Washing Away Your Sins? Corporate Social Responsibility, Corporate Social Irresponsibility, and Firm Performance

© 2015, American Marketing Association
Journal of Marketing
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permission of the American Marketing Association.
Washing Away Your Sins? Corporate Social Responsibility,

Corporate Social Irresponsibility, and Firm Performance
Charles Kang
Frank Germann
Rajdeep Grewal
_____________________
Charles Kang is Visiting Assistant Professor, A.B. Freeman School of Business, Tulane University,
Goldring/Woldenberg Hall, New Orleans, LA 70118, USA, Tel: +1 504 314 7554, Email:
ckang2@tulane.edu. Frank Germann is Assistant Professor of Marketing, 395 Mendoza College of Business,
University of Notre Dame, Notre Dame, IN 46556, USA, Tel: +1 574 631 4858, Email: fgermann@nd.edu.
Rajdeep Grewal is the Townsend Family Distinguished Professor, Kenan-Flagler Business School, University
of North Carolina, Chapel Hill, NC 27514, USA, Tel: +1 919 62 2149, Email: grewalr@unc.edu. The authors
thank Timothy Gilbride, Patrick Murphy, Arvind Rangaswamy, Hari Sridhar, and William Wilkie for their
helpful comments on an earlier version of this research. In addition, they gratefully acknowledge the
constructive guidance of the JM review team.
ABSTRACT
We address the questions of whether and how Corporate Social Responsibility (CSR) relates to firm
performance, and, in so doing identify four mechanisms pertaining to this relationship: (1) slack resources
lead to CSR, i.e., slack resources mechanism (2) CSR improves performance, i.e., good management
mechanism, (3) CSR makes amends for past Corporate Social Irresponsibility (CSI), i.e., penance mechanism,
and (4) CSR insures against subsequent CSI, i.e., insurance mechanism. We seek to be integrative in our
approach and incorporate the four mechanisms in our empirical model specification. Specifically, to model
the interplay among CSR, CSI, and firm performance, and to test the four mechanisms simultaneously, we
propose a structural panel vector autoregression specification. In support of the good management
mechanism, results from our unbalanced panel dataset of over 4,500 firms and up to 19 years suggest that
firms that engage in CSR are likely to benefit financially from their CSR investments. Moreover, we do not
find support for the slack resources or the insurance mechanism. In contrast, and in support of the penance
mechanism, often firms’ CSR seems to trail their CSI. However, our results also suggest that the penance
mechanism is ineffective at offsetting negative performance effects due to CSI.
Keywords: Corporate Social Irresponsibility, Corporate Social Responsibility, Firm Performance,

Mechanisms, Structural Panel Vector Autoregressive Model.
2
Corporate social responsibility (CSR) – company actions that advance social good beyond that which
is required by law (e.g., McWilliams and Siegel 2001) – continues to draw interest from practitioners and
academics alike. In 2013, Ipsos reported that 77% of consumers believe that companies should be doing more
to contribute to society (Ipsos 2013), while a study conducted by Reputation Intelligence found that 73% of
consumers across the 15 largest markets in the world will recommend companies that deliver on CSR
(Reputation Intelligence, 2013). Against this backdrop, most of the extant academic CSR-related research has
scrutinized the conception that companies do “well” by doing “good” (e.g., Barnett and Salomon 2012;
Bhattacharya and Sen 2004; Jayachandran, Kalaignanam, and Eilert 2013; Margolis et al. 2007). However, the
debate on how doing “good” and doing “well” converge has yet to be resolved (e.g., Chin, Hambrick, and
Treviño 2013; Groening, Swaminathan, and Mittal 2015; Hull and Rothenberg 2008; Mackey et al. 2007).
Specifically, our examination of the extant CSR literature reveals the following four mechanisms that have
been proposed – independently1 – regarding the relationship between CSR and (positive) firm performance:
1. Slack Resources Mechanism: Companies engage in CSR because they are doing well financially and have
slack resources (e.g., McGuire et al. 1988; Orlitzky, Schmidt and Rynes 2003).
2. Good Management Mechanism: CSR is part of “good management” and thus improves financial
performance (e.g., Hillman and Keim 2001; Hull and Rothenberg 2008).
3. Penance Mechanism: Companies engage in CSR as a form of penance to offset past Corporate Social
Irresponsibility (CSI)2 (e.g., Heal 2005; Kotchen and Moon 2012).
4. Insurance Mechanism: CSR builds a reservoir of goodwill to attenuate negative reactions if and when
things go wrong, i.e., CSR provides an insurance mechanism against CSI (e.g., Godfrey, Merrill, and
Hansen 2009; Flammer 2013).
The good management, penance, and insurance mechanisms, explicitly or implicitly, postulate
positive effects of CSR on firm performance whereas the slack resources mechanism suggests a positive
effect of firm performance on CSR. Thus, while not mutually exclusive, good management and slack
1 We are not aware of a study that has either identified or examined these four mechanisms simultaneously, as we do
here. We note, however, that some studies have examined the slack resources and good management mechanisms
simultaneously (e.g., Scholtens 2008).
2 We define CSI as firm-induced incidents that appear to hurt the social good, i.e., the antithesis of CSR. BP’s Deepwater
Horizon oil spill in 2010 is an example of a CSI incident. However, we do recognize that firm efforts drive both CSR
initiatives (which can be seen as efforts directly) and CSI incidents; thus, in Appendix A we present a theoretical model
that links CSR and CSI efforts to our measures of CSR initiatives and CSI incidents. As we have annual data, consistent
with our measure of CSR that counts the number of CSR initiatives, our measure of CSI counts the number of CSI
incidents.
3
resources mechanisms propose reverse causal paths. Likewise, while again not mutually exclusive, penance
and insurance mechanisms also propose reverse causal paths. Specifically, the penance mechanism suggests
that firms engage in CSR in time t to offset CSI that occurred in time 𝑡 − 𝑥, 𝑥 ≥ 1, whereas the insurance
mechanism proposes that firms engage in CSR in time 𝑡 − 𝑥, 𝑥 ≥ 1, to insure against CSI in time t.
The key purpose of our study is to investigate these four mechanisms simultaneously and identify
which of them is/are operative. Thus, we further the debate on how doing “good” and doing “well” converge.
Moreover, while addressing the how question, we also shed light on the at least equally important question of
whether doing “good” and doing “well” converge. We find that the answer to the whether question appears to
be “yes”; hence, the answer to the how question has substantial academic and managerial significance.
Of note is that the CSR literature provides empirical support for each one of the four mechanisms;
however, as indicated above, a limitation of the literature is that it has not yet studied the four mechanisms
simultaneously. Indeed, the studies only examine one, and at the most two of the mechanisms (i.e., slack
resources and good management) at a time. Such an approach of studying only one or two mechanisms at a
time might be problematic as important relationships that the unmodeled mechanisms suggest should result
in either a partial picture of the phenomenon or worse yet, false statistical findings (i.e., omitted variable bias).
We will show, for example, that CSR and CSI are significantly correlated. Thus, by modeling only CSR and
firm performance potentially important effects resulting from CSI cannot be teased out. Also, most studies
have employed econometric models that are simplistic and correlational (and not causal) in nature.
Highlighting the issues regarding these models, Margolis et al. (2007, p. 27) urge that “causal mechanisms
need to be […] tested”. Similarly, King and Lenox (2001, p. 107) suggest that if “one cares merely about
correlation and little about causation, these correlative studies are informative [….]. From the perspective of
corporate managers and policy analysts, however, the distinction is critical.” In this study, we follow an
integrative approach and examine all four mechanisms simultaneously. We also use what we deem to be
appropriate econometric techniques to move closer to causality.3 Specifically, recognizing that we have annual
3As we mention subsequently, we take several concrete steps to move closer to causality recognizing that we are relying
on real world data and that experimental data cannot be used to study such complex organizational phenomena.
Recognizing the time series data that we employ (e.g., Demiralp and Hoover 2003), we take the following steps: We
4
data on more than 4,500 firms across 19 years (i.e., large cross section and small time series), that there is a
need to model the interplay among CSR, CSI, and firm value simultaneously, and there might be
contemporaneous effects among the three variables in our annual data, we propose and estimate a structural
panel vector autoregressive (SPVAR) model.
Our results show support for good management and penance mechanisms and not for slack
resources and insurance mechanisms. That is, our empirical findings suggest that firms benefit financially
from CSR as CSR leads to positive financial performance. Moreover, we find that CSR frequently trails CSI
temporally, i.e., that firms seem to use CSR strategically to offset past CSI. Yet, our results also suggest that
the penance mechanism is not effective at compensating for negative effects of CSI.
We proceed as follows: We first elaborate on the four mechanisms that have been proposed in the
literature. Next, we develop our empirical model specification that allows us to examine the dynamic interplay
among CSR, CSI, and firm performance. Subsequently, we present our data and empirical results. We
conclude with a discussion of the implications, as well as limitations, of our research.
BACKGROUND
Extant CSR literature suggests four mechanisms of how CSR and firm performance relate to each
other. As shown in Figure 1, the first two mechanisms (i.e., slack resources and good management
mechanism) are concerned with the direct link between a firm’s CSR and its financial performance whereas
the last two mechanisms (i.e., penance and insurance mechanism) examine the link between CSR and CSI.
