Iftekhar Hasan – Nada Kobeissi – Liuling Liu –
Haizhi Wang
Corporate Social Responsibility
and Firm Financial Performance:
The Mediating Role of Productivity
Bank of Finland Research
Discussion Paper
7 • 2016
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Corporate Social Responsibility and Firm Financial Performance:
The Mediating Role of Productivity
Iftekhar Hasan
∗
Fordham University and Bank of Finland
45 Columbus Avenue, 5
th
Floor
New York, NY 10023
Telephone: 646-312-8278
E-mail: ihasan@fordham.edu
Nada Kobeissi
College of Management
Long Island University-C.W. Post
700 Northern Boulevard
Brookville, New York 11548-1326
E-mail: nada@liu.edu
Liuling Liu
College of Business
Bowling Green State University
Bowling Green, OH 43403
Telephone: 419-372-0267
E-mail: liulinl@bgsu.edu
Haizhi Wang
Stuart School of Business
Illinois Institute of Technology
10 W 35
th
Street
Chicago, IL 60616
Telephone: 312-906-6557
E-mail: hwang23@stuart.iit.edu
Forthcoming (Journal of Business Ethics)
∗
Corresponding author. Please send all correspondences to ihasan@fordham.edu.
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Corporate Social Responsibility and Firm Financial Performance:
The Mediating Role of Productivity
ABSTRACT
This study treats firm productivity as an accumulation of productive intangibles and posits that
stakeholder engagement associated with better corporate social performance helps develop such
intangibles. We hypothesize that because shareholders factor improved productive efficiency
into stock price, productivity mediates the relationship between corporate social and financial
performance. Furthermore, we argue that key stakeholders’ social considerations are more
valuable for firms with higher levels of discretionary cash and income stream uncertainty.
Therefore, we hypothesize that those two contingencies moderate the mediated process of
corporate social performance with financial performance. Our analysis, based on a
comprehensive longitudinal dataset of U.S. manufacturing firms from 1992 to 2009, lends strong
support for these hypotheses. In short, this paper uncovers a productivity-based, context-
dependent mechanism underlying the relationship between corporate social performance and
financial performance.
KEYWORDS: corporate social responsibility, corporate financial performance, total factor
productivity, stakeholder management, discretionary cash, organizational risk
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Introduction
The competition for and consumption of scarce resources in the global markets put great
pressures on companies to achieve desirable ends beyond maximizing shareholder value. These
pressures arise from the increased demands of external stakeholders that hold companies
accountable for social and environmental issues. Many companies respond positively to
increased stakeholder interest in corporate social responsibility (CSR). Others see a tension
between value maximization proposition of the firms (Jensen, 2001) and CSR because they
become concerned about the legitimacy of corporate involvement in social affairs and the
possibility of misappropriating and misallocating scarce resources (Margolis and Walsh, 2003;
Garriga and Melé, 2004).
To legitimize CSR on sound economic grounds and alleviate managers’ concerns,
numerous studies attempt to identify the relationship between corporate social performance (CSP,
a measure of CSR) and corporate financial performance (CFP). Despite these empirical inquires
(Margolis et al., 2009; Margolis and Walsh, 2003; Orlitzky et al., 2003), debate and controversy
remain about whether and how CSP influences CFP (Luo and Bhattacharya, 2009; Barnett and
Salomon, 2006; Luo et al., 2015). Therefore, exploring and unpacking the blackbox linking CSP
and CFP becomes critically important to better understand the underlying mechanisms that create
competitive advantages and better integrate CSR engagement with a firm’s core business and
operations (Porter and Kramer, 2006).
This study uncovers a productivity-based mechanism by investigating the mediating role
of total factor productivity (TFP) in the CSP-CFP relationship. Firm-level TFP is normally
estimated as the residual from a Cobb-Douglas production function with capital, labor, and
materials as inputs. Therefore, TFP captures the productive efficiency determined by how a firm
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utilizes inputs to produce output. Treating TFP as the accumulation of productive intangibles, we
argue that CSR-related stakeholder management helps firms develop such intangibles. Given that
improvements in productivity have permanent and lasting effects on firm financial performance,
we examine in greater depth the productivity-based mechanism through which CSP influences
firm financial performance (Edmans 2013). Using a comprehensive longitudinal dataset of all
publicly traded U.S. manufacturing firms from 1992 to 2009, we document a significant and
positive relationship between CSP and TFP. More importantly, the mediation analysis reveals
that TFP significantly mediates the CSP-CFP relationship, and our findings are robust to a host
of model specifications controlling for endogeneity.
Adopting a contingency perspective (Barnett 2007), we take our findings one step further.
In particular, we identify two contextual variables, namely discretionary cash (Russo 1991; Kim
and Bettis, 2014) and organizational risk (Godfrey et al., 2009), which can potentially moderate
the mediated process. Defined as firm undistributed cash flow, discretionary cash is a fungible
strategic asset which allows a firm to embrace technologic advancements and investment
opportunities. Nonetheless, discretionary cash can be deviated to other unproductive uses due to
managerial opportunism. In this paper, we posit that CSR engagement is more valuable to firms
with high levels of discretionary cash because better stakeholder engagement greatly limit
managerial opportunism (Jo and Harjoto, 2012) and facilitate the transformation of liquid assets
into firm-specific productive assets. In addition, firms are exposed to different levels of
organizational risk which is defined as income stream uncertainty (Palmer and Wiseman, 1999).
Likewise, we argue that the social legitimacy (Suchman 1995; Du and Vieira, 2012) and moral
capital (Godfrey 2005; Godfrey et al., 2009) derived from better CSR engagement can stabilize
and enhance a firm’s competitiveness and mitigate adverse consequences of negative events. We
