsequently have larger forecast errors. If informa-
tion intermediaries such as nancial analysts are
independent, then their information production is
more likely to increase transparency. As we do not
have an access to the data on analyst afliation, our
results might be biased toward rejecting the analysts
role of enhancing information transparency, and
therefore, the association between CSR engagement
and rm value.
Data, measurement, and methodology
Data
We use CSR measures from the Kinder, Lydenberg,
and Dominis (KLDs) Stats database. KLDs Stats
355 Corporate Governance and Firm Value
database includes over 3000 companies containing
various CSR characteristics. In particular, KLDs
inclusive social rating criteria contain strength ratings
and concern ratings for community, diversity, em-
ployee relations, environment, and product. KLD
also has exclusionary screens, such as alcohol, gam-
bling, military, nuclear power, and tobacco (see
Appendix A). Since KLDs exclusionary screens
differ from the inclusive screens in that only concern
ratings, but no strength ratings, are assigned, we only
use the inclusive screens in our main tests. While
KLD contains data from approximately 650 rms
listed on the S&P 500 or Domini 400 Social Indexes
each year prior to 2001, the KLDs ratings comprise
a summary of strengths and concerns assigned to
approximately 1100 (3100) rms listed on the S&P
500, the Domini 400 Social Indexes, or the Russell
1000 (Russell 3000) Indexes as of December 31st of
each year for 2001 and 2002 (2003 and 2004). In
2002, KLD renamed the other category as corporate
governance.
Since KLDs denition of corporate governance,
which includes compensation, ownership, tax dis-
putes, and other issues, is quite different from that of
conventional corporate governance measures, we
use governance and monitoring measures from
RiskMetrics (formerly, the IRRCs governance and
director) database, CDA/Spectrum 13(f) lings, and
the Institutional Brokers Estimation Services (I/B/
E/S) database instead of KLDs corporate gover-
nance dimension. The corporate governance and
monitoring measures from the above databases
include the proportion of outside independent
directors, the proportion of institutional holdings,
the proportion of blockholdings, and the number of
security analysts following the rm. Specically, (i)
our sample rm must be available from the Risk-
Metrics database; (ii) insider blockholder data must
be available; (iii) the data for outside institutional
holdings must be available from CDA/Spectrum
13(f) lings. These lings contain quarterly infor-
mation on common-stock positions greater than
10,000 shares or $200,000 for each institution with
more than $100 million in securities under man-
agement; and (iv) the number of analysts following a
rm must be available from the I/B/E/S database.
Since we also use various accounting and nancial
information, we require that sufcient COMPU-
STAT and Center for Research in Security Prices
(CRSP) data are available for our tests. This sample
procedure produces a combined sample of 12,527
rm-year (2952 rms) observations from 1993 to
2004. If there are any (no) observations in the KLD
ratings, then we view them as rms with (no) CSR
engagement. We also verify our results based on the
sample containing only positive CSR scores. Actual
samples used in the analyses are slightly different
because the data availability is different for each
regression analysis.
The RiskMetrics does not publish volumes every
year, but publishes volumes in the years of 1993, 1995,
1998, 2000, 2002, and 2004. We ll in the missing
years by assuming that the governance provisions re-
ported in any given year are also in place in the year
preceding the volumes publication, following Beb-
chuk and Cohen (2005) and Gompers et al. (hereafter,
GIM) (2003, 2010). In the case of 2003, for instance,
for which there is no RiskMetrics volume in the
subsequent year, we assume that the governance
provisions are the same as those reported in the
RiskMetrics volume published in 2002. We also
verify whether using a different method based on the
arithmetic average of 2002 and 2004 to assume the
case of 2003 does not change the results. To conduct
the robustness test, we further examine only the
RiskMetricss published years of 1993, 1995, 1998,
2000, 2002, and 2004 in the additional test section.
Measurement
To measure external monitoring by institutional
holders, we use the equity ownership of outside
institutional holders as the sum of the greater-than-
ve percent owners that are unafliated with the
rm (PCTINSTI). We use the number of analysts
who follow the rm to measure external analyst
monitoring by security analysts from the I/B/E/S
database. We measure analyst coverage with the
natural logarithm of one plus the number of ana-
lysts following the rm (LOGANAL) because the
number of analysts is highly skewed to the right
(Bushman, et al., 2005; Lim, 2001).
We utilize several structural measures of internal
corporate governance from the RiskMetrics database
(e.g., board characteristics such as independent
outside board proportion, board ownership, and
board leadership, etc.). With these corporate board
356 Hoje Jo and Maretno A. Harjoto
variables, we compare and contrast effective versus
ineffective corporate governance. We rst focus on
effective corporate governance, using an indepen-
dent outside director because the rise of such
directors has been a major trend over the last two
decades (see Harris and Raviv, 2008; Hermalin and
Weisbach, 1998, 2003; Raheja, 2005). We follow
the denition of an independent director from that
of the RiskMetrics, which denes an independent
outside director as a director elected by shareholders
who is not afliated with the company. Based on
Linck et al. (2008), we measure board independence
by the proportion of outside independent directors
(PCTINDEP), and board leadership by a dummy
variable of one if the CEO is the chair of the board
(DUALITY) and another dummy variable if the
CEO is the chair or a member of the nomination
committee (CEONOM).
To measure managerial entrenchment, we use the
governance index (GINDEX) developed by GIM
(2003). The RiskMetrics reports 24 anti-takeover
provisions (ATPs) at the rm level because the basic
ingredients for the GINDEX are ATPs. The GIN-
DEX, therefore, ranges from 0 to 24. A high value
indicates stronger managerial power (less takeover
pressure), and a greater potential for managerial
entrenchment. Bebchuk et al. (2009) create an
entrenchment index (ENTINDEX) based on the
GINDEX, particularly using six provisions four
constitutional provisions that prevent a majority of
shareholders from having their way (e.g., staggered
boards, limits to shareholder bylaw amendments,
supermajority requirements for mergers, and super-
majority requirements for charter amendments), and
two takeover-readiness provisions that boards
establish to be ready for a hostile takeover (i.e.,
poison pills and golden parachutes). Bebchuk et al.
(2009) argue that the ENTINDEX based on these
six ATPs drives the main results of rm valuation.
This ENTINDEX ranges from 0 to 6, with a higher
value indicating stronger managerial entrenchment.
Thus, we also use Bebchuk et al.s (2009) ENT-
INDEX to measure managerial entrenchment. See
the denitions of governance, monitoring, and other
control variables in Appendix B.
We measure rm value with Tobins q, which is a
widely used measure of rm value in accounting,
economics, and nance literature. Tobins q is cal-
culated as: {[Market value of common stock + Book
value of preferred stock + Book value of long-term
debt + Book value of current liabilities -(Book
value of current assets -Book value of Invento-
ries)]/Book value of total assets}. In particular, we
use industry-adjusted Tobins q (the natural log of
rms q divided by the median q in the rms
industry) instead of levels of Tobins q as a measure
of rm value (Campbell, 1996). The advantage of
using industry-adjusted Tobins q (ADJTOBINQ) is
that it neutralizes the effect of specic industries on
Tobins q.
Methodology
We conduct an endogeneity correction for the
treatment effects because rm value could come
from two broad sources of unique features: the
choice of CSR engagement and corporate gover-
nance. The CSR involvements contribution to rm
value could be overstated if we do not control for
the endogeneity problem (Greene, 1993). Speci-
cally, it may be that rms engaging into CSR
activities are simply of higher quality and deliver
better performance, regardless of whether they
choose to become involved in CSR. In this case, the
coefcient on the CSR dummy variable might
reveal a value-add from CSR engagement, when
indeed there is no true effect.
Tobin (1958) rst identied this endogeneity
problem. If this endogeneity problemis not taken into
consideration in the estimation procedure, an ordin-
ary least-square estimation (OLS) will produce biased
parameter estimates. Heckman (1976, 1979) proposed
a two-stage estimation procedure using the inverse
Mills ratio to take account of the endogeneity bias. In
the rst step, a regression for observing a positive
outcome of the dependent variable is modeled with a
probit (or logit) model. The estimated parameters are
used to calculate the inverse Mills ratio, which is then
included as an additional explanatory variable in the
OLS estimation (Greene, 1993). Using Heckmans
two-stage estimation, we correct the specication for
endogeneity and examine whether CSR activities
enhance rm value.
GIM (2010) employ a different approach, i.e., the
instrumental variable to address the endogene-
ity problem. Heckman and Robb (1985) and
Moftt (1999) suggest the instrumental variable (IV)
357 Corporate Governance and Firm Value
method, which focuses on nding a variable (or
variables) that inuences the CSR choice, but does
not inuence Tobins q (and thus is not correlated
with the random error term in the Tobins q
equation). Angrist (2000) asserts that the IV method
works even when the second-stage model is non-
linear, if the researcher focuses on the causal effects.
Moftt (1999) further suggests that each IV, that is
indeed uncorrelated with the random error term
in the Tobins q equation, will yield unbiased
estimates.