The performance implications of CSR are implicit in the latter two mechanisms as CSR is expected to
mitigate the adverse influence of CSI incidents. In the following, we describe the four mechanisms as well as
the relationship among the four mechanisms in more detail. Table 1 shows examples of empirical studies on
the four mechanisms.
ensure that our data are stationary, we simultaneously model CSR, CSI, and firm performance to ensure there is no
omitted simultaneity, and we include contextually grounded contemporaneous effects (which lead to the structural VAR
specification) based on literature to mitigate deleterious effects from temporal aggregation (as we have annual data).
Further, recognizing the panel nature of our data, we include firm- and time-specific fixed effects and adapt the Blundell
and Bond (1998) estimator that uses lagged values and change in lagged values for endogenous variables as instruments
to identify the causal effects.
5
[Insert Figure 1 and Table 1 about here]
Slack Resources Mechanism
A plethora of studies have examined the direct link between a firm’s CSR and its financial
performance (for a survey see, e.g., Margolis et al. 2007). Some of these studies posit that firms engage in CSR
because they are doing well financially. Generally referred to as the slack resources mechanism, supporters of
this link tend to argue that good financial performance provides firms with slack resources which, in turn,
provides the firms with the opportunity to invest in CSR related activities, such as community relations (e.g.,
Waddock and Graves 1997; Orlitzky, Schmidt and Rynes 2003). In addition, proponents of the slack
resources mechanism tend to view CSR activities as voluntary, meaning that managers have a high flexibility
to initiate or cease them. Accordingly, they argue that a firm’s decision to invest in CSR activities largely
depends on the availability of excess cash (McGuire et al. 1988; Chin, Hambrick, and Treviño 2013).
Similarly, advocates of the slack resources mechanism also tend to believe that CSR related activities are not
critical to the success of the firm, i.e., that they fall under the category of discretionary spending, and are
hence especially sensitive to the existence of slack resources (e.g., McGuire et al. 1988).
Supporters of the slack resources mechanism have used various examples to support their
mechanism. For example, Waddock and Graves (1997) reported that IBM had significant philanthropic
programs during good economic times but canceled many of those programs when the going got tougher.
Moreover, Chin, Hambrick and Treviño (2013) report that conservative CEOs pursue CSR only as
performance allows. Also, arguably the most cited scholarly article in support of the slack resources
mechanism is the one by McGuire et al. (1988) in which they find that a firm’s prior performance is more
closely related to its CSR than subsequent performance. Others, such as Preston and O’Bannon (1997),
conclude that the relationship between CSR and financial performance is bi-directional, while Scholtens
(2008) reports that only a few studies have used CSR as the dependent and financial performance as the
independent variable. Thus, empirical substantiation of the slack resources mechanism is relatively sparse.
Good Management Mechanism
6
Most of the extant empirical CSR related research has scrutinized the conception that companies do
“well” by doing “good” (e.g., Barnett and Salomon 2012; Bhattacharya and Sen 2004; Jayachandran,
Kalaignanam, Eilert 2013; Luo and Bhattacharya 2006; Margolis et al. 2007; McWilliams et al. 2006). Of these
studies, roughly 50% find a positive relationship between CSR and financial performance, 25% find no
relationship, 20% find mixed results, and 5% find a negative relationship (Margolis and Walsh 2001;
Scholtens 2008).
Proponents of the doing “well” by doing “good” viewpoint argue that the cost of CSR is lower than
the benefits that accrue from it (e.g., Hull and Rothenberg 2008) and that it is simply a part of good management
to engage in CSR. They suggest, for example, that superior CSR can attract and retain quality employees (e.g.,
Greening and Turban 2000), enhance the morale, productivity, and satisfaction of employees (e.g., Waddock
and Graves 1997), reduce costs by increasing operational efficiencies (e.g., Hart and Ahuja 1996), increase
customer satisfaction (e.g., Luo and Bhattacharya 2006), and help the firm market its products (e.g., Fombrun
1996). Advocates of this link have proposed that CSR can become a source of competitive advantage due to,
for example, the resulting positive stakeholder perceptions of the firm (e.g., Hull and Rothenberg 2008).
Accordingly, scholars who support the positive effect of CSR on financial performance have argued that CSR
improves stakeholder relationships, which leads to positive firm performance (e.g., Hillman and Keim 2001).4
Penance Mechanism
Historically, most research has examined the slack resources and\or good management mechanisms
to address how CSR and firm performance relate to each other; more recently, however, scholars are
beginning to explore other mechanisms. Building on Heal (2005), who proposed that CSR is a program of
actions for firms to reduce externalized costs, Kotchen and Moon (2012) argue that firms engage in CSR as a
form of penance to offset its past CSI. Specifically, Kotchen and Moon (2012) argue that CSR is a type of
4 As indicated above, a small fraction (i.e., about 5%) of the studies that have examined the CSR – financial performance
link reason that CSR results in negative financial performance (e.g., Margolis and Walsh 2001; Scholtens 2008).
Advocates of this negative effect usually argue that CSR unnecessarily raises a firm’s costs (e.g., Aupperle et al. 1985;
McWilliams and Siegel 1997), and that it draws resources away from the core areas of business (e.g., Jensen 2002) which
ultimately results in subpar performance. We note that such an effect would suggest a fifth mechanism -- bad management
mechanism. Yet, since there is little evidence in the literature for this effect, we do not include it here. We note, however,
that our empirical analyses will also test this mechanism.
7
Coasian solution that allows firms to efficiently reduce externalized costs, i.e., costs that the firm has caused
through CSI but that it does not pay back in full. CSR allows the firm to make amends for the unpaid bill.
For example, in the case of an oil spill, the company that caused the spill usually only pays a fraction
of the long-term costs that accrue from the spill, largely because it is impossible to estimate the precise long-
term costs and damage caused. Or when firms treat their workers poorly, it is difficult to gauge the negative
ripple-effect that this poor treatment can have on the individual workers, their families, and the communities
they live in. Yet, there is (primarily non-academic) empirical evidence that shows that firms are penalized if
they are perceived as not holding their end of the bargain, and, conducting their business in ways that conflict
with social norms and values. For example, following the Deepwater Horizon oil spill in 2010, US public
opinion polls were extremely critical of BP’s initial response to the spill, and sales at BP gas stations declined
by as much as 40% (WSJ, 2010). Thus, Kotchen and Moon (2012) argue that firms have an incentive to
engage in CSR because it acts as a penance mechanism that allows the firm to compensate for externalized
costs stemming from past CSI. The performance implications of this approach, of course, are implicit.
Insurance Mechanism
Similar to the penance mechanism, advocates of the insurance mechanism argue that it is imperative
to consider CSR and CSI as separate constructs. Moreover, proponents of the insurance mechanism also view
CSR as a strategic mechanism that can protect against (future) CSI (e.g., Godfrey, Merrill, and Hansen 2009;
Minor and Morgan 2011; Flammer 2013). The difference between the two mechanisms, however, is that the
proponents of the insurance mechanism posit that CSR should not be used as a form of penance to atone for
CSI but rather as insurance against CSI. Thus, compared to the penance mechanism, where CSI in time 𝑡 −
𝑥, 𝑥 ≥ 1, causes CSR in time t, proponents of the insurance mechanism propose that potential CSI in time t
should cause CSR in time 𝑡 − 𝑥, 𝑥 ≥ 1. The insurance mechanism is conceptually grounded in the literature
that suggests that a firm’s good reputation can serve as an intangible asset in times of crises and attenuate
negative stakeholder responses to bad news (e.g., Jones et al. 2000; Schnietz and Epstein 2005; Godfrey,
Merrill, and Hansen 2009), i.e., CSR presumably helps build a reservoir of goodwill among the firm’s
8
stakeholders that endows the firm with idiosyncrasy credits that act as safeguards, i.e., as an insurance, when
bad things, i.e., CSI, happens.
Klein and Dawar (2004) provide empirical support for the notion that CSR acts as an insurance
mechanism against CSI. Specifically, they found that CSR attenuates negative consumer responses in the case
of a product harm crisis. Also, Flammer (2013) finds that the negative stock market reaction to eco-harmful
events is smaller for companies with higher levels of environmental CSR. Further, Minor (2011) and Minor
and Morgan (2011) propose that the primary role of CSR is to increase a firm’s value by insuring the firm
against potential losses caused by future CSI. The performance implications of this mechanism are thus again
implicit; while the returns to CSR during “normal times” might be insignificant, the financial benefits of CSR
during adverse events might be substantial.
Relationship among the Four Mechanisms

Although the four mechanisms described above suggest different causal paths, it is important to note
that they are not necessarily mutually exclusive. For example, while the good management and slack resources
mechanisms propose reverse causal paths (i.e., CSR -> financial performance vs. financial performance ->
CSR), it is possible that both mechanisms are active in a firm. Indeed, while a firm might believe that it will
benefit financially from engaging in CSR, the firm might be more inclined to do so if it is already doing well
financially. Likewise, while the penance and insurance mechanisms also propose reverse causal paths,
respectively, they are again not necessarily mutually exclusive and firms might engage in both. Moreover, it
could also be that firms invest in CSR to build goodwill (i.e., invoke insurance) during times when they have
financial slack. Hence, the insurance and penance mechanisms are also not mutually exclusive. In general,
interdependencies might exist among all four mechanisms, and it hence becomes important to study them
simultaneously.
