What is the relationship between corporate and social responsibility?

“Across the world investors say to us that some companies continue to tell them there is no demand for information […] not recognized by financial statements.” (IIRC, 2017b)

“We believe that all investors […] need a clearer picture of how companies are managing sustainability-related questions. Each company’s prospects for growth are inextricable from its ability to operate sustainably […].” (Fink, 2020)

From the perspective of corporate practice, the above two statements indicate that there is still ambiguity with regard to the relevance of corporate social responsibility (CSR) information1 for investors.2 The importance of CSR information for investment decisions is often highlighted, although whether a business case for CSR activities exists is still debated by research and practice (Brooks and Oikonomou, 2018).

Following the cost-concerned school, CSR activities are expected to have a detrimental effect on corporate financial performance (CFP),3 as they may represent only cash outflows by consuming corporate resources (Mervelskemper and Streit, 2016; Sun et al., 2019). The quote above from a statement of investors disclosed by the International Integrated Reporting Council (IIRC) exemplifies the view of the cost-concerned school. The quote suggests that investors do not demand CSR information to value a firm, as all necessary information might already be included within the financial statements (IIRC, 2017b).

However, the overarching opinion from research and practice is the opposite (Brooks and Oikonomou, 2018; Fink, 2020; Orlitzky et al., 2003). The value-creation school proposes that CSR activities have a beneficial effect on CFP and argues that a firm can “do well by doing good” (Hassel et al., 2005; Sun et al., 2019). Hence, prevailing research studies are convinced that CSR activities generate competitive advantages, address the needs of stakeholders, and ensure corporate legitimacy, which may also result in an increase in firm value (Malik, 2015; Orlitzky et al., 2003). This is underlined by the fact that approximately 50% of all professionally managed assets in Canada, Australia and New Zealand, and Europe are already considered sustainable investments (GSIA, 2018). Indeed, Larry Fink (2020), chief executive officer (CEO) of the global asset management firm BlackRock, emphasized in his recent letter to CEOs that CSR information is crucial for investors to evaluate the long-term success of a company, as financial performance depends on CSR performance.

Nevertheless, empirical results on the financial advantageousness of CSR for companies are still inconclusive (Brooks and Oikonomou, 2018; Orlitzky et al., 2003; Zhang, Lin, et al., 2020), and the reason for this may be that the value-creation and cost-concerned schools are not polar opposites, but they can coexist (Brammer and Millington, 2008; Hahn et al., 2010). Thus, the relationship might not be explained by only one school of thought. However, the majority of research still assumes a simple linear relationship (Sun et al., 2019). Against this trend, first empirical studies have shown a quadratic relationship between CSR and CFP (e.g., Brooks and Oikonomou, 2018; Busch et al., 2020; Fujii et al., 2013; Trumpp and Guenther, 2017; Zhang, Wei, et al., 2020). Quadratic or U-shaped functions assume an area where the relationship between CSR activities and CFP is positive, as well as an area where the relationship is negative. Thus, from a theoretical perspective, these U-shaped functions include areas where the value-creation school outweighs the cost-concerned school and vice versa. Thereby, the relationship can either be U-shaped or inverted U-shaped (Trumpp and Guenther, 2017).

In addition, moderating effects may play a crucial role in answering the question of the circumstances under which CSR activities are (positively or negatively) associated with CFP (Franco et al., 2020; Grewatsch and Kleindienst, 2017; Sun et al., 2019). CSR activities are associated with both economic benefits and costs, which investors might only be able to disentangle with the help of voluntary disclosures (Baboukardos, 2018). According to voluntary disclosure theory, in order to decrease information asymmetries and enhance company valuations, firms should have incentives to inform their investors of the value-creation ability of their CSR activities (Fuhrmann, 2019; Wahl et al., 2020). Both the omission of moderating variables and a narrow focus on a linear relationship could have led to inconclusive empirical results (Grewatsch and Kleindienst, 2017; Sun et al., 2019). To enhance the understanding of this debate, this paper investigates the research question of whether integrated reporting (IR) positively moderates the association between CSR expenditures (environmental and social expenditures) and firm value. As the relationship between both environmental and social expenditures and firm value might depend on the level of expenditures, a test of quadratic relationships is conducted before examining the moderating effect of IR.