5
Our choice of an instrumental variable
is FIRMAGE, which is highly correlated with
CSRDUMMY, but is uncorrelated with industry-
adjusted Tobins q (see Table II). We interpret the
results to suggest that older rms can afford CSR
engagement, but not necessarily lead to higher rm
value.
6
Empirical results
Univariate tests and bivariate correlations
We compare and contrast rm and governance
characteristics in order to test the univariate differ-
ence between CSR rms and no-CSR rms.
Table I presents the means and medians of the
control and governance variables. In Panel A, we
rst examine the differences of the rm character-
istics. In particular, CSR involvement is, on average,
adopted by rms with a lower R&D expenditure
ratio. CSR also is more common among diversied
rms, older rms, larger rms, highly leveraged
rms, more protable rms, rms belong to the S&P
500, rms using a higher advertising expense ratio,
and rms with a higher Tobins q.
The differences of governance characteristics be-
tween CSR rms and no-CSR rms are presented
in Panel B. CSR rms are, on average, associated
with more active board leadership measured by a
higher proportion of CEOs who are also chairs of
the boards (DUALITY) or chairs or members of
nomination committees (CEONOM), and more
anti-takeover provisions (ATPs), respectively. In
addition, CSR engagement is adopted by rms with
higher total block ownership, higher board inde-
pendence, and a higher percentage of institutional
share ownership. They are also covered by more
security analysts. However, they have a lower per-
centage of director ownership and a larger board
size.
Table II presents the bivariate correlation matrix
for the variables of our main interest discussed in the
previous section. Consistent with the positive asso-
ciation between CSR engagement status (CSR) and
board independence (PCTINDEP) or analyst cov-
erage, or institutional share ownership reported
earlier, CSR is positively related to analyst follow-
ing, PCTINDEP, GINDEX, or PCTINSTI. The
correlation coefcients between CSR and the other
variables of interest are relatively high in absolute
numbers, ranging from 0.17 to 0.35. All of the
above correlations are statistically signicant (p val-
ues <0.01). All governance variables (variable
numbers 16 through 25) are signicantly correlated
with the CSR variable as well. Tobins q is positively
related to the CSR variable (0.03, with p val-
ues <0.01).
The determinants of CSR engagement
To understand the differences between rms with
and without CSR involvement, we adopt a probit
analysis of the choice decision, with the following
model:
PrCSR
it
jZ
it
UB
0
Z
it

where CSR
it
is a dummy variable equal to one if
rm i has CSR engagement in year t, and 0 other-
wise. Z
it
is a vector of rm, governance, or moni-
toring characteristics at the time of rm is choice
of CSR engagement. B is a vector of coefcients.
To understand rm and governance characteris-
tics that lead some rms to choose CSR engage-
ment, we choose several variables to model the
probability of that choice. Based on the previous
literature and our chosen governance metrics, we
include the variables as components of Z and explain
in detail in the following sections.
Governance and monitoring variables
We hypothesize that internal and external moni-
toring and governance mechanisms should be related
to the choice of CSR engagement. Thus, we include
various internal and external governance variables,
including the number of anti-takeover provisions
using the GIM (2003) g index (GINDEX), or
358 Hoje Jo and Maretno A. Harjoto
Bebchuk et al.s (2000) entrenchment index
(ENTINDEX), a dummy variable of 1 if the CEO is
a chairperson of the board (DUALITY), a dummy
variable of 1 if the CEO is a member of the nomi-
nation committee (CEONUM), the percentage of
director shares (PCTDIRSHR), the natural log of
the sum of blockholdings (LOGBLKS), the per-
centage of outside independent directors (PCTIN-
DEP), the percentage of institutional ownership
(PCTINSTI), and the natural logarithm of one
plus the number of analysts following the rm
(LOGANAL).
Firm characteristics
Firm characteristics are used as control variables
including rm size measured by the natural log of
total assets (LOGTA), R&D expenditures divided by
sales revenue (RNDR), total debt divided by total
TABLE I
Descriptive statistics and univariate tests
Firms not engaging in CSR Firms engaging in CSR Difference tests
N Mean Median N Mean Median T-stat z-stat
(or Count) (or Count)
Panel A: rm characteristics
FAMFIRM 7750 0.0991 768 5639 0.0890 502 1.964** 1.964**
STATELAW 7742 2.0939 2804 5601 2.2895 2301 -6.795** -5.687***
ROA 6587 1.2559 3158 5575 4.0758 2923 -7.697*** 4.913***
CHGROA 6516 -0.9232 3159 5561 -0.1020 2878 -4.870*** -3.567***
SEGDIV 6659 0.4621 3076 5577 0.6464 3603 -20.750*** -1.550
LOGTA 6588 6.8911 2057 5575 8.4108 4024 -55.566*** -44.994***
DEBTR 6563 0.2399 3158 5557 0.2453 2902 -1.527 -4.484***
RNDR 6516 0.0358 2512 5568 0.0346 2417 0.776 5.397***
CAPXR 6525 0.0739 3152 5567 0.0711 2894 1.489 4.014***
ADVR 6589 0.0076 1416 5576 0.0106 1699 -6.122** -11.285***
FIRMAGE 7743 19.0012 3111 5599 29.8155 3531 -34.271*** -26.075***
SP500 7750 0.0912 707 5639 0.6215 3505 -79.005*** -65.232***
SGROWTH 6546 0.1411 3370 5575 0.1086 2690 4.777*** 3.527***
DIVR 6562 0.0242 2676 5550 0.0512 3380 -4.179*** -22.048***
TOBINQ 6501 1.6229 3099 5557 1.7391 2930 -3.490*** -5.517***
ADJTOBINQ 6501 -0.2556 2984 5557 -0.1422 3045 -10.144*** -9.719***
Panel B: governance characteristics
GINDEX 7750 8.7931 3087 5639 9.7318 3034 -20.269*** -16.006***
ENTINDEX 7750 2.1285 3109 5639 2.3111 2635 -7.615*** -8.011***
DUALITY (1, 0) 7750 0.7503 5815 5639 0.8471 4777 -13.699*** -13.605***
CEONOM (1, 0) 7750 0.2766 2144 5639 0.4325 2439 -19.019*** -18.751***
PCTDIRSHR 7750 0.0950 4545 5639 0.0541 2149 11.281*** 23.447***
BSIZE 7750 9.0988 2852 5639 10.3984 3291 -24.961*** -24.703***
PCTINDEP 7750 0.6011 2874 5639 0.6736 2984 -22.793*** -18.217***
LOGBLKS 7750 13.6855 3105 5639 14.1394 3589 -4.791*** -26.928***
PCTINSTI 7750 57.5194 3455 5639 64.8823 3239 -21.986*** -14.675***
LOGANAL 7750 2.0178 2834 5639 2.5096 3851 -42.821*** -36.232***
This table displays descriptive statistics for the 7750 rm-year (1777 rms) observations of no-CSR rms and 5639 rm-
year (1175 rms) observations of CSR rms from 1993 to 2004. The number of rm-year observations (N), Mean,
Median, Count (i.e., total number of observations for dummy variable) are reported by types of rms. Difference in mean
(t-statistics) and median (non-parametric Wilcoxon) tests are reported. The denitions of variables are provided in
Appendix B. ***, **, *Statistically signicant at the 1%, 5%, and 10% levels, respectively.
359 Corporate Governance and Firm Value
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1
360 Hoje Jo and Maretno A. Harjoto
assets (DEBTR), and the FamaFrench 48-industry
classication. GIM (2010) suggest using the State
Law as anti-takeover index. Similar to GIM, we
also use the State Law anti-takeover index
(STATELAW), family rms (FAMFIRM), ROA,
the natural log of the change in ROA (CHGROA)
to measure protability, and the diversication
dummy (SEGDIV). We choose family rms instead
of GIMs name variable because the private benets
of control should be more relevant to family
rms, following Anderson and Reeb (2003) and
Villalonga and Amit (2006).
In Table III, we estimate the choice of CSR
engagement using a probit function. We estimate ve
models with different sets of explanatory variables
to compare and contrast the various impacts of con-
trol variables and corporate governance variables.
Throughout Model (1) toModel (5), we replace or add
some of the explanatory variables to investigate the role
of governance and monitoring in the analysis.
7
Consistent with prior literature, we can see that
many of our chosen variables are highly signicant in
explaining the likelihood of choosing CSR engage-
ment for all Models (1) to (5). Model (1) shows that
larger rms, highly leveraged rms, protable rms,
rms with higher R&D, and diversied rms are
more likely to choose CSR engagement while the
coefcient on FAMFIRM is insignicant. Model (2)
shows the same results with the industry adjustment.
Basically, the results are similar, except the signi-
cance of CHGROA disappears. In model (3), we
report the results for the governance variables only.
Model (3) suggests that the coefcients on GINDEX,
DUALITY, CEONOM, PCTINDEP, PCTINSTI,
and LOGANAL are signicantly positive at the 1%
signicance level, implying that rms with a higher
board leadership (DUALITY and CEONOM), a
higher proportion of outside independent directors
(PCTINDEP), a higher proportion of institutional
investors (PCTINSTI), more analysts following the
rm (LOGANAL), or more anti-takeover provisions
(GINDEX) are more likely to choose CSR engage-
ment.