Summary and Initial Evidence

Although our literature review suggests four mechanisms regarding the relationship between CSR
and firm performance, there has been no attempt to simultaneously study these mechanisms (nor to
summarize these mechanisms as we do here). The majority of the literature focuses on one mechanism at a
9
time (typically on the direct influence of CSR on firm performance outcomes) and thus only paints a partial
picture for the influence of CSR. Further, the dichotomization of CSR into CSR and CSI is a recent
phenomenon (e.g., Groening, Swaminathan, and Mittal 2015; Jayachandran, Kalaignanam, and Eilert 2013;
Kotchen and Moon 2012).5 Finally, as King and Lenox (2001) observe, the methods used in the extant CSR
literature have been either too simplistic, perhaps because they focus on only one mechanism, or simply
inappropriate (also see Margolis et al. 2007; Scholtens 2008).
To further corroborate the misgiving that can stem from correlational analysis focusing on only one
relationship at a time, we resort to model free analysis of our data. As we elaborate subsequently, we have
firm level annual data for up to 19 years (i.e., unbalanced panel) from multiple sources on number of CSR
initiatives, CSI incidents, firm performance (Tobin’s q), and other variables. In Figure 2 (Panel A) we show
the pairwise correlation between a firm’s lagged CSR (i.e., t-1) and its current financial performance (i.e., t) as
well as the pairwise correlation between a firm’s CSR (i.e., t) and its lagged financial performance (i.e., t-1).
As can be seen, the correlation between lagged CSR and financial performance (solid line) is positive
from 1992 to 2002 and close to zero from 2003 to 2009. Thus, one might conclude that firms benefit
financially from CSR (i.e., that the data provides support for the good management mechanism) given the
positive correlation between the two constructs up until 2002. However, a look at the dotted line in Figure 2
(Panel A) reveals that the correlation between lagged financial performance (i.e., t-1) and CSR (i.e., t) looks
quite similar. Indeed, financial performance in t-1 is positively correlated with CSR from 1992 to 2005.
Therefore, based on this “evidence”, one might conclude that companies engage in CSR because they are
doing well financially (i.e., support for the slack resources mechanism).
[Insert Figure 2 about here]
Similarly, in Figure 2 (Panel B) we present the correlation between CSR and CSI. Specifically, the
solid line shows the pairwise correlations between a firm’s lagged CSR (i.e., t-1) and its CSI (i.e., t). As can be
5 Several studies have subtracted a firm’s CSI scores from the firm’s CSR scores to arrive at the firm’s (net) CSR score
(e.g., Waddock and Graves 1997; McWilliams and Siegel 2000; Hull and Rothenberg 2008; Servaes and Tamayo 2013).
However, such an approach assumes that CSR and CSI are equivalent and, e.g., that a good deed fully “writes off” a bad
deed, which is likely not the case.
10
seen, the correlation between lagged CSR and CSI (solid line) increases from .03 in 1993 to .43 in 2003, and
remains at around .40 until 2009. Further, the dotted line in Figure 2 (Panel B) shows the pairwise correlation
between CSR (i.e., t) and lagged CSI (i.e., t-1) and shows a very similar pattern. Thus, paradoxically, these
patterns suggest that firms increasingly tend to do both “good” and “bad”, and, it hence seems sensible to
examine which comes first – CSI or CSR? We note that the correlational analysis again does not shed much
light on whether CSR antecedes CSI or vice versa. The high correlation between CSI and CSR also
emphasizes the importance of including CSI as an additional variable in the CSR – firm performance
framework. Indeed, it is possible that the close to zero correlation between CSR and firm performance
starting around 2003 (as discussed above and shown in Figure 2, Panel A) can be explained by the high
correlation between CSR and CSI starting around that same time, i.e., that the prevalence of CSI canceled out
the otherwise positive performance effects of CSR.
We next develop an empirical model specification that allows us to test for the existence of the four
mechanisms simultaneously.
MODEL
Motivation
Our data is similar to extant CSR literature (e.g., Margolis et al. 2007), in that we have annual
information on CSR initiatives and CSI incidents. We believe that these initiatives and incidents are linked
together by the basic economic concept of firm efforts – where efforts are reflected in initiatives and
determine the incidents. Thus, it is important to provide microeconomic foundations for the relationship
between CSR and firm performance, as such a foundation helps develop “a better understanding of economic
activities and outcomes,” where for us activities relate to CSR and CSI and outcomes to firm performance
(Kreps 1990, p. 7). We thus develop a model based on economic theory (which is an exercise in spirit similar
to Hanssens and Ouyang 2001), which (1) builds on theory of the firm primitives (i.e., profits, sales, and
costs) to view the firm as maximizing net present profit and (2) uses optimal control theory to model the
costs associated with CSR. In the economic theory model we recognize how CSR and CSI influence sales and
costs and, as a result, the optimal solution involves a complex interplay among CSR, CSI, and firm
11
performance. The economic theory model also suggests that our empirical model specification should capture
the simultaneous interplay among CSR, CSI, and firm performance. For exposition purposes we provide
details on the economic theory model in Appendix A.
Model Development
As already mentioned earlier, we have annual panel data on firms, where we observe firm
performance (Tobin’s q) and the firms’ levels of CSR and CSI. Recognizing that we have panel data on a large
number of firms as well as a system of equations, and that we seek to model dynamics, we employ a panel
vector autoregression (PVAR) specification (e.g., Holtz-Eakin et al. 1988, Love and Zicchino 2006). Further,
as we have annual-level data, it seems reasonable to assume that there are contemporaneous effects among
some of the focal variables (i.e., CSR, CSI, and firm performance). Hence, we employ a structural PVAR
(SPVAR) specification where a vector of endogenous variables is linearly represented by its current and
lagged effects (e.g., Cooley and Dwyer 1998, Enders 2004). In particular, we specify the relationship among
CSR, CSI and firm performance through a system of three equations. The first equation assesses the effect of
prior CSR, prior CSI, and prior firm performance on current CSI. The second equation assesses the effect of
prior CSR, prior and current CSI, and prior firm performance on current CSR. Finally, the third equation
assesses the effect of prior and current CSR, prior and current CSI, and prior firm performance on current
firm performance. We note that we control for several other variables (e.g., ROA, firm size) that may also
have an impact on the three focal variables. In summary, the three equations form a system of equations that
allows us to understand the dynamic interplay among CSR, CSI and firm performance, and we estimate the
following SPVAR model:

𝑃 𝑃 𝑃 𝐶𝑆𝐼𝑖(𝑡−𝑝)
𝐶𝑆𝐼𝑖𝑡 𝜆11 𝜆12 𝜆13
(1) A × [ 𝐶𝑆𝑅𝑖𝑡 ] = ∑𝑃𝑝=1 [𝜆𝑃21 𝜆𝑃22 𝑃
𝜆23 ] [ 𝐶𝑆𝑅 𝑖(𝑡−𝑝) ]
𝑇𝑜𝑏𝑖𝑛′ 𝑠 𝑞𝑖𝑡 𝜆𝑃31 𝜆𝑃32 𝑃
𝜆33 𝑇𝑜𝑏𝑖𝑛 ′
𝑠 𝑞𝑖(𝑡−𝑝)
θ𝑐𝑜𝑛,𝐶𝑆𝐼 𝑋𝑖𝑡 + 𝜂𝐶𝑆𝐼,𝑖 + ΓCSI 𝐷 𝜑𝐶𝑆𝐼 𝑖𝑡

+[ θ𝑐𝑜𝑛,𝐶𝑆𝑅 𝑖𝑡𝑋 + 𝜂𝐶𝑆𝑅,𝑖 + ΓCSR 𝐷 ] +[ 𝜑𝐶𝑆𝑅 𝑖𝑡 ]
θ𝑐𝑜𝑛,𝑇𝑜𝑏𝑖𝑛′ 𝑠𝑞 𝑋𝑖𝑡 + 𝜂 𝑇𝑜𝑏𝑖𝑛′ 𝑠𝑞,𝑖 + Γ𝑇𝑜𝑏𝑖𝑛′ 𝑠𝑞 𝐷 𝜑 𝑇𝑜𝑏𝑖𝑛′ 𝑠 𝑞 𝑖𝑡
𝑃 𝜆11 𝜆12 𝜆13
= ∑ [𝜆𝑃21 𝜆𝑃22 𝑃
𝜆23 ] [ 𝐶𝑆𝑅 𝑖(𝑡−𝑝) ] + Θcon 𝑋𝑖𝑡 + Ηi + Γ𝐷 + 𝜑𝑖𝑡 ,