Prior to IR, companies published isolated voluntary reports (e.g., sustainability reports or intellectual capital statements) besides the mandatory financial report in order to inform their stakeholders of their value-creation processes (Frías-Aceituno et al., 2013; Wang et al., 2020). The result was often an information-overload effect (de Villiers et al., 2014). IR is the latest attempt to remove the silo reporting of firms by providing only one report that connects all material financial and non-financial information of a firm (Cortesi and Vena, 2019; Di Vaio et al., 2020; Eccles and Krzus, 2010). By having insights into the interdependencies of the financial and non-financial value-creation4 aspects, investors as the target group of IR are likely to benefit from both decreased information asymmetries and the enhanced incorporation of non-financial information into their valuation models (Barth et al., 2017; Lee and Yeo, 2016; Vitolla et al., 2020). Thus, IR aims to present a holistic picture to investors of how non-financial capitals relate to financial value creation. This is considered the value-added of IR beyond, for example, CSR reports (Landau et al., 2020; Tlili et al., 2019).

IR is developed by the IIRC, which released a discussion paper in 2011 (IIRC, 2011) and a principles-based framework in 2013 (IIRC, 2013) outlining the ideas of IR. IR is a voluntary reporting concept, except in South Africa, where firms listed on the Johannesburg Stock Exchange (JSE) must disclose an integrated report, although they have discretion regarding the contents of their reports (de Villiers et al., 2017; Wang et al., 2020). Despite the widely voluntary nature of IR, its adoption is growing worldwide (Green and Cheng, 2019).

IR is also an evolving research topic (Landau et al., 2020; Veltri and Silvestri, 2020). With regard to the value relevance5 of IR, research has shown that integrated reports can enhance the information environment of investors and positively contribute to capital markets (e.g., Barth et al., 2017; Zhou et al., 2017). To date, this positive capital market effect has remained on an aggregated level, as research has not identified the specific CSR activities for which IR is able to explain financial value creation (Veltri and Silvestri, 2020). Therefore, this paper follows Bansal et al. (2014) and Huang et al. (2019) in decomposing CSR into an environmental dimension and a social dimension, as it differentiates between environmental and social expenditures when investigating the moderating effect of IR.

The analyses in this study are carried out using the Ohlson accounting-based valuation model (Ohlson, 1995). The global and listed sample comprises 8,992 firm-year observations between 2012 and 2017. The results demonstrate a significant U-shaped relationship between environmental expenditures and firm value, while social expenditures show a significant inverted U-shaped relationship with firm value. These findings strengthen research indicating that the cost-concerned school and the value-creation school can coexist (e.g., Nuber et al., 2019; Sun et al., 2019; Wang et al., 2008).

With regard to the potential moderating effect of IR, the results show that IR moderates the U-shaped relationship between environmental expenditures and firm value but not the inverted U-shaped relationship between social expenditures and firm value. In detail, IR positively moderates the association of environmental expenditures and firm value for firms with a low or a high level of environmental expenditures but not for firms “stuck in the middle”. The findings might be attributable, on the one hand, to legitimization against stakeholder expectations by publishing an integrated report for firms with a low level of environmental expenditures. On the other hand, firms with a high level of environmental expenditures might benefit from explanations in their integrated reports of how their environmental expenditures create financial value. For firms that are “stuck in the middle” with regard to their environmental expenditures, the moderating effect of IR appears negative, as the integrated report might reveal no strategic intentions, and thus no value-creation ability of the environmental expenditures, but non-strategic cash outflows. Nevertheless, in all situations, IR appears to enhance the information environment for investors regarding environmental expenditures according to the intentions of the IIRC (2013), as it helps investors disentangle the economic costs and benefits of environmental expenditures. Conversely, investors may expect a certain degree of social expenditures for a firm to receive its license to operate (Bansal et al., 2014). Thus, investors do not seem to consider explanations of the value-creation contribution of social expenditures provided by integrated reports. A series of robustness analyses confirms the results.

This paper contributes to the literature by combining two research streams that focus on the association between CSR and firm value and the capital market effects of IR. First, the study investigates whether investors regard environmental and social expenditures as value relevant. A quadratic relationship is derived that takes into account both the value-creation and the cost-concerned school. Second, this study contributes to the question of whether IR can fulfill its information-enhancing purpose for investors by explaining value-creation chains between both environmental and social expenditures and firm value that are often not directly observable. Hence, this paper adds to the current literature on IR by disentangling the CSR expenditures that are associated with firm value and moderated by IR, beyond proving solely an aggregated positive capital market effect of IR.

The remainder of the paper is organized as follows: The next section discusses the theoretical background and the related literature and develops the hypotheses. Section 3 introduces the research design. Section 4 presents the empirical results and discussion, including those for robustness analyses. Concluding remarks are given in Section 5.

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