8
We nd that the estimated slope coefcients
on PCTINDEP and LOGANAL have the highest
economic signicance on the rms choice of CSR
engagement. These ndings suggest that internal and
external governance measured by board leader-
ship, independent boards, institutional investors, and
security analysts are positively related to the choice of
T
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361 Corporate Governance and Firm Value
TABLE III
Propensity to engage in CSR activities
Model (1) Model (2) Model (3) Model (4) Model (5)
INTERCEPT -3.710
(44.07)***
-4.912
(14.21)***
-3.258
(10.05)***
-5.607
(16.25)***
-5.491
(16.11)***
Governance variables
GINDEX 0.071
(12.29)***
0.049
(7.71)***
ENTINDEX 0.031
(2.87)***
DUALITY 0.121
(3.69)***
0.019
(0.53)
0.030
(0.87)
CEONOM 0.254
(9.35)***
0.102
(3.50)***
0.113
(3.85)***
PCTDIRSHR -0.002
(0.03)
-0.037
(0.54)
-0.065
(0.91)
PCTINDEP 0.708
(8.90)***
0.470
(5.47)***
0.529
(6.16)***
LOGBLKS -0.002
(0.65)
0.002
(0.70)
0.002
(0.58)
PCTINSTI 0.010
(11.42)***
0.008
(8.79)***
0.008
(8.83)***
LOGANAL 0.692
(32.14)***
0.150
(5.31)***
0.149
(5.26)***
Control variables
LOGTA 0.429
(43.09)***
0.583
(47.39)***
0.495
(32.25)***
0.506
(32.89)***
DEBTR -0.296
(3.86)***
-0.724
(7.88)***
-0.793
(8.57)***
-0.776
(8.41)***
RNDR 2.184
(11.48)***
1.485
(6.33)***
1.264
(5.31)***
1.211
(5.13)***
FAMFIRM -0.054
(1.25)
-0.062
(1.37)
0.135
(2.81)***
0.134
(2.79)***
STATELAW 0.025
(3.27)***
0.022
(2.74)***
0.011
(1.26)
0.029
(3.47)***
ROA 0.022
(9.69)***
0.013
(5.45)***
0.009
(3.78)***
0.009
(3.80)***
CHGROA -0.004
(2.06)**
0.004
(0.18)
0.001
(0.67)
0.001
(0.63)
SEGDIV 0.369
(14.58)***
0.450
(16.59)***
0.387
(13.43)***
0.383
(13.31)***
FF 48 industry No Yes Yes Yes Yes
Pseudo R
2
0.1937 0.2571 0.1777 0.2778 0.2746
Observations 11,901 11,901 11,901 11,901 11,901
Number of rms 2493 2493 2493 2493 2493
This table reports the coefcient of estimates from the probit model explaining the determinants of CSR engagement.
The dependent variable is the CSR, which is a dichotomous variable that equals to one if a rm has involved into CSR
activities. Otherwise equals to zero. Model (1) and (2) report only control variables. Model (3), (4), and (5) include
internal and external corporate governance variables. FamaFrench (FF) 48 industry is included all Models except Model
(1). T-statistics are adjusted for robust and clustered (by rm) standard errors and reported in parentheses. Appendix B
provides variable denitions. ***, **, *Statistically signicant at the 1%, 5%, and 10% levels, respectively.
362 Hoje Jo and Maretno A. Harjoto
CSR engagement, supporting the conict-resolution
hypothesis, as stated in hypothesis 1.
Other variables are insignicant at the conventional
level. In models (4) and (5), we report the results when
we include both control variables and governance
variables. The results for the governance variables are
qualitatively similar to those of model (3), except the
insignicance of the DUALITY variable. It is
important to note that the internal and external gov-
ernance variables are highly signicant, suggesting
that they are major determinants of CSRengagement.
Table IV reports the coefcient of estimates from
the Tobit model explaining the determinants of
CSR engagement based on the CSR-combined
scores instead of the CSR choice (dummy) variable.
We use the Tobit model because the dependent
variables are left censored at zero rather than
dichotomous variables. The Tobit model is an
econometric model proposed by Tobin (1958)
to describe the relation between a non-negative
dependent variable and an independent variable (or
vector). We compute the arithmetic average of the
combined scores of KLD inclusive strengths and
concerns of community, environment, diversity,
employee relations, and product criteria to get
combined CSR scores. KLD scores report both
strengths and concerns for the above-mentioned
dimensions. The dependent variable is the CSR-
combined scores, including both strengths and
concerns (CSRCOMPOSITE) for models (1) and
(2), combined strength scores (CSRSTR) for models
(3) and (4), and combined concern scores (CSR-
CON) for models (5) and (6), respectively [see the
calculation procedures of the combined strengths
and concerns, combined strength, and combined
concern scores (unreported, but similar to the cal-
culation of strength scores in Appendix C)]. The
results closely mirror those of Table III, in that
the governance and monitoring variables positively
affect the rms decisions about CSR engagement,
supporting the conict-resolution hypothesis. As
expected, the signs of the coefcients on all the
variables based on CSRCON are exactly opposite of
those of the coefcients based on CSRSTR.
Table V shows the results of the 2SLS with the two
dependent variables of CSR and LOGANAL. We
employ the 2SLS estimation method described in
Maddala (1983) for simultaneous equations models in
which one of the endogenous variables is continuous
(LOGANAL) and the other endogenous variable is
dichotomous (CSR). Our results suggest that after
correcting for a potential simultaneity bias, the possi-
bility that rms with a greater analyst following tend to
engage in CSR engagement (with t-values of 23.90
29.13) is much higher than the possibility that rms
choosing CSR tend to have a higher analyst following
(with t-values of 6.036.23). It seems that rms with
greater analyst coverage (i.e., rms with a transparent
information environment) opt for CSR engagement
after incorporating the reverse causality. In addition,
although the top management of CSR rms can
control the number of outside independent directors,
they cannot control the number of analysts following
the rm. Accordingly, security analysts, as third-party
information intermediaries, can provide an external
monitoring mechanism in the top managements
decision-making about CSR engagement.
So far, we use board independence as one of the
measures for the quality of the rms internal gov-
ernance. But for two reasons there may not be a
one-to-one relation between governance quality and
board independence. First, Coles et al. (2008) indi-
cate that board independence reects such things as
rm diversication, rm size, rm age, and insider
ownership. These researchers claim that board
independence reects, and is driven by, other
characteristics of the rm and its line of business.
There is no single board structure that ts all
rms. Rather, board independence is endogenously
determined by rm and managerial characteristics.
This indicates that board independence may or may
not be an indicator of governance quality. Suppose,
for example, that ceteris paribus, board independence
does improve governance. Then, rms with few
independent directors might have more blockhold-
ers, or fewer takeover defenses, or more bond cov-
enants, to offset the effects of having few
independent directors. The result could be that such
rms have better governance, not worse. Thus, we
include such variables, including rm diversication,
rm size, rm age, insider ownership, blockholder
ownership, and GIM index, etc. in the independent
director equation to address the endogeneity issue.
Our unreported results based on two-stage least-
square (2SLS) regressions, in which both CSR
engagement and the percentage of outside indepen-
dent directors are dependent variables, again support
the monitoring role of outside independent directors.