′
𝑝=1 𝜆𝑃
31 𝜆𝑃32 𝑃
𝜆33 𝑇𝑜𝑏𝑖𝑛 𝑠 𝑞𝑖(𝑡−𝑝)
12
1 0 0
where, A = [−𝛼21 1 0] and 𝑖 = 1,2, … , N is the firm index, 𝑡 ∈ {T0 , T1 , … , T} is the time period
−𝛼31 −𝛼32 1
index, 𝐶𝑆𝐼, 𝐶𝑆𝑅, and 𝑇𝑜𝑏𝑖𝑛′ 𝑠 𝑞 are the endogenous variables in the system, yit =
[𝐶𝑆𝐼𝑖𝑡 , 𝐶𝑆𝑅𝑖𝑡 , 𝑇𝑜𝑏𝑖𝑛′ 𝑠 𝑞𝑖𝑡 ]′ , A is the (3 × 3) matrix which indicates the contemporaneous relationships
among the endogenous variables, where 𝛼21 , 𝛼31 , and 𝛼32 represent the contemporaneous effect of CSI on
CSR, the contemporaneous effect of CSI on Tobin’s q, and the contemporaneous effect of CSR on Tobin’s
𝑃 𝑃 𝑃
𝜆11 𝜆12 𝜆13
𝑃
q, respectively, [𝜆21 𝑃 𝑃 are the coefficient matrices of the lags of the endogenous variables where
𝜆22 𝜆23 ]
𝜆𝑃31 𝜆𝑃32 𝜆𝑃33
𝑃 𝑃
𝜆12 , 𝜆13 , 𝜆𝑃21, and 𝜆𝑃31 (𝑝 = 1, … , 𝑃) are associated with the four mechanisms, i.e., slack resources, good
management, penance, and insurance mechanism, respectively, 𝑃 is the number of lags, 𝑋𝑖𝑡 is the (K × 1)
vector of the control variables for firm 𝑖 at time 𝑡 (i.e., ROA, log(employee), financial leverage, advertising-to-
sales, and R&D-to-sales), where K is the number of control variables, Θcon =

′
[θ𝑐𝑜𝑛,𝐶𝑆𝐼 , 𝜃𝑐𝑜𝑛,𝐶𝑆𝑅 , 𝜃𝑐𝑜𝑛,𝑇𝑜𝑏𝑖𝑛′𝑠𝑞 ] where θcon,. are the (1 × K) vector of coefficients of the control variables
′
for each equation, Ηi = [𝜂𝐶𝑆𝐼,𝑖 , 𝜂𝐶𝑆𝑅,𝑖 , 𝜂 𝑇𝑜𝑏𝑖𝑛′ 𝑠𝑞,𝑖 ] where 𝜂.,𝑖 is the unobserved firm-specific fixed effect for
firm 𝑖, D = [𝑑1991 , ⋯ , 𝑑2009 ]′ is the (T × 1) vector of year dummies where 𝑑𝑡 = 1 if year = 𝑡; 𝑑𝑡 =
0 𝑜𝑡ℎ𝑒𝑟𝑤𝑖𝑠𝑒, Γ = [ΓCSI , ΓCSR , Γ𝑇𝑜𝑏𝑖𝑛′ 𝑠𝑞 ]′ where Γ. is the (1 × T) vector of coefficients of the year-fixed
′
effect, T is the number of time periods, and 𝜑𝑖𝑡 = [𝜑𝐶𝑆𝐼 𝑖𝑡 , 𝜑𝐶𝑆𝑅 𝑖𝑡 , 𝜑𝑇𝑜𝑏𝑖𝑛′ 𝑠 𝑞 ] is the error term for the
𝑖𝑡
′
system of equations. Also the composite error term 𝜔𝑖𝑡 = [𝜔𝐶𝑆𝐼 𝑖𝑡 , 𝜔𝐶𝑆𝑅 𝑖𝑡 , 𝜔 𝑇𝑜𝑏𝑖𝑛′ 𝑠 𝑞 ] is expressed as the
𝑖𝑡
usual ‘fixed effect’ decomposition, where 𝜔𝑖𝑡 ≡ 𝐻𝑖 + 𝜑𝑖𝑡 .
Further, we assume that 𝜑𝑖𝑡 is independently and identically distributed across 𝑖 and 𝑡 with the
assumption that 𝐸(𝜑𝑖𝑡 |𝑦𝑖(𝑡−1) , … , 𝑦𝑖(𝑡−𝑝) ) = 0 𝑓𝑜𝑟 0 ≤ 𝑡 ≤ 𝑇 and, 𝐸(𝜑𝑖𝑡 𝜑𝑖𝑡 ′|𝑦𝑖(𝑡−1) , … , 𝑦𝑖(𝑡−𝑝) ) =
Σ , 𝑓𝑜𝑟 𝑖 = 𝑗 𝑎𝑛𝑑 𝑡 = 𝑠
{ 𝜑 } , 𝑓𝑜𝑟 0 ≤ 𝑡 ≤ 𝑠 ≤ 𝑇
0, 𝑜𝑡ℎ𝑒𝑟𝑤𝑖𝑠𝑒
13
where Σ𝜑 is a positive definite matrix.6
Contemporaneous Effects
Compared to the reduced-form PVAR specification, our SPVAR model is multiplied by the matrix A
to account for potential contemporaneous effects. We use theoretical elaboration, as suggested by Iyengar,
Van den Bulte, and Lee (2015), to identify the contemporaneous relationship among firm performance, CSR
and CSI. In particular, we assume that CSI has a contemporaneous effect on CSR (i.e., 𝛼21 ≠ 0) as at least
some firms should engage in CSR activities shortly after CSI occurred to attenuate negative consumer
responses (e.g., following its toy recall in late 2007, Mattel started testing every production batch of toys for
containing potentially dangerous levels of chemicals and toxins). However, we do not see any reasons why
CSI incidents should occur immediately after the firm engaged in CSR. Of note is also that firms often do not
time and/or have control over when CSI occurs. Oil spills, for example, almost always happen by accident,
and the likelihood of them occurring before or after CSR would hence be the same.
Further, we also assume that CSI has a contemporaneous effect on firm performance (i.e., 𝛼31 ≠ 0).
Indeed, firms’ stock prices often decrease after a significant CSI incident occurred (e.g., BP’s stock price
decreased after the oil spill in 2010; also see Flammer 2013). Yet, although firm performance might have a
longer-term effect on CSI (i.e., when firm performance keeps declining, firms might eventually take shortcuts
which could increase the likelihood of CSI occurring in the future) short-term firm performance should not
have a contemporaneous effect on CSI. Finally, we assume that CSR has a contemporaneous effect on firm
performance (i.e., 𝛼32 ≠ 0), but not vice versa. As shown by Chollet and Cellier’s (2011) event study, CSR
announcements can influence short-term firm performance. However, our discussions with numerous senior
executives suggest that firms evaluate and plan their CSR activities and goals annually (or even less
frequently). Hence, it is highly unlikely that they would change their CSR strategy based on short-term firm
performance. Moreover, as mentioned previously, we employ Tobin’s q to capture firm performance in this
6This assumption ensures that the equation-by-equation estimator (e.g., Arellano and Bond 1991; Blundell and Bond
1998) is asymptotically equivalent to the corresponding system-of-equations estimator of PVAR models (Cao and Sun
2011).
14
study. Considering that Tobin’s q is a market-based performance measure, any changes in CSR or CSI should
get captured by it contemporaneously.
We conducted a survey among twenty-five US-based senior executives to validate our identification
restrictions. The survey results provided strong support for our assumptions. For example, in support of the
contemporaneous effect from CSI to CSR, most executives confirmed that they would engage in CSR
immediately after CSI occurred because, in their opinion, stakeholders would want to see the company “make
things right again”. Moreover, in support of our argument that firm performance does not have a
contemporaneous effect on CSR, we asked the executives how often they change their CSR strategy. 80% of
the respondents reported that, unless CSI occurred, they change their CSR strategy “annually” or even less
frequent, and that short-term firm performance does not affect their firm’s CSR.
In summary, we let the matrix A be a lower triangle matrix since we believe there are no
contemporaneous effects on CSI from CSR and firm performance and on CSR from firm performance.
Thus, we use this recursive causal ordering to identify the structural parameters in the matrix A (please see the
Web Appendix for details regarding our estimation procedure).
DATA AND METHOD
KLD Social Ratings Database
We obtained corporate social performance data from the Kinder, Lydenberg, and Domini (KLD)
Social Ratings Database. This database has been widely used in the academic literature (e.g., Hull and
Rothenberg 2008; Kotchen and Moon 2012), and it provides annual data on firms’ performance in seven
social issue areas, including community, corporate governance, diversity, employee relations, environment,
human rights and product quality and safety. Further, the KLD database provides multiple indicators
regarding a firm’s strengths and concerns in each of the seven social issue areas. For instance, the community
area consists of eight strength indicators (e.g., charitable giving, support for housing, support for education)
and six concern indicators (e.g., investment controversies, negative economic impact). The KLD data begins
in 1991, and we used the complete KLD dataset up until 2009. We note that KLD substantially changed its
inventory of strength and concern indicators in 2010, making comparability to prior years very tenuous (e.g.,
15
Chin, Hambrick, and Treviño 2013).Hence, all firms for which KLD provides data for the time period
between 1991 and 2009 constituted our initial sample. In Table 2 we list all strength and concern indicators
across the seven issue areas. Overall, the database covers around 80 indicators.
[Insert Table 2 about here]
Consistent with Kotchen and Moon (2012), we consider all strength indicators as CSR and all
concern indicators as CSI of the firm. Further, the KLD database provides a yearly binary summary of a
firm’s strengths (i.e., CSR) and concerns (i.e., CSI) for each indicator belonging to the seven social issue areas.
For example, if a firm has consistently given over 1.5% of trailing three-year net earnings before taxes to
charity, then the “charitable giving” CSR indicator for the firm and year is coded as 1, otherwise 0. To
determine each firm’s CSR in a given year, we followed Kotchen and Moon’s (2012) approach and summed
up the firm’s scores of all “strength” items in and across all seven issue areas. We repeated the same
procedure to determine each firm’s CSI in a given year summing up the scores of all “concern” items in and
across all seven issue areas. Thus, for each year, we calculated two scores for each firm – one representing the
firm’s overall CSR and the other one its overall CSI. We note that this procedure places equal weight on each
item. Next, we created the standardized overall CSR and CSI scores for each firm and year: Z(CSR(I))it =
̅̅̅̅̅̅̅̅̅̅̅𝑡
𝐶𝑆𝑅(𝐼)𝑖𝑡 −𝐶𝑆𝑅(𝐼)
s.d.(CSR(I)t )
), where Z(CSR(I))it is the standardized CSR(I) score for firm 𝑖 and year 𝑡, 𝐶𝑆𝑅(𝐼)𝑖𝑡 is the
̅̅̅̅̅̅̅̅̅̅̅𝑡 is the average CSR(I) score in year 𝑡, and s. d. (CSR(I)t )

original CSR(I) score for firm 𝑖 and year 𝑡, 𝐶𝑆𝑅(𝐼)
is the standard deviation of CSR(I) score in year 𝑡.
Following recent CSR and CSI research (e.g., Kotchen and Moon 2012), we standardized the scores
for two reasons: First, some of the CSR and CSI items were added and/or removed over the years. Thus, the
total number of CSR and CSI items varies over time (as mentioned earlier, we include time fixed-effects in
our model specification which also controls for this change in items). For example, the support for education
(CSR) item, which is one of the strengths in the community area, exists only since 1994. Second, the number
of firms included in the KLD database also varies over time. For instance, the KLD database includes
approximately 650 firms from 1991 to 2000, approximately 1,100 firms from 2001 and 2002, and
16
approximately 3,100 firms from 2003 onwards. Hence, we used standardized CSR and CSI scores in our
analysis to minimize the effect of different samples sizes.
Financial Variables
We obtained financial performance data as well as control variables for as many of our initial sample
firms and years as possible using COMPUSTAT, our second data source. We selected Tobin’s q as our firm
performance measure because it is a market-based measure which reflects the investors’ long-term
expectation of the firm’s future earnings (Miller 2004). In contrast to short-term marketing efforts, such as
promotions, the financial benefits of CSR activities might only manifest over time. For example, Cox et al.
(2004) argue that improved corporate social performance should lead to significant financial gains only in the
long run. Hence, compared to accounting-based financial performance measures such as return on asset
(ROA) or return on equity (ROE) which only capture short-term performance, Tobin’s q is a more
appropriate financial performance measure to understand the benefits as well as potential costs of a firm’s
social performance (see Germann, Ebbes, and Grewal 2015). We calculated Tobin’s q using the method
proposed by Chung and Pruitt (1994).
Control Variables
It is important to account for firm-, industry-, and economy-specific variables, because the market
valuation of a firm (Tobin’s q) can depend on these factors (e.g., Lee and Grewal 2004). To account for firm-
specific variables, we include financial leverage, ROA, and firm size as control variables. Financial leverage
should be negatively related with Tobin’s q, ROA, which reflects current period profitability, should be
positively related with Tobin’s q, and firm size should be negatively related with Tobin's q (Jayachandran,
Kalaignanam, and Eilert 2013). Moreover, we also include R&D intensity (i.e., the ratio of R&D to sales) as a
control variable because extant research has shown that product innovations positively impact Tobin’s q (e.g.,
Sorescu and Spanjol 2008) as well as a firm’s CSR strategy (Luo and Bhattacharya 2009). We also control for
advertising intensity (i.e., the ratio of advertising to sales) because advertising intensity is known to, on the
one hand, positively impact sales and brand equity and thus Tobin’s q (e.g., Sethuraman, Tellis, and Briesch
2011; Sorescu and Spanjol 2008; Sridhar, Narayanan, and Srinivasan 2014), and, on the other hand, impact
17
the firm’s CSR strategy (Luo and Bhattacharya 2009). Finally, as already mentioned earlier, we include firm
and time fixed-effects in our model specification to tease out industry idiosyncrasies (including those that
might impact Tobin’s q calculations) with firm fixed-effects and boom and bust periods with time fixed-
effects.
Our final sample, which is an unbalanced panel with time gaps, consists of approximately 4,500
firms, 24,500 data points, and data from 1991 to 2009 after removing several outliers whose Tobin’s q is
greater than 15. In addition, our sample firms are publically traded firms from a wide range of industries. We
present the descriptive statistics in Table 3.
Data Analysis Approach
We performed our analysis as follows: First, we tested for stationarity and unit roots. Second, we
estimated the dynamic panel GMM model using the Blundell and Bond estimator. Third, we applied these
estimators to each equation in the reduced-form PVAR system and recovered the contemporaneous effects
based on the identification restrictions. Finally, we estimated the dynamics of the carryover effects (over time)
using generalized impulse response functions.
Stationarity in time series. To ensure that our analysis does not produce spurious results, we used the
Augmented Dickey-Fuller test (ADF; Dickey and Fuller 1979) to examine stationarity and unit root for each
time series to determine whether the underlying data generation process of each variable is evolving over time
or is stationary (Granger and Newbold 1974). We note that since we have unbalanced panel data with time
gaps, the Im-Pesaran-Shin (2003) unit root test, which has been widely used to test individual unit root
processes, cannot be used. We also note that we tested stationarity after first-differencing as our model
estimation is based on the first-difference.
Impulse response functions. To examine the dynamic effect of one endogenous variable on another, we
used impulse response functions (IRFs). Generalized IRFs (Dekimpe and Hanssens 1999; Pesaran and Shin
1998) trace the effect that a one unit (e.g., one standard deviation) shock to one variable in the system has on
another variable over subsequent time periods while holding all other variables’ shocks equal to zero. We
18
derived the generalized orthogonal IRFs by using the panel GMM estimates and the variance-covariance
̂𝜐 ).7 Further, we used Monte Carlo simulation to obtain upper and

matrix of the reduced-form residual (Σ
lower 95% confidence bands (see Doan 1992).
RESULTS
We present the results in the following order: (1) unit root tests, (2) SPVAR estimates, and (3) IRF
results, and follow this with a post-hoc analysis.
Stationarity and Unit Root Tests
As we show in Table 4, the null hypothesis of unit root is rejected for all three variables of interest.
Further, ADF test statistics of the first-differenced CSI, CSR and Tobin’s q variables are -74.937, -97.229, and
-50.413, respectively (p < .05); thus, our focal variables are first-difference stationary.
Model Estimation and Optimal Lags Selection
In the first step of our two-step estimation procedure (see Web Appendix), we estimated a reduced-
form VAR model using the Blundell and Bond estimator. We first determined the optimal number of lags 𝑝,
where, consistent with research on dynamic panel data models (e.g., Huang et al. 2008), we use the mj statistic
(where j stands for the order of autocorrelation) suggested by Arellano and Bond (1991). The idea behind the
mj statistic is that the residual from the dynamic panel data model should be free of serial autocorrelation.
Doornik et al. (2006) propose that if the error term υit is not serially correlated, there would be significant
and negative first order serial correlation in the differenced residuals (i.e., 𝜐̂ 𝑖(𝑡−1) ) and no significant
𝑖𝑡 − 𝜐̂
second order serial correlation. Thus, we examined the m1 and m2 statistic and obtain the optimal number of
lags when the m1 statistic is negative and statistically significant and the m2 statistic is not statistically
significant. Table 6 (AB Test rows) illustrates the first and second order serial autocorrelation results. In the
equation in which CSI is the dependent variable, the m1 statistic is negative and statistically significant (m1 = -
7 We derived the impulse response functions based on the variance-covariance matrix of the reduced-form residual (Σ ̂𝜐 )
̂
rather than the structural-form residual (Σ𝜑 ) because this approach allows us to relax the need to impose a recursive
ordering (Dekimpe and Hanssens 1999).
19
3.21) while the m2 statistic is not significant at the .05 level (m2 = -1.72) when the number of lags specified is
2. Similarly, in the equation in which CSR is the dependent variable, a two lags specification satisfies the
criterion suggested by Arellano and Bond (1991) (m1 = -2.35 and m2 = -.94) at the .05 significance level. The
two lags specification in the equation in which Tobin’s q is the dependent variable is also sufficient to remove
the serial autocorrelation in the residual (m1 =-4.80 and m2 =.29). Thus, the optimal lag length for our
dynamic panel data model is two.
In the second step of our two-step process, we estimated the contemporaneous effects from the
variance-covariance matrix of residuals from the reduced-form PVAR model. The results in Table 5 suggest
that as the level of CSI increases, the level of CSR increases (α21 = 1.522, p < .05 ); thus, it seems that firms
increase the level of CSR engagement reactively to cope with their current CSI practices. This result suggests
that the penance mechanism holds contemporaneously. Further, the level of CSR has a positive impact on
firm performance ( α32 = .395, p < .05) which suggests doing “good” leads to doing “well” immediately in
support of the good management mechanism. The contemporaneous effect of CSI on firm performance is
negative, which suggests the current level of CSI practices decreases firm performance ( 𝛼31 = −.962, 𝑝 < .05).
We present the estimation results from the reduced-form PVAR model with a two lags specification
in Table 6. We test the validity of the instruments using the Hansen (1982) test of over-identifying
restrictions. The null hypothesis that instruments are over-identified is not rejected for all three estimations.
Yet, it is difficult to understand the effect of one endogenous variable on another variable by examining the
estimates in Table 6. Instead, to understand the dynamic effect of the independent variables on the dependent
variable, we need to investigate IRFs which take into account the dynamic interplay among the variables.