363 Corporate Governance and Firm Value
TABLE IV
Propensity to engage in CSR activities based on the CSR-combined scores
Dependent
variable
Model (1) Model (2) Model (3) Model (4) Model (5) Model (6)
CSRCOMPOSITE CSRCOMPOSITE CSRSTR CSRSTR CSRCON CSRCON
INTERCEPT -1.144
(13.56)***
-1.120
(13.30)***
-0.526
(14.02)***
-0.517
(13.91)***
4.377
(15.05)***
4.305
(14.84)***
GINDEX 0.013
(8.86)***
0.003
(5.99)***
-0.041
(8.16)***
ENTINDEX 0.012
(4.72)***
0.002
(2.10)*
-0.043
(5.00)***
DUALITY 0.002
(0.29)
0.005
(0.66)
-0.001
(0.23)
0.00027
(0.09)
0.008
(0.28)
-0.002
(0.06)
CEONOM 0.018
(2.75)***
0.020
(3.04)***
0.005
(1.96)**
0.005
(2.18)**
-0.053
(2.36)**
-0.058
(2.60)***
PCTDIRSHR 0.012
(0.77)
0.007
(0.46)
0.006
(1.16)
0.005
(0.92)
-0.077
(1.29)
-0.059
(1.01)
PCTINDEP 0.118
(6.00)***
0.129
(6.51)***
0.056
(7.39)***
0.059
(7.85)***
-0.359
(5.24)***
-0.389
(5.65)***
LOGBLKS -0.001
(1.91)*
-0.001
(1.94)*
0.00023
(1.04)
0.00023
(1.02)
0.004
(1.84)
0.004
(1.88)
PCTINSTI 0.004
(17.46)***
0.004
(17.42)***
0.000017
(0.23)
0.000026
(0.33)
-0.013
(17.84)***
-0.013
(17.77)***
LOGANAL 0.049
(7.69)***
0.049
(7.71)***
0.021
(8.27)***
0.021
(8.28)***
-0.169
(7.66)***
-0.169
(7.68)***
LOGTA 0.097
(31.31)***
0.100
(32.25)***
0.045
(37.54)***
0.045
(37.98)***
-0.230
(21.66)***
-0.240
(22.52)***
DEBTR -0.230
(11.16)***
-0.228
(11.05)***
-0.060
(7.46)***
-0.059
(7.31)***
0.700
(9.79)***
0.697
(9.71)***
RNDR 0.207
(4.06)***
0.194
(3.79)***
0.119
(6.16)***
0.115
(5.98)***
-0.559
(3.16)***
-0.518
(2.92)***
FAMFIRM 0.044
(4.09)***
0.044
(4.12)***
0.003
(0.85)
0.003
(0.84)
-0.138
(3.71)***
-0.140
(3.76)***
STATELAW 0.004
(2.30)**
0.009
(4.72)***
0.001
(0.87)
0.002
(2.41)**
-0.012
(1.79)*
-0.026
(4.00)***
ROA 0.003
(5.86)***
0.003
(6.03)***
0.001
(8.14)***
0.001
(8.26)***
-0.010
(6.68)***
-0.011
(6.86)***
SEGDIV 0.144
(22.16)***
0.142
(21.90)***
0.011
(4.51)***
0.01
1(4.43)***
-0.492
(21.60)***
-0.488
(21.36)***
Log likelihood -4740.19 -4770.822 -911.58 -895.31 -11,136.14 -11,160.01
Pseudo R
2
0.347 0.3428 0.5539 0.5440 0.1464 0.1446
Observations 11,901 11,901 11,901 11,901 11,901 11,901
This table reports the coefcient of estimates from the Tobit model explaining the determinants of CSR engagement
based on the CSR-combined scores from the Kinder, Lydenberg, and Dominis (KLD) Socrates database. The dependent
variable is the CSR-combined scores (CSRCOMPOSITE) for models (1) and (2), combined strength scores (CSRSTR)
for models (3) and (4), and combined concern scores (CSRCON) for models (5) and (6). FamaFrench 48 industry is
included all Models. T-statistics are adjusted for robust and clustered (by rm) standard errors and reported in parentheses.
Appendix B provides variable denitions. ***, **, *Statistically signicant at the 1%, 5%, and 10% levels, respectively.
364 Hoje Jo and Maretno A. Harjoto
TABLE V
Simultaneous regressions between the CSR choice and analyst following
Simultaneous method Model (1) Model (2)
Dependent variable CSR LOGANAL CSR LOGANAL
Intercept -4.879
(43.29)***
1.805
(7.96)***
-4.442
(11.35)***
0.741
(11.23)***
CSR 0.422
(6.23)***
0.097
(6.03)***
LOGANAL 2.502
(29.13)***
2.415
(23.90)***
Governance variables
GINDEX 0.058
(9.17)***
-0.010
(3.68)***
0.053
(8.13)***
-0.0004
(0.22)
DUALITY -0.012
(0.35)
-0.015
(0.43)
CEONOM 0.171
(5.85)***
-0.047
(4.23)***
0.189
(6.25)***
-0.022
(2.25)**
PCTDIRSH 0.270
(4.06)***
-0.132
(5.89)***
0.212
(2.90)***
-0.124
(5.52)***
PCTINDEP 0.779
(9.16)***
-0.196
(5.53)***
0.689
(7.61)***
-0.093
(3.27)***
LOGBLKS 0.016
(5.35)***
-0.006
(6.03)***
0.015
(4.70)***
-0.009
(8.99)***
PCTINSTI -0.005
(4.97)***
0.001
(1.70)*
-0.004
(3.29)***
0.005
(14.84)***
Control variables
LOGTA -0.295
(11.36)***
0.148
(12.15)***
-0.218
(6.50)***
0.202
(43.30)***
DEBTR 0.535
(6.03)***
-0.235
(6.29)***
-0.019
(0.19)
-0.362
(13.61)***
RNDR -1.995
(8.78)***
0.680
(10.01)***
-1.822
(6.93)***
0.848
(14.51)***
CAPXR -1.849
(11.99)***
0.800
(14.86)***
-0.914
(5.21)***
0.951
21.57
ADVR 1.979
(3.74)***
-0.467
(1.56)
-0.403
(0.68)
0.685
(3.75)***
FAMFIRM 0.436
(8.98)***
-0.164
(8.57)***
0.364
(7.23)***
-0.112
(7.03)***
STATELAW 0.063
(7.20)***
0.042
(4.69)***
ROA -0.007
(3.42)***
-0.013
(5.69)***
SEGDIV 0.852
(24.99)***
-0.377
(11.78)***
0.867
(24.04)***
-0.231
(19.31)***
SP500 -0.101
(1.15)
0.312
(12.67)***
FIRMAGE -0.008
(14.09)**
-0.005
(18.13)***
365 Corporate Governance and Firm Value
We nd that the coefcients on PCTINDEP and
CSR are positive and statistically signicant (p va-
lue <0.01). We also nd that the coefcients on
PCTDIRSHR, LOGBLKS, and LOGANAL are
signicantly positive. These results suggest that having
a certain governance structure is important in deter-
mining CSR involvement. However, we also nd
that the causality runs from some governance and
control variables to board independence. Since nei-
ther CSR engagement nor board independence
changes frequently, simple 2SLS results may not
capture causality precisely.
9
Nevertheless, this reverse
causality suggests that after correcting for a potential
simultaneity bias, the possibility that rms choosing
CSR engagement tend to have outside independent
directors (with t-values of 9.1710.35) is slightly
smaller than the possibility that rms with a higher
proportion of independent directors engage in CSR
engagement (with t-values of 17.5819.12). It seems
that the potential simultaneity bias does not signi-
cantly change our inferences concerning the associa-
tion between the governance and monitoring
variables and CSR engagement.
The value of rms with CSR engagement
Next, this study examines the impact of CSR
involvement on rm value, measured by industry-
adjusted Tobins q (ADJTOBINQ) because Camp-
bell (1996) suggests that ADJTOBINQ neutralizes
the industry effect on Tobins q. Using Heckmans
(1979) two-stage model, we report several models in
Table VI. In model (1), following GIM (2010), Shin
and Stulz (2000), and Morck and Yang (2001), we
include capital expenditures divided by total sales
(CAPXR), the ratio of advertising to sales (ADVR),
growth options measured by R&D expenditure
divided by sales (RNDR), and sales growth
(SGROWTH). The evidence suggests that CSR
engagement positively affects rm value measured
by industry-adjusted Tobins q after correcting for
the endogenous treatment effect, supporting the
conict-resolution hypothesis as opposed to the
overinvestment hypothesis.
Next, we add governance and monitoring vari-
ables to examine whether any governance or moni-
toring variables inuence rm value after the
endogeneity correction, and report the results of the
positive association between CSR and ADJTO-
BINQ in model (2). In particular, a one unit increase
of CSR engagement is followed by an increase of
0.085 times of ADJTOBINQ. In addition, the
coefcient on LOGANAL is signicantly positive
with a t-value of 24.86, suggesting that security
analysts provide an additional monitoring role, which
is supportive for hypothesis 2(b). This evidence is
consistent with Chung and Jo (1996), who nd that
analyst coverage makes a rms information envi-
ronment transparent and positively affects rm value.
The coefcient on PCTINSTI is also positive, but its
magnitude is only marginal. In contrast, however, the
coefcients on DUALITY and GINDEX are sig-
nicantly negative, indicating that the dual role of the
CEO and the chairperson and many take-over de-
fenses through anti-takeover provisions (GINDEX)
adversely affect rm value. In particular, an inverse
association between GINDEX and industry-adjusted
Tobins q implies that too much take-over defense
TABLE V
continued
Simultaneous method Model (1) Model (2)
FF 48 Industry No No Yes Yes
Pseudo R
2
0.2862 0.3130
Adjusted R
2
0.5305 0.5304
Observations 11,808 11,808 11,808 11,808
This table shows the results from two-stage estimation method described in Maddala (1983) for simultaneous equations
models in which one of the endogenous variables is continuous (LOGANAL) and the other endogenous variable is
dichotomous (CSR). T-statistics are adjusted for robust and clustered (by rm) standard errors and reported in parentheses.
See Appendix B for variable denitions. ***, **, *Statistically signicant at the 1%, 5%, and 10% levels, respectively.