Impulse Response Functions (IRFs)
As we are interested in testing the four mechanisms, i.e., whether and how doing “good” and doing
“well” converge, we focus on the relationship between CSR and CSI and the relationship between CSR and
firm performance for generating IRFs. In Figure 3, we present the graphs of the IRFs for these two
20
relationships along with the 95% confidence bands generated by the Monte Carlo simulation. In Panel A of
Figure 3 we show the relationship between CSR and firm performance, where in Graph 1 of Panel A we
show the response of firm performance to a CSR shock. In support of the good management mechanism,
Graph 1 shows that CSR influences firm performance positively in the short run (.75% increase) and that this
positive effect fades away after about a year. Further, in Graph 2 we show that a shock to Tobin’s q does not
seem to have a positive impact on CSR. Hence, the slack resources mechanism is not supported.
In Panel B of Figure 3 we depict the relationship between CSR and CSI. As Graph 1 in Panel B
shows, CSR does not have a positive effect on CSI. Thus, the insurance mechanism which suggests that CSR
antecedes CSI in a positive manner is not supported. This result implies that an increase in a firm’s CSR effort
does not lead to an increase in the level of future CSI. Further, in support of the penance mechanism, in
Graph 2 in Panel B we show that there is a positive impact of CSI on CSR that lasts for about 1 year.
In summary, our results provide empirical support for the good management and penance
mechanisms. In contrast, our results do not support the slack resources and insurance mechanisms. We
elaborate on these findings in the discussion section.
Post-hoc Analysis: Is CSR a Potent Penance Mechanism?
Given that our empirical results suggest that firms tend to engage in the penance mechanism, we
next sought to investigate whether the penance mechanism actually makes amends for firms’ past CSI. To
that end, we first investigated the performance implications of CSI using IRFs. The black line in Figure 4
shows the response of firm performance to a CSI shock. As one would expect, CSI has a negative influence
on firm performance.
To examine the effectiveness of the penance mechanism, we next estimated a restricted (as opposed
to an unrestricted) IRF, i.e., we estimated the effect of CSI on firm performance without allowing CSR to have
an impact on either CSI or performance. While (unrestricted) IRFs examine the effect of one variable on the
full dynamic system, restricted impulse response functions pose a restriction on a subset of the endogenous
21
variables and thus allow researchers to investigate the effect of one variable on the partial dynamic system
(see Pauwels (2004) for technical details).8
The gray line in Figure 4 illustrates the effect of CSI on firm performance under the dynamic system
without CSR. Of note is that the largest negative effect of CSI on firm performance is the same in the
restricted as well as the unrestricted estimation (i.e., -.338 at year 0). In addition, the negative effect of CSI on
firm performance fades away between year 1 and 2, regardless of whether the firms’ CSR is considered in the
dynamic system or not. These findings suggest that CSR does not shield from or attenuate the negative
performance implications of CSI. Thus, while firms seem to strategically use CSR to compensate for past CSI
(i.e., engage in the penance mechanism), the effort seems fruitless from a firm performance perspective.
DISCUSSION
To address the questions of whether and how CSR relates to firm performance, we seek to
simultaneously model four mechanisms that have been proposed in the literature: slack resources, good
management, penance, and insurance. Given the identified mechanisms and the KLD and performance data
available, we propose a SPVAR empirical specification to empirically model the interplay among CSR, CSI,
and firm performance, and to simultaneously test for the four mechanisms. We now discuss the theoretical
and managerial contributions and implications of our research.
Theoretical Contributions
The literature on why firms engage in CSR is quite scattered. We summarize the varying propositions
and integrate them into four mechanisms, and we test and model these four mechanisms simultaneously.
Existing literature (e.g., Kotchen and Moon 2012; Luo and Bhattacharya 2006; Margolis et al. 2007) has
studied and modeled only one or at best two mechanisms simultaneously; such an approach, however, is
cumbersome as it does not permit addressing concomitant effects among the four mechanisms resulting in
either a partial picture or even false statistical findings. As our model-free evidence showed, CSR and CSI are
8 The use of restricted IRFs might be subject to Lucas’ (1976) critique (e.g., Franses 2005; van Heerde, Dekimpe, and
Putsis 2005), as the restriction changes the underlying data generation process by putting an (arbitrary) assumption on
the data generation process. Cognizant of this critique, we want to emphasize that we use restricted IRFs in addition to
generalized IRFs.
22
(paradoxically) fairly highly correlated (r ≈ .4) starting around the year 2003, indicating that omitting CSI from
the CSR-firm performance link might yield misleading findings. Thus, we separate CSI from CSR, and, more
importantly, integrate the CSI construct into the CSR-financial performance framework. As should be
evident, separating CSI from the CSR construct is meaningful because failure to do so can effectively cancel
out important granularities in the data. We note that many past studies have simply averaged a firm’s CSR and
CSI scores into one overall CSR score (e.g., Waddock and Graves 1997; McWilliams and Siegel 2000; Hull
and Rothenberg 2008). However, such an approach assumes that one bad deed (i.e., CSI) effectively cancels
out one good deed (i.e., CSR; and vice versa), which is highly questionable.
Our modeling approach, new to the CSR literature, offers several advantages. As already mentioned
above, we model the four mechanisms simultaneously thus allowing for the possibility of finding evidence for
each of the mechanisms and correcting for the possibility of any statistical simultaneity bias. Also, we use the
SPVAR model for a large number of firms (around 4,500) up to a period of 19 years. Thus, the SPVAR
specification enables us to benefit from the time series and panel nature of our data and get as close to
causality as possible with non-experimental data. With stationary, time series data we can account for
simultaneity, one source of identification issue, by simultaneously modeling CSR, CSI, and firm performance
and also mitigate deleterious effects from temporal aggregation (as we have annual data) by including
contemporaneous effects (which lead to the structural VAR specification; e.g., Demiralp and Hoover 2003).
The panel nature of our data also enables us to include firm-specific fixed-effects to account for unobserved
heterogeneity, and the Blundell and Bond (1998) estimator, which we adapt, uses lagged values and change in
lagged values for endogenous variables as instruments to identify the causal effects. Thus, we do establish
near causality for the influence of CSR (and CSI) on firm performance. In the process, we provide insights
for Margolis et al.’s (2007, p. 4) assertion that “if only doing “good” could be connected to doing “well”, then
companies might be persuaded to act more conscientiously.” Specifically, we provide empirical evidence that
CSR investments have a positive impact on firm performance. We consider this a highly noteworthy finding
given, on the one hand, the rigorous methods we use and, on the other hand, the ongoing, complex debate
about whether doing good implies doing well.
23
Managerial Implications
We summarize the managerial implications of our research in Table 7. Foremost, our finding that
“doing good” leads to “doing well” should be of particular relevance to managers. Hopefully it will encourage
managers and their respective firms to act more conscientiously. Moreover, our study also shows that CSI has
a significant negative effect on firm performance. Although not necessarily surprising, aside from event studies
(e.g., Chen et al. 2009; Flammer 2013), there is little empirical evidence that demonstrates the negative
performance effects of CSI using a largescale dataset as we do here.
To further assess the negative impact of CSI on firm performance, we estimated a two-variable
SPVAR model including only CSR and Tobin’s q, and excluding CSI. The resulting positive performance
effects of CSR were roughly four-times larger when not considering CSI in the system (we present the results
in Figure WA1 in the Web Appendix). On the one hand, this finding illustrates that not including all three
variables in the system results in significantly biased estimates, in support of our integrated approach. On the
other hand, this result also suggests that firms without CSI incidents might see a significantly greater
performance boost from their CSR investments than what the (average) positive effect of our three-variable
SPVAR indicates.
Increasingly, however, firms appear to engage in both CSR and CSI, i.e., as mentioned above,
increasingly firms do both “good” and “bad”. Indeed, Figure 2 (Panel B) shows that the correlation between
firms’ CSR and CSI has increased significantly since the year 2000. So the question becomes: How do CSR
and CSI converge? Our integrated analysis of the four mechanisms allows us to shed light on that question.
Specifically, our model results indicate that many firms ramp up their CSR shortly after a CSI incident
occurred. While we can only speculate, we conjecture that recent consumer trends, and in particular
consumers wanting firms to be better corporate citizens (e.g., Ipsos 2013), have significantly contributed to
the increase in correlation between CSR and CSI. This consumer trend is further revealed in the media
attention CSR has received over the years. We searched through Factiva and, considering the years 1979 –
2014, counted the number of newspaper articles that referenced the term “CSR” in each year. As depicted in
24
Figure WA2 in the Web Appendix, the results revealed that there has been a significant increase in the
number of articles on CSR over the years. Moreover, the number of CSR-related articles has increased
exponentially since the year 2000, i.e., when the correlation between CSR and CSI started increasing as well.
Hence, firms might engage in CSR following CSI in an effort to make amends for their past missteps thereby
hoping to appease their stakeholders. However, because we simultaneously model CSR, CSI, and firm
performance, and based on the results from our restricted IRF, our results indicate that using CSR for
penance reasons does not pay off financially.
A few potential explanations for the ineffectiveness of the penance mechanism come to mind.
Perhaps stakeholders interpret firms’ CSR efforts following CSI as unauthentic or even as deceitful, seeking
to “greenwash” their past mistakes. Furthermore, when firms engage in CSR to make amends for past CSI,
perhaps stakeholders view those efforts as a sign that the CSI is more severe than they had initially thought.
Such an interpretation would be consistent with Chen et al. (2009) who show that when product recalls occur,
proactive recall strategies result in more severe negative stock market responses than reactive ones. Future
research should investigate these conjectures.
Rather than following CSI with CSR, firms might be better advised to use CSR to build a reservoir of
goodwill to insure against CSI if and when it happens. Indeed, Flammer (2013) shows that the negative stock-
market reactions to eco-harmful events are smaller for companies with higher levels of previous
environmental CSR. Similarly, Godfrey, Merrill, and Hansen’s (2009) research suggests that CSR leads to
positive attributions from stakeholders who then temper their negative judgments and sanctions towards
firms when CSI occurs because of the accrued goodwill (also see Minor and Morgan 2011). Yet, our results
indicate that most firms do not employ CSR in this manner. That is, we do not find empirical support for the
insurance mechanism. Instead, firms that engage in both CSR and CSI tend to invest in CSR after CSI
occurred. Perhaps our findings pertaining to the ineffectiveness of the penance mechanisms coupled with
those of Flammer (2013) and Godfrey, Merrill, and Hansen (2009) and others will encourage firms to
consider CSR as a form of insurance in the future. A word of caution, however, seems warranted: While CSR
might insure a firm against relatively harmless (future) CSI, it might act as a liability if severe CSI occurs.
25
Indeed, Germann et al. (2014) find that high levels of brand commitment attenuate negative consumer
responses in low-severity product recalls but augment them in high-severity product recalls. Correspondingly,
while a reputation for CSR might provide a reservoir of goodwill against non-severe CSI, it might increase
scrutiny, akin to a contrast effect, if severe CSI occurs. We hope that future research will examine this
proposition.
Finally, we show that the slack resources mechanism is not active. In fact, our results indicate that
slack resources might actually lead to a decrease in CSR, although not until a few years later. Post-hoc
interviews with eleven executives shed at least some light on this somewhat puzzling finding: In a nutshell, all
executives acknowledged that when their firms’ performance increases suddenly, they will generally not
increase their “non-business-related” investments (e.g., CSR) in an effort to not jeopardize the pending
lucrative annual compensation (e.g., high boni due to the strong performance). Future research should further
investigate this potential explanation.
In summary, our model results indicate that there are two types of firms that pursue CSR. On the
one hand, there are firms that invest in CSR not because they are doing well financially but (we speculate)
because they believe that it is the “right” thing to do. While these companies might engage in CSR for
seemingly altruistic reasons, they can expect to see significant financial returns from their CSR investments.
On the other hand, there appear to be firms that engage in CSR to make amends for their past CSI. Yet,
these firms likely see little if any positive effects from their CSR investments.
Limitations
While we believe that we have broken some new ground with this research, there are clear
limitations, some of which might provide fruitful avenues for future research. For example, a potential
limitation that we must acknowledge is the CSR and CSI data that we employ. Although the KLD data has
been used extensively in existing research, the CSR and CSI measures are based on somewhat subjective
rather than objective evaluations. Future research should try to replicate our findings using different CSR and
CSI data. Unfortunately, as we write this, we are not aware of a source that could provide such data (other
than KLD, of course).
26
Further, although we believe that the identification restrictions we imposed to estimate the SPVAR
model are sensible, we need to acknowledge that our results are sensitive to them (e.g., Uhlig 2005).
Moreover, we ignore normative issues, such as the question of whether ethical behavior has value regardless
of the financial payoff. Correspondingly, we do not reference the large normative literature on corporate
ethics and social responsibility. Also, we treat all CSR and CSI as equally “good” and “bad”. However,
treating, for example, a substantially underfunded defined pension plan the same way as a deep water oil spill
is likely a stretch. Future research should develop a way to classify the various CSI captured in the KLD data
in terms of their severity.
Conclusion
Scholars have scrutinized the conception that companies do “well” by doing “good” for decades
(e.g., McWilliams et al. 2006). However, debates on whether and how doing “good” and doing “well” converge
continue to rage (e.g., Mackey et al. 2007). While our study might not resolve the ongoing, complex debates,
we believe that our selection of the four mechanisms and the three-way fit among those mechanisms, the
KLD data, and our chosen methods and analyses, sheds new light on an old problem. We hope that our
research helps firms make better CSR decisions, and that it also encourages academics to further explore the
performance implications of CSR.
27
Appendix A
Economic Theory Model
Overview
We suggest that firms seek to maximize the present value of their future profits where these profits
depend on sales and costs. We also suggest that efforts related to CSR and CSI avoidance9 influence sales and
that there are costs associated with these efforts. Costs associated with CSR are the direct costs the firm
expends on CSR efforts such as donating to a charitable cause (e.g., Coca Cola donating bottled water during
hurricane Katrina). It is important to note that the costs of CSR efforts are private information for the firm,
while the outcomes are publically observed; however, efforts should drive observed outcomes. Thus, our
economic theory model focuses on CSR efforts and our empirical model on observed CSR; the link between
the two should be apparent. Similar to CSR, costs associated with CSI avoidance efforts are also direct costs
(e.g., Exxon Mobil reinforcing the hulls of its crude oil transportation ships to reduce the probability of oil
leaks when accidents occur). Further, here again CSI avoidance efforts are private information for the firm
while level of CSI is publically observed. Nonetheless, CSI avoidance efforts should relate directly (and
negatively) to CSI incidents and thus, the link between the economic theory model that focuses on CSI
avoidance efforts and the empirical model that focuses on CSI incidents is similar to that for CSR. The
distinction between CSR efforts and CSI avoidance efforts is in the outcomes; while CSR efforts seek to do
good, CSI avoidance efforts seek to avoid the bad. For our CSR-CSI context, we model the costs associated
through the expected loss and buffering effects of CSR efforts and CSI avoidance efforts.
As we conclude, the solution to the economic theory model should have a structure where optimal
CSR efforts are a function of CSI avoidance efforts and sales, and, in turn, where optimal CSI avoidance efforts
depend on CSR efforts and sales. Recognizing that firm values depend on these two efforts, we can conclude
that an empirical model to study CSR, CSI, and firm value should incorporate the dynamic interplay among
CSR, CSI, and firm value.
Economic Model
9We include what we refer to as CSI avoidance efforts in our economic theory model to capture the costs associated
with avoiding CSI.
28
We rely on the basic economic notion that firms seek to maximize utilities and profits to develop a
theoretical model for the effect of CSR and CSI; specifically, we use primitives from theory of the firm (e.g.,
Becker 2007, Chapter 5). Within the theory of the firm framework, profit maximizing can be subsumed
within utility maximization, such that a “firm may act as if it maximized a utility function that depends not
only on its profits, but also on color, sex, and family background of employees” i.e., CSR and CSI (Becker
2007, p. 70); thus, we focus on long-term profit maximization. In this framework, we define profits (π) at a
given time t as:
(A1) 𝜋𝑡 = ℝ𝑡 − ℂ𝑡 ,
where, ℝ and ℂ represent revenues and costs, respectively.
With the profit function described in equation A1, we seek to develop a dynamic optimization
problem for a firm where the firm chooses an optimal level of efforts for CSR and efforts to avoid CSI. To
lay out this specification we represent revenues as (where × is the product operator): ℝ𝑡 = 𝑚 × 𝑆𝑡 (e.g., Naik
and Raman 2003), where m represents the margins that account for all expenses other than those associated
with CSR and CSI and 𝑆𝑡 is the sales at time t; thus ℂ𝑡 can be seen as the costs associated with CSR and CSI.
If ρ represents the discount rate and 𝑟𝑡 and 𝑖𝑡 CSR efforts and efforts to avoid CSI respectively, ∀ 𝑡 ∈
[0, ∞), then the firms net present value of its current and future profits (Ψ) can be given as:
∞ ∞ ∞
(A2) Ψ(𝑟, 𝑖) = ∫0 𝑒 −𝜌𝑡 × 𝜋𝑡 𝑑𝑡 = ∫0 𝑒 −𝜌𝑡 × (ℝ𝑡 − ℂ𝑡 ) 𝑑𝑡 = ∫0 𝑒 −𝜌𝑡 × (𝑚 × 𝑆𝑡 − ℂ𝑡 ) 𝑑𝑡
Equation A2 represents continuous time infinite horizon profit flows and, as is common in this
literature (e.g., Rao 1986), we will not index variables by t to facilitate reading. As is typical in dynamic
optimization (e.g., Kamien and Schwartz 1991; Sethi and Thompson 2006), we seek to maximize equation A2
subject to constraints that emanate due to the dynamic response function of sales 𝑆; that is:
∞
(A3a) max ∫ 𝑒 −𝜌𝑡 × (𝑚 × 𝑆 − ℂ(𝑟, 𝑖)) dt
𝑟≥0,𝑖≥0 0
subject to:
𝑑𝑆
(A3b) 𝑑𝑡
= 𝑔𝑆 (𝑆, 𝑟, 𝑖)
where, 𝑔𝑆 (. ) is an appropriate dynamic response function for sales.
29
In the parlance of optimal control theory (e.g., Kamien and Schwartz 1991), S represents the state
variable and r and i are the control variables (i.e., variables that firms make decisions on). To maximize the
system in equation A3, we define the Hamiltonian ℋ(𝑟, 𝑖, 𝜇) as:
(A4) ℋ(𝑟, 𝑖, 𝜇) = (𝑚 × 𝑆 − ℂ(𝑟, 𝑖)) + 𝜇 × (𝑔𝑆 (𝑆, 𝑟, 𝑖))
where, 𝜇 is the costate variable.