366 Hoje Jo and Maretno A. Harjoto
TABLE VI
Industry-adjusted Tobins q regressions based on the Heckman two-stage treatment effect model
Heckman two-stage model Model (1) Model (2) Model (3)
Dependent variable ADJTOBINQ ADJTOBINQ ADJTOBINQ
INTERCEPT 3.115
(15.63)***
2.963
(13.89)***
2.682
(13.37)***
CSR 0.091
(7.46)***
0.087
(7.57)***
0.085
(7.41)***
Governance variables
GINDEX -0.033
(12.09)***
ENTINDEX -0.075
(15.33)***
DUALITY -0.054
(4.54)***
-0.057
(4.80)***
CEONOM -0.020
(1.95)*
-0.018
(1.68)*
PCTINDEP -0.359
(10.70)***
-0.331
(9.79)***
PCTDIRSHR 0.114
(2.62)***
0.108
(2.63)***
LOGBLKS -0.014
(13.13)***
-0.014
(13.09)***
PCTINSTI 0.001
(3.24)***
0.002
(4.79)***
LOGANAL 0.318
(24.86)***
0.319
(25.31)***
Control variables
LOGTA -0.367
(21.61)***
-0.389
(28.13)***
-0.382
(28.87)***
DEBTR 0.216
(4.50)***
0.306
(6.80)***
0.294
(6.76)***
RNDR 0.290
(2.62)***
0.145
(1.46)
0.214
(2.16)**
CAPXR 0.479
(8.87)***
0.211
(4.17)***
0.235
(4.61)***
ADVR 1.373
(4.72)***
0.847
(3.20)***
0.855
(3.23)***
SGROWTH 0.321
(8.86)***
0.265
(9.00)***
0.261
(8.94)***
LAMBDA (inverse Mills ratio) -0.657
(14.75)***
-0.499
(11.70)***
-0.457
(11.36)***
FF 48 industry Yes Yes Yes
Wald Chi-square 4594.23 5876.81 6005.28
Observations 11,741 11,741 11,741
367 Corporate Governance and Firm Value
adversely affects rm value, which is consistent with
Cremers and Nair (2005) and GIM (2003).
Model (3) shows that the results based on Bebchuk
et al.s (2009) entrenchment index are even more
signicantly and inversely associated with industry-
adjusted Tobins q, conrming the adverse effects of
managerial entrenchment on rm value. More
importantly, the positive associations between CSR
and ADJTOBINQ and LOGANAL and ADJTO-
BINQ remain unchanged. Although unreported, the
above results do not change when we run the
regressions with each governance variable separately
to reduce potential problems due to multicollinear-
ity. Consistent with Agrawal and Knoeber (1996),
we also nd a negative association between ADJT-
OBINQ and the proportion of outside independent
directors. The coefcients on lambda (inverse Mills
ratio), however, are signicantly negative in all three
models, implying a possibility that the above results
contain some sample selection bias.
Thus, to address the selection bias problem, we
report the results based on the instrumental variables
approach in Table VII. The results, in general, clo-
sely mirror the Heckman two-stage results based on
endogeneity control. Most notably, both the coef-
cients on the CSR dummy and the CSRCOM-
POSITE (CSR combined score) suggest that CSR
engagement is positively associated with rm value
with or without governance variables as independent
variables, supporting our hypothesis 2 (a) of CSR as
a conict-resolution. The positive impact of analyst
following on rm value is also strongly signicant in
all models. The results remain robust under various
specications using the Heckman two-stage, OLS
(unreported), and instrumental variables approach,
strongly supporting hypothesis 2(b) for the external
monitoring role of security analysts. Notably, how-
ever, the coefcients on PCTINSTI become insig-
nicant, possibly because of their dual roles of
monitors and investors.
The visual effects of these relations are depicted in
Figure 1 for industry-adjusted Tobins q. In gen-
eral, these gures indicate that rms with higher
engagement in CSR activities are more likely to be
followed by security analysts and tend to have a
higher industry-adjusted Tobins q, while rms with
a higher analyst following tend to have a higher
industry-adjusted Tobins q.
To examine the effects of individual CSR-
inclusive criteria on rm value, we report the
coefcients of the estimates from the instrumental
variable method in Table VIII. Our choice of an
instrumental variable is FIRMAGE, which is highly
correlated with CSR, but is uncorrelated with
industry-adjusted Tobins q. The dependent variable
in the second stage is industry-adjusted Tobins q
(ADJTOBINQ). In these regressions, we include
only the sample that has positive scores for each
category of CSR engagement to focus on the pure
impact of CSR engagement on rm value. Model
(1) includes each CSR combined score for ve
inclusive criteria. Models (2) and (3) include the
internal and external governance variables. The
results indicate that while the coefcients on DI-
VERSITY, EMPLOYEE RELATIONS, and
PRODUCT are positive and signicant at least at
the ve-percent level, the coefcients on COM-
MUNITY and ENVIRONMENT are, in general,
insignicant, suggesting that rms CSR engage-
ment directly related to their rms internal social
TABLE VI
continued
Heckman two-stage model Model (1) Model (2) Model (3)
Number of rms 2463 2463 2463
This table reports the coefcients of estimates from Heckman two-stage treatment effect models. In the rst stage, we run
the probit model with same specication in Table III. We include Lambda (inverse Mills ratio) in the second stage with
control variables. The dependent variable in the second stage is industry-adjusted Tobins q (ADJTOBINQ). Model (1)
reports the results of control variables. Models (2) and (3) include internal and external corporate governance variables.
FamaFrench 48 industry is included all Models. T-statistics are reported in parentheses. See Appendix B for variable
denitions. ***, **, *Statistically signicant at the 1%, 5%, and 10% levels, respectively.
368 Hoje Jo and Maretno A. Harjoto
TABLE VII
Industry-adjusted Tobins q regressions based on the instrument variables approach
Model (1) Model (2) Model (3) Model (4)
Dependent variable ADJTOBINQ ADJTOBINQ ADJTOBINQ ADJTOBINQ
INTERCEPT 0.119
(3.26)***
0.151
(4.22)***
0.089
(1.94)
0.316
(6.15)***
CSR 0.007
(10.10)***
0.0023
(7.28)***
CSRCOMPOSITE 0.493
(3.32)***
0.564
(3.75)***
Governance variables
GINDEX -0.010
(3.98)***
-0.013
(5.09)***
DUALITY -0.056
(4.14)***
-0.056
(4.16)***
CEONOM -0.017
(1.45)
-0.020
(1.74)
PCTDIRSHR 0.075
(2.45)**
0.076
(2.34)**
PCTINDEP -0.099
(2.98)***
-0.130
(3.86)***
PCTINSTI -0.000
(0.24)
0.001
(1.83)
LOGANAL 0.332
(28.29)***
0.318
(27.18)***
Control variables
LOGTA -0.084
(15.88)***
-0.078
(14.19)***
-0.138
(23.40)***
-0.152
(24.08)***
DEBTR -0.052
(1.46)
0.028
(0.78)
0.134
(4.07)***
0.200
(5.80)***
RDNR 0.079
(0.94)
0.238
(2.91)***
0.515
(6.40)***
0.500
(6.09)***
CAPXR 0.444
(9.96)***
0.436
(9.77)***
0.111
(2.57)**
0.092
(2.11)**
ADVR 0.631
(2.37)**
0.525
(1.85)
0.352
(1.42)
0.010
(0.04)
SGROWTH 0.373
(9.35)***
0.341
(9.09)***
0.278
(8.61)***
0.282
(8.76)***
Adjusted R
2
0.0440 0.0802 0.1502 0.1597
Observations 11,741 11,741 11,741 11,741
This table reports the coefcients on the estimates from two-stage instrumental variable method. Our choice of instru-
mental variable is FIRMAGE that is highly correlated with CSR, but is uncorrelated with industry-adjusted Tobins q.
The dependent variable in the second stage is industry-adjusted Tobins q (ADJTOBINQ). Model (1) and (2) include
CSR dummy and CSRCOMPOSITE (CSR combined score) with control variables, respectively. Models (3) and (4)
include internal and external governance variables. The CSR scores are from the Kinder, Lydenberg, and Dominis (KLD)
Socrates database. T-statistics are reported in parentheses. See Appendix B for variable denitions. ***, **, *Statistically
signicant at the 1%, 5%, and 10% levels, respectively.
369 Corporate Governance and Firm Value
enhancement improves rm value more than their
CSR involvement in broader external enhancement,
such as community and environmental concerns.
Indeed, our interviews with a few top managers of
the rms which are considered as socially responsible
(i.e. Patagonia and Vapur) reveal that top managers
original intention for their CSR activities was to
enhance their product quality and improve rela-
tionship with their employees. Thus, our interview
results are consistent with our empirical nding.
The above ndings also might be affected by
multicollinearity. Thus, to check the individual
impact of the various governance variables, we run
the regressions for each governance variable with
control variables separately and nd that the main
results do not change. Since the coefcients on the
control variables are similar to those reported in
Table VII, we do not report those coefcients for
brevity.
10
The calculation procedures of the com-
posite strength scores and the combined strength and
composite scores are reported in Appendix B.
There could also be a potential simultaneity bias
between CSRCOMPOSITE and ADJTOBINQ.