At optimality, the necessary conditions, which are sufficient when ℋ is concave in 𝑟 and 𝑖, are (e.g.,
Kamien and Schwartz 1991):
𝜕ℋ 𝜕ℋ 𝑑𝜇 𝜕ℋ
(A5) = 0; = 0; 𝑎𝑛𝑑 =𝜌×𝜇− =0
𝜕𝑟 𝜕𝑖 𝑑𝑡 𝜕𝑆
With this dynamic CSR decision problem in place, we now seek to develop the specification for cost
𝑑𝑆
ℂ(𝑟, 𝑖) and evolution of sales as specified in = 𝑔𝑆 (𝑆, 𝑟, 𝑖).
𝑑𝑡
Cost Function Specification
There are three components for the CSR relevant costs that we need to consider. First we need to
consider the direct costs associated with CSR efforts r. Firms exert such efforts to promote social causes; for
example, for every pair of shoes that TOMS sells, it donates one to a child in need (known as the “one for
one” model). Thus, we use the function 𝑔𝑅 (𝑟) to represent these costs, where 𝑔𝑅 (. ) is a typical continuous
twice differentiable indirect cost function that satisfies properties of cost functions (e.g., Kreps 1990, p. 251-
253). As costs typically increase with efforts and are convex, a popular form for costs is quadratic (e.g., Naik
1
and Raman 2003), such that one could specify 𝑔𝑅 (𝑟) = 2 𝑟 2 .
Second, similar to CSR efforts r, one needs to consider costs associated with direct CSI avoidance
efforts i. Firms exert these CSI avoidance efforts to reduce the probability of CSI incidents. For example,
accidents during the transportation of crude oil are imminent; thus, oil firms such as Exxon Mobil reinforce
the hulls of their transportation ships to reduce the probability of oil leaks when such accidents occur. Thus,
CSR efforts represent doing social good, while CSI avoidance efforts serve to reduce harm from CSI
incidents. Similar to CSR efforts, we use the function 𝑔𝐼 (𝑖) to represent costs associated with CSI avoidance
1
efforts. Again, a quadratic functional form can be used for such costs, i.e., 𝑔𝐼 (𝑖) = 𝑖 2 .
2
30
Third, we need to consider the costs that firms can expect to incur when CSI incidents occur;
examples of such incidents include oil spills as in the case of BP or unforeseen product harm crises. As CSI is
associated with incidents, we model the costs associated through expected loss 𝕀 and the buffering effects of
CSR and CSI avoidance efforts. Expected loss 𝕀 can be seen as a firm-specific typical or average loss
associated with a CSI incident; for example, for a firm in a particular business, 𝕀 could represent the average
over the last 10 years. To specify these buffering effects we recognize that the buffering effects should
increase as efforts increase and there should be some difference in the buffering between CSR efforts and
CSI avoidance efforts. Thus, we specify the costs due to such incidents as: 𝑔𝕀 (𝑟, 𝑖) = 𝕀 × 𝑒 −𝜃×(𝑟+𝜆×𝑖) , where
𝜃, 𝜆 ∈ [0, ∞). As efforts r and i are positive and θ and λ are positive, the expression “𝜃 × (𝑟 + 𝜆 × 𝑖)” is
positive and thus as efforts increase, 𝑒 −(𝑟+𝜆×𝑖) → 0; thus efforts reduce the costs associated with CSI
incidents. Further, θ instruments the nature of the buffering effect of efforts; 𝜃 = 1 implies that the level of
CSR efforts proportionally reduce expected loss; 𝜃 < 1, implies that the translation of efforts for expected
loss is lower than when 𝜃 = 1; 𝜃 > 1 implies an amplification of efforts such that the translation of efforts is
higher than 𝜃 = 1. λ ensures that the effects of CSR efforts r are different from those of CSI avoidance
efforts i. If λ is less than 1, then CSR efforts buffer more than CSI avoidance efforts; if λ is equal to 1, then
both efforts buffer equally; and if λ is greater than 1, then CSI avoidance efforts buffer more than CSR
efforts.
With the above discussion, we can write the costs as:

1 1
(A6) ℂ(𝑟, 𝑖) = 𝑔𝑅 (𝑟) + 𝑔𝐼 (𝑖) + 𝑔𝕀 (𝑟, 𝑖) = 2 𝑟 2 + 2 𝑖 2 + 𝕀 × 𝑒 −𝜃×(𝑟+𝜆×𝑖)
Sales Function Specification
As is typical in optimal control applications in marketing, we need to specify the evolution of the
sales function S (e.g., Naik and Raman 2003), which serves as a constraint in the Hamiltonian specification
(equation A3b). Thus, now we elaborate on the functional form of 𝑔𝑆 (𝑆, 𝑟, 𝑖). We recognize that change in
𝑑𝑆
sales ( ) should be a function of CSR efforts and CSI avoidance efforts and the level of sales (i.e., consistent
𝑑𝑡
with extant research, we do expect persistence in sales; e.g., Sridhar et al. 2011). Further, it is reasonable to
31
expect that the efficacy of CSR efforts and CSI avoidance efforts depends on the level of sales. For example,
larger firms (i.e., firms that have higher sales) tend to be better known, and better known firms tend to get
scrutinized, i.e., condemned, more often by the media than smaller firms (e.g., Brooks et al.2003). Thus, it
seems reasonable to assume that larger firms’ CSR efforts and CSI avoidance efforts also receive greater
𝑑𝑆
scrutiny by the media. Hence, in our specification for 𝑑𝑡 , we include the interaction between CSR efforts and
sales and CSI avoidance efforts and sales, i.e.,:
𝑑𝑆
(A7) 𝑑𝑡
= 𝑔𝑆 (𝑆, 𝑟, 𝑖) = 𝛽𝑟 × 𝑟 + 𝛽𝑖 × 𝑖 + 𝛽𝑆 × 𝑆 + 𝛽𝑟𝑆 × 𝑟 × 𝑆 + 𝛽𝑖𝑆 × 𝑖 × 𝑆
Profit Maximization
Optimal efforts for CSR and CSI avoidance , i.e., r and i respectively, can be obtained by maximizing
infinite horizon profits, i.e., firm value given in equation A2. To maximize firm value in equation A2, the cost
function and evolution of sales function in equations A6 and A7 are substituted into the Hamiltonian in
equation A4, which gives us:
(A8) ℋ(𝑟, 𝑖, 𝜇) = (𝑚 × 𝑆 − ℂ(𝑟, 𝑖)) + 𝜇 × (𝑔𝑆 (𝑆, 𝑟, 𝑖)) = 𝑚 × 𝑆 − (𝑔𝑅 (𝑟) + 𝑔𝐼 (𝑖) + 𝑔𝕀 (𝑟, 𝑖)) + 𝜇 ×
1 1
(𝑔𝑆 (𝑆, 𝑟, 𝑖)) = 𝑚 × 𝑆 − ( 𝑟 2 + 𝑖 2 + 𝕀 × 𝑒 −𝜃×(𝑟+𝜆×𝑖) ) + 𝜇 × (𝛽𝑟 × 𝑟 + 𝛽𝑖 × 𝑖 + 𝛽𝑆 × 𝑆 + 𝛽𝑟𝑆 × 𝑟 ×
2 2
𝑆 + 𝛽𝑖𝑆 × 𝑖 × 𝑆)
With the Hamiltonian in equation A8, the first order conditions would be:
𝜕ℋ
(A9a) = −𝑟 + 𝕀 × 𝜃 × 𝑒 −𝜃×(𝑟+𝜆×𝑖) + 𝜇 × (𝛽𝑟 + 𝛽𝑟𝑆 × 𝑆) = 0
𝜕𝑟
𝜕ℋ
(A9b) 𝜕𝑖
= −𝑖 + 𝕀 × 𝜃 × 𝜆 × 𝑒 −𝜃×(𝑟+𝜆×𝑖) + 𝜇 × (𝛽𝑖 + 𝛽𝑖𝑆 × 𝑆) = 0
𝑑𝜇 𝜕ℋ
(A9c) 𝑑𝑡
=𝜌×𝜇− 𝜕𝑆
= −𝑚 − 𝜇 × (𝜌 + 𝛽𝑆 + 𝛽𝑟𝑆 × 𝑟 + 𝛽𝑖𝑆 × 𝑖)
In theory one could solve equations A9a and A9b for efforts r and i as functions of other parameters
including the costate variable 𝜇. However, due to the presence of the exponent (with both r and i in the
exponent), these equations are referred to as transcendental equations that require the use of the Lambert W
function and thus, numerical methods to solve them (e.g., Hayes 2005). To solve for 𝜇 one has to use the
32
𝑑𝑆
transversality conditions obtained from steady-state conditions on state and costate variables, i.e., 𝑑𝑡 = 0 and
𝑑𝜇
𝑑𝑡
= 0 respectively.10
Although we cannot derive the analytic solution from equations A9a-c, based on optimal control
theory literature (e.g., Naik, Raman, and Winer 2005), we can speculate on the structure of the possible
solution. For example, the solution for optimal CSR efforts r* from equation A9a would suggest these
optimal efforts are a function of CSI avoidance efforts i and sales S. A similar conclusion can be reached for
optimal CSI avoidance efforts i*. Further, recognizing