To adjust for a potential simultaneity bias, we esti-
mate the regressions in a simultaneous equation
framework, where CSRCOMPOSITE is specied
as a function of governance and monitoring vari-
ables, rm size, ADJTOBINQ, advertising expen-
diture divided by sales, the R&D expenditure ratio,
and leverage, following Table III. The results are
reported in Table IX, and we nd qualitatively
similar results to those reported in Tables VI through
VIII. Specically, models (1) and (2) suggest that
after controlling for the simultaneity bias, industry-
adjusted Tobins q is signicantly and positively
associated with CSRCOMPOSITE. Model (2)
adds the FamaFrench industry adjustment and
shows that the impact of CSRCOMPOSITE on
ADJTOBINQ is more signicant (with t-values of
12.2315.52) than the impact of ADJTOBINQ on
CSRCOMPOSITE (with t-values of 4.2711.42).
Additionally, LOGANAL suggests that the inuence
of analyst following on rm value (with t-values of
16.7520.96) is greater than that of analyst coverage
on CSR engagement (with t-values of 3.433.69),
supporting our hypothesis 2(b). Overall, a potential
simultaneity bias does not appear to change our
inferences concerning the positive association be-
tween corporate social responsibility and rm value.
Additional tests
Next, we run various simultaneous regressions of
analyst following and industry-adjusted Tobins q
and report the independent impact of analyst fol-
lowing and CSR, respectively, in Table X. The
coefcients on other variables are qualitatively sim-
ilar to those reported in Table IX. To conserve
space, we report only the results of the coefcients
on the interaction variables. First, we compare CSR
versus no-CSR rms with high and low analyst
following, so that we can examine the effect of CSR
engagement and analyst following on rm value.
Panel A reports the results of the Chow test in each
comparison. The difference is signicant in all
comparisons except the comparison between high
and low analyst coverage for no-CSR rms. Simi-
larly, we compare rms with high and low CSR
scores with high and low analyst following, so that
we can examine the effect of CSR scores and analyst
following on rm value. Panel B summarizes the
results of the differences between groups in separate
simultaneous regressions. The difference between
high and low CSR, when analyst following is high,
Q1
Q2
Q3
Q4
Q5
Loganal1
Loganal2
Loganal3
Loganal4
Loganal5
-0.5
-0.4
-0.3
-0.2
-0.1
0
0.1
0.2
A
D
J
T
O
B
I
N
Q
CSR Quintiles
LOGANAL
Quintiles
Figure 1. The relation among industry-adjusted Tobins
q, CSR, and analyst coverage. This gure shows the
relation among industry-adjusted Tobins q, analyst fol-
lowing, and the CSR engagement. We divide the sam-
ple by ve quintiles of CSR and analysts following.
CSR is the CSR combined score. CSR Q1 is the low-
est CSR group while CSR Q5 is the highest CSR
group of rms. Similarly, Loganal1 is the lowest analyst
following and Loganal5 is the highest analyst following.
370 Hoje Jo and Maretno A. Harjoto
TABLE VIII
Industry-adjusted Tobins q regressions of each CSR subcategory
(1) (2) (3)
Dependent variable ADJTOBINQ ADJTOBINQ ADJTOBINQ
INTERCEPT 0.356
(2.36)**
0.646
(4.61)***
0.609
(4.46)***
CSR criteria
COMMUNITY 0.181
(2.00)**
0.137
(1.60)
0.102
(1.22)
ENVIRONMENT 0.035
(0.39)
0.070
(0.83)
0.095
(1.13)
DIVERSITY 0.304
(4.24)***
0.271
(4.01)***
0.278
(4.15)***
EMPLOYEE RELATIONS 0.584
(8.43)***
0.523
(7.92)***
0.522
(7.96)***
PRODUCT 0.364
(4.33)***
0.162
(2.06)**
0.159
(2.03)**
Governance variable
GINDEX -0.019
(6.50)***
ENTINDEX -0.074
(12.14)***
DUALITY -0.027
(1.57)
-0.025
(1.50)
CEONOM 0.019
(1.53)
0.022
(1.72)
PCTINDEP -0.206
(4.72)***
-0.158
(3.64)***
PCTDIRSH 0.065
(1.30)
0.051
(1.13)
LOGBLKS -0.012
(9.32)***
-0.012
(9.42)***
PCTINSTI 0.003
(6.99)***
0.004
(7.97)***
LOGANAL 0.395
(26.00)***
0.393
(26.10)***
Control variables Yes Yes Yes
FF 48 Industry Yes Yes Yes
Adjusted R
2
0.2583 0.3602 0.3695
Observations 6479 6479 6479
Number of rms 1677 1677 1677
This table reports the coefcients of estimates from two-stage instrumental variable method. Our choice of instrumental
variable is FIRMAGE that is highly correlated with CSR, but is uncorrelated with industry-adjusted Tobins q. The
dependent variable in the second stage is industry-adjusted Tobins q (ADJTOBINQ). In these regressions, we only
include the sample that has positive scores of each category of the CSR engagement. Model (1) includes each CSR
combined score of ve categories. Models (2) and (3) include internal and external governance variables. FamaFrench 48
industry is included all Models. T-statistics are reported in parentheses. See Appendix A for variable denitions and
Appendix C for the calculation of CSR criteria including COMMUNITY, ENVIRONMENT, DIVERSITY, EM-
PLOYEE RELATIONS, and PRODUCT. The CSR scores are from the Kinder, Lydenberg, and Dominis (KLD)
Socrates database. ***, **, *Statistically signicant at the 1%, 5%, and 10% levels, respectively.
371 Corporate Governance and Firm Value
TABLE IX
Simultaneous regressions of industry-adjusted Tobins q and the CSR composite score
Simultaneous method Model (1) Model (2)
Dependent variable ADJTOBINQ CSRCOMPOSITE ADJTOBINQ CSRCOMPOSITE
INTERCEPT -0.387
(4.28)***
0.411
(83.48)***
-1.927
(8.87)***
0.386
(26.95)***
CSRCOMPOSITE 2.356
(15.52)***
5.920
(12.23)***
ADJTOBINQ 0.013
(11.42)***
0.026
(4.27)***
Governance variables
GINDEX -0.017
(5.32)***
0.001
(3.10)***
-0.019
(5.53)***
0.001
(3.73)***
DUALITY -0.045
(2.43)**
0.002
(1.25)
-0.051
(2.53)**
0.003
(1.94)*
CEONOMI 0.006
(0.44)
0.0003
(0.34)
0.004
(0.27)
0.0001
(0.09)
PCTDIRSHR 0.032
(0.98)
0.009
(3.44)***
-0.0002
(0.01)
0.007
(2.57)**
PCTINDEP -0.130
(2.89)***
0.010
(2.54)**
-0.161
(3.32)***
0.011
(2.75)***
LOGBLKS -0.011
(8.01)***
-0.00008
(0.69)
-0.010
(6.68)***
0.0002
(1.43)
PCTINSTI 0.0002
(0.46)
-0.0003
(7.75)***
0.001
(2.44)**
-0.0003
(7.43)***
LOGANAL 0.317
(20.96)***
0.004
(3.69)***
0.276
(16.75)***
0.004
(3.42)***
Control variables
LOGTA -0.169
(26.37)***
0.003
(6.67)***
-0.167
(24.58)***
0.004
(3.65)***
DEBTR 0.204
(4.62)***
-0.016
(4.45)***
0.243
(5.08)***
-0.003
(0.58)
RNDR 0.764
(8.02)***
0.063
(7.68)***
0.879
(8.52)***
0.092
(6.08)***
CAPXR -0.070
(0.97)
0.172
(2.49)**
ADVR 0.762
(2.89)***
0.548
(2.02)**
SGROWTH 0.248
(10.33)***
0.200
(8.60)***
FF 48 INDUSTRY No No Yes Yes
Adjusted R
2
0.1690 0.0845 0.2290 0.1716
Observations 6479 6479 6479 6479
This table shows the results from the two-stage estimation method in which one of the dependent variables is industry-
adjusted Tobins q and the other dependent variable is the CSR composite scores. In these regressions, we only include
the sample that has positive CSR scores. The CSR scores are from the Kinder, Lydenberg, and Dominis (KLD) Socrates
database. T-statistics are adjusted for robust and clustered (by rm) standard errors and reported in parentheses. See
Appendix B for variable denitions. ***, **, *Statistically signicant at the 1%, 5%, and 10% levels, respectively.
372 Hoje Jo and Maretno A. Harjoto
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373 Corporate Governance and Firm Value
is the most signicant with a chi-square of 96.03,
while the differences between groups in all possible
comparisons are signicant. Overall, this evidence
suggests further that the individual impact of CSR
engagement on industry-adjusted Tobins q is sig-
nicant (supporting the conict-resolution hypoth-
esis 2(a)) and so is the individual impact of analyst
following on industry-adjusted Tobins q. The value
addition of CSR engagement is greatest when CSR
engagement is high with high analyst following,
supporting the important monitoring role of secu-
rities analysts in CSR activities, stated in hypothesis
2(b).
11
In addition, the above results suggest that the
value addition of CSR engagement and the moni-
toring impact of analyst following on rm value
remain robust in the full sample, as well as in the
sub-sample containing only the positive CSR scores.
We also conduct the Heckman two-stage regres-
sions, the instrumental variable approach, and the
OLS regressions based only on the Riskmetrics
available year observations of 1993, 1995, 1998,
2000, 2002, and 2004 to check the robustness of our
results. Our unreported results suggest that overall
results are essentially identical and that the main re-
sults of the positive associations between CSR
(CSRCOMPOSITE) and ADJTOBINQ and be-
tween analyst following and ADJTOBINQ remain
unchanged. In addition, to check the individual
impact of the various governance variables due to
potential multicollinearity, we run the regressions for
each governance variable with the control variables
separately and nd that the main results remain intact.
To further examine the robustness of our results,
we also run regressions on the change of ADJTO-
BINQ as a function of the change in CSRCOM-
POSITE. Our untabulated results suggest that the
change in CSRCOMPOSITE has a positive impact
on the change in ADJTOBINQ, with a t-value
range of 2.574.37 (all signicant, at least at the ve-
percent level) in various samples with and without
the governance and control variables, again sup-
porting CSR engagement as a conict resolution.
Discussion
The goal of this paper was to investigate the empirical
association between corporate governance (CG) and
rm value through corporate social responsibility
(CSR). As a main core of the paper, we test two
competing hypotheses, the over-investment hypoth-
esis based on agency theory and the conict-resolu-
tion hypothesis based on stakeholder theory. The
over-investment explanation posits that top manage-
ment uses the CSR engagement to enhance her pri-
vate benets of social-citizen reputation that could
hurt the market value of rm, whereas the conict-
resolution explanation postulates that using CSR
activities to reduce potential conicts between top
management and various stakeholders could eventu-
ally improve rmvalue by mitigating agency conicts.
To examine the relative importance between the
two competing hypotheses, we employ two-stage
regression analyses consisting of the rst-step CSR
CG choice issue and the second-step CGCSR-rm
value association. Before we summarize our empir-
ical results from two-stage regressions, as a pre-
liminary step, we rst report the results from various
univariate tests, which suggest that on average, the
characteristics of rms that engage in CSR are dif-
ferent from those of rms that do not engage in
CSR activities. Specically, CSR rms are more
diversied, older, larger, more levered, more prof-
itable, higher in advertising expense ratio, and higher
in Tobins q. CSR rms are also associated with
more active board leadership measured by a higher
proportion of CEOs who are also chairs of the
boards or chairs or members of nomination com-
mittees, and more anti-takeover provisions, respec-
tively. In addition, CSR engagement is adopted by
rms with higher total block ownership, higher
board independence, and a higher percentage of
institutional share ownership. They are also covered
by more security analysts.
Next, we discuss our major ndings from two-
stage regressions, and their implications in detail
below. First, the rst-stage probit regression results
indicate that CSR engagement is inuenced by rm
characteristics such as its size, protability, nancial
leverage, research and development, and product
diversication. CSR engagement is also driven by
both internal and external corporate governance and
monitoring systems, such as board leadership, board
independence, institutional ownership, analyst fol-
lowing, and anti-takeover provisions. Among all
governance system, we nd analyst following and
the percentage of independent board have the most
signicant and positive effect on rm decision to
374 Hoje Jo and Maretno A. Harjoto
engage in CSR. We also nd that CSR intensity
(after the rm decided to engage in CSR) is also
inuenced by internal and external corporate
governance and monitoring systems and rm char-
acteristics. Analysts following and percentage of
independent board have the most signicant and
positive effect on rms CSR intensity. This positive
empirical relationship between CSR and internal
and external corporate governance system is consis-
tent with the conict-resolution hypothesis.
Second, to correct for both simultaneity bias and
endogeneity issue, we use the second-stage Heckman
regressions and instrumental variables approach using
simultaneous regression framework after considering
the rst-stage CSR choice issue, and nd that that
CSR engagement is positively associated with rm
value measured by industry-adjusted Tobins q. The
second-stage results are also supportive of the con-
ict-resolution hypothesis as opposed to the CSR
over-investment argument. The impact of CSR
intensity on rm value is both statistically and eco-
nomically signicant indicating that CSR intensity
plays an important role to increase the rms value.
We consider this nding important because previous
studies were unclear about the CGCSR-value
relationships after controlling for both simultaneity
and endogeneity. We also nd evidence that cor-
porate governance system inuences the rm value,
which is consistent with prior literature (Coles et al.,
2008; GIM, 2003, 2010; Jo and Kim, 2007, 2008).
Third, rms CSR subcategory that is directly
related to their rms internal social enhancement,
such as diversity, employee relations, and product
quality, enhances the value of rm more than their
CSR subcategory in broader external enhancement,
such as community and environmental concerns.
Fourth, we nd that while the impact of analyst
coverage on rm value is signicant and strongly
positive, other governance and monitoring mecha-
nisms including board leadership, board indepen-
dence, blockholders ownership, and institutional
ownership play a relatively weaker role in enhancing
rm value. In general, corporate governance is a
system of checks and balances that trade-off benets
and costs of rm decisions such as CSR engagement,
and is a system of controls, regulations, and incen-
tives to minimize conicts of interest and to prevent
fraud. Unfortunately, however, this trade-off is
usually very complicated, and no one governance or
monitoring channel works for all rms. Although
security analysts are neither formal evaluator nor
direct monitor of potentially overcondent CEOs
who are over-investing CSR activities for their own
reputation building purpose, it turns out that
nancial analysts do provide an effective external
monitoring services by frequently contacting top
management for the purpose of collecting and pro-
ducing information regarding rms future prospects
as an important mechanism of information inter-
mediary. To produce independent valuations of the
rm, analysts collect and analyze as much informa-
tion as they can so that they can make buy and sell
recommendation to their clients. Through this
information collecting, analyzing, and dissemination
process, they become an expert on the rm and its
competitors by pouring over a rms nancial
statements, lings, and earnings forecasts. Thus, we
interpret our empirical results as evidence that ana-
lyst coverage provides an important check-and-
balance function to ensure that rms engagement in
CSR activities enhances value.
Conclusion
The impact of corporate social responsibility and cor-
porate governance on rm value has become a great
interest for shareholders, practitioners, and govern-
ment regulators. There are, however, only a few lim-
ited empirical studies that examine this issue. This
paper attempts to ll the void by examining what the
determinants of CSR engagement are, and whether
CSR engagement along with corporate governance
and monitoring mechanisms enhance rm value.
We contribute to the existing literature on cor-
porate social responsibility and corporate governance
in three ways. First, we extend the existing literature
by examining the determinants of CSR engagement
from a full spectrum of corporate governance sys-
tem. Consistent with the prior literature and eco-
nomic intuition, we nd that several governance
characteristics positively affect the choice of CSR
engagement. Second, by controlling for the endog-
enous treatment effects and simultaneity bias, we
nd that CSR engagement enhances rm value.
Third, we show evidence that the impact of external
monitoring by security analysts over rms CSR
activities on rm value is more signicant than other
internal and external governance and monitoring
375 Corporate Governance and Firm Value
mechanisms. Furthermore, managers can direct their
attention to CSR activities within internal rm (i.e.
diversity, employee relations, and product quality)
which are proven to increase rm value.
Since our data of KLDare based on snapshot over a
number of companies social ratings by KLD analysts
in binary responses (yes or no), the data are subject to a
sample selection bias and it is qualitative in nature.
Future study of the CSRCG-rm value relations
using large-scale survey data incorporating various
stakeholders input should be worthwhile. Despite
this limitation, our ndings contribute to managerial
practice by providing some empirical evidence of the
CSRCG association along with CSRCG-value
relationship after controlling for both endogeneity
and simultaneity. While we nd that CSR is one
important factor in the cross-sectional differences in
CG-rm value relationship, we do not attempt to
determine the optimal level of CSR engagement nor
the causality among CSR, CG, and rm value, which
is beyond the scope of this paper. We leave these
important questions to future research.
Notes
1
One notable exception is Harjoto and Jo (2011)
who control for the endogeneity problem. They, how-
ever, do not formally correct for potential simultaneity
bias that invalidates the single-equation procedures
when there exists a simultaneous nature of economic
relations. In this paper, in contrast to Harjoto and Jo
(2011), we not only control for the simultaneity bias
using simultaneous equation system, but also address the
impact of CSR subcategories on rm value along with
deeper analysis regarding the impact of various internal
and external governance mechanisms on the choice of
CSR engagement and the market value of rm.
2
Social capital is described as a resource of individu-
als that emerges from social ties (Coleman, 1990). Guiso
et al. (2004) assert that the source of social capital lies
with the people to whom a person is related.
3
Some researchers interpret CSR engagement as a
signaling device. For instance, Fisman, et al. (2006) and
Goyal (2006) interpret CSR investment as a signal in
competitive industries and in foreign direct investments,
respectively. Other studies focus on corporate contribu-
tions. Schwart (1968) asserts prot maximization along
with the CEOs psychological motivation as the
underlying rationale behind corporate philanthropic
contributions. He claims that both CSR and corporate
contributions can be viewed as an indirect investment
in society, yielding reputation building, potential reve-
nue increases and cost reductions, and therefore a rm
value increase. Navarro (1988) maintains that prot-
maximization factors and managerial discretionary fac-
tors can explain corporate contributions. Brown et al.
(2006) examine the relation between corporate philan-
thropic contributions and agency costs.
4
Notice that the improvement of accounting prot-
ability does not necessarily lead to higher rm value.
5
Some IVs will yield more precise estimates. The
more highly correlated the IV is with the choice of
CSR engagement, the more precise the estimates of per-
formance impact will be. Thus, the challenge in an IV
estimation is to nd an appropriate instrumental variable
that is highly correlated with the rst-pass choice, but
uncorrelated with the second-pass performance. Unfor-
tunately, it is often hard to nd variables that meet both
of these requirements, and therefore, it is difcult to nd
good IVs among the many potential IVs.
6
Similar methodology is also used by Harjoto and Jo
(2011) and Jo and Harjoto (2011).
7
When we perform logistic regression models to exam-
ine the likelihood of a choice decision, the results are quali-
tatively the same as those of the probit models shown in
Table III. We also control risk with the standard deviation
of stock returns, and the unreported results remain intact.
8
We further analyze the impact of LOGANAL on CSR
separately using two-stage least-square (2SLS) in Table V.
9
Recent study by Jo and Harjoto (2011) focuses on the
causality issue between CSR and corporate governance.
10
We also examine the association between the KLD
exclusionary scores and ADJTOBINQ. Our unreported
results suggest that the KLD exclusionary scores from
alcohol, tobacco, military, and nuclear-related revenues
are inversely associated with rm value when we do
not include the governance and control variables. How-
ever, when we include the governance and control
variables, only alcohol scores remain signicantly nega-
tive. The coefcients on gambling scores are insigni-
cant in all models examined.
11
The results are qualitatively the same when we use
Tobins q instead of industry-adjusted Tobins q. The
results are also essentially identical when we exclude
nancial and utility rms from the sample.
Acknowledgments
We thank an anonymous referee, Sanjiv Das, Carrie
Pan, and Mark Seasholes for valuable comments. Donna
Maurer provided editorial assistance. Jo acknowledges
the Leavey Research Grant for nancial support.
376 Hoje Jo and Maretno A. Harjoto
List of the strength and concern items in the KLD social ratings database
Category Strength items Concern items
Community Generous giving Investment controversies
Innovative giving Negative economic impact
Support for housing Indigenous peoples relations (0001)
Support for education (added 94) Other concern
Indigenous peoples relations (added 00, moved 02)
Non-U.S. charitable giving
Other strength
Environment Benecial products & services Hazardous waste
Pollution prevention Regulatory problems
Recycling Ozone depleting chemicals
Alternative fuels Substantial emissions
Communications (added 96) Agricultural chemicals
Property, plant, and equipment (ended 95) Climate change (added 99)
Other strength Other concern
Diversity CEO Controversies
Promotion Non-representation
Board of directors Other concern
Family benets
Women/minority contracting
Employment of the disabled
Progressive gay & lesbian policies
Other strength
Employee relations Strong union relations Poor union relations
No layoff policy (ended 94) Health safety concern
Cash prot sharing Workforce reductions
Employee involvement Pension/benets (added 92)
Strong retirement benets Other concern
Health and safety strength (added 03)
Other strength
Product quality and safety Quality Product safety
R&D/Innovation Marketing/contracting controversy
Benets to economically disadvantaged Antitrust
Other strength Other concern
KLD exclusionary items Alcohol
Gambling
Tobacco
Firearms
Military
Nuclear
Notes: All items are listed in their corresponding category. Unless otherwise indicated, the item has been included in the
data from 19942004. Items that were add to the data or discontinued (i.e., ended) in intermediate years are indicated, as
are the cases in which an item was moved from one category to another. Further details on the denition of each indicator
are available from KLD Research & Analytics, Inc at http://www.kld.com/research/ratings_indicators.html.
APPENDIX A
377 Corporate Governance and Firm Value
Variable denitions and measures
Variable [Name] Variable denitions
CSR (1, 0) [CSR] Dummy variable equals to 1 if a rm has
engaged in corporate social responsibility
(CSR)
CSR combined score [CSRCOMPOSITE] Arithmetic average of the combined scores of
KLD strengths and concerns of community,
environment, diversity, employee, and
product dimensions. (source: KLD Socrates
database)
Family rm (1, 0) [FAMFIRM] Dummy variable equals to 1 if a rm is family
owned rm and otherwise equals to zero
State law [STATELAW] A rm incorporated in states with anti-take-
over laws (source: GIM index, RiskMetrics
data)
ROA [ROA] Return on asset (source: COMPUSTAT)
Change ROA [CHGROA] Change in ROA from t -1 to t.
(source: COMPUSTAT)
Diversication [SEGDIV] Dummy variable equals to 1 if a rm has
more than one business segment
(COMPUSTAT)
GINDEX [GINDEX] Gompers, Ishii and Metrick index
(source: RiskMetrics data)
Entrenchment index [ENTINDEX] Bebchuk et al. (2009) Entrenchment Index
(source: RiskMetrics data)
Duality (1, 0) [DUALITY] Dummy variable equals to 1 if a CEO is also
chair of the board. (source: RiskMetrics data)
CEO nomination committee [CEONOM] Dummy variable equals to 1 if a CEO is a
chair or a member of nomination committee
% of director share [PCTDIRSHR] Percentage of director shares (source: Risk-
Metrics data)
Board size [BSIZE] Total number of board members (source:
RiskMetrics data)
% of independent directors [PCTINDEP] Number of independent outside directors/
Number of total directors (source: Risk-
Metrics data)
Log of Blockholdings [LOGBLKS] Log of sum of total blockholdings (5% or
more)
% of institutional ownership [PCTINSTI] Percentage of institutional share ownerships
(CDA/Spectrum 13(f) ling)
Log (Number of Analysts + 1) [LOGANAL] Log of (number of analysts + 1) (source: I/B/
E/S database)
Log total asset [LOGTA] Log of total asset (data 6) (source:
COMPUSTAT)
Debt/total asset [DEBTR] Long-term debt divided by total asset
(source: COMPUSTAT)
APPENDIX B
378 Hoje Jo and Maretno A. Harjoto
APPENDIX B
continued
Variable [Name] Variable denitions
R&D expenditure ratio [RNDR] Research and development expense divided
by total sales (source: COMPUSTAT)
Capital expenditure ratio [CAPXR] Capital expenditure expense divided by total
sales (source: COMPUSTAT)
Advertising exp. ratio [ADVR] Advertising expense divided by total sales
(source: COMPUSTAT)
Tobins q [TOBINQ] Tobin q = Total debt (data 9 + data
34) + preferred stock (data56) + market va-
lue of equity (data24*data25)/Total asset
(data 6) [Chung and Pruitt (1994)]
Industry-adjusted Tobins q [ADJTOBINQ] The natural log of rms q divided by the
median q in the rms industry [Campbell
(1996)]
Firm age [FIRMAGE] Firm age is calculated from the beginning of
the year from the CRSP database
S&P 500 (1, 0) [SP500] Dummy variable equals to 1 if a rm is in
S&P 500 index.
Sales growth [SGROWTH] Sales growth rate from t -1 to t. (source:
COMPUSTAT)
Dividend/book equity [DIVR] Dividend divided by book value of equity
(data21/data60) (source: COMPUSTAT)
Calculation of the combined strength and composite scores and the combined strength scores
Combined strength and concern scores
COMMUNITY(i,t) = (sum of all community strength score for rm i at year t minus the sum of all community concern
score for rm i at year t plus total maximum possible number of community concern score at year t) divided by (total
maximum possible number of community strength score during year plus total maximum possible number of community
concern score at year t)
ENVIRONMENT(i,t) = (sum of all environment strength score for rm i at year t minus the sum of all environment
concern score for rm i at year t plus total maximum possible number of environment concern score at year t) divided by
(total maximum possible number of environment strength score during year plus total maximum possible number of
environment concern score at year t)
DIVERSITY(i,t) = (sum of all diversity strength score for rm i at year t minus the sum of all diversity concern score for
rm i at year t plus total maximum possible number of diversity concern score at year t) divided by (total maximum
possible number of diversity strength score during year plus total maximum possible number of diversity concern score at
year t)
EMPLOYEE RELATIONS(i,t) = (sum of all employee strength score for rm i at year t minus the sum of all employee
concern score for rm i at year t plus total maximum possible number of employee concern score at year t) divided by
(total maximum possible number of employee strength score during year plus total maximum possible number of
employee concern score at year t)
APPENDIX C
379 Corporate Governance and Firm Value
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continued
EMPLOYEE RELATIONS(i,t) = (sum of all employee strength score for rm i at year t minus the sum of all employee
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382 Hoje Jo and Maretno A. Harjoto
Hoje Jo
Leavey School of Business,
Santa Clara University,
500 El Camino Real, Santa Clara,
CA 95053-0388, U.S.A.
E-mail: hjo@scu.edu
Maretno A. Harjoto
Graziadio School of Business and Management,
Pepperdine University,
24255 Pacic Coast Highway, Malibu,
CA 90263, U.S.A.
E-mail: Maretno.Harjoto@Pepperdine.edu
383 Corporate Governance and Firm Value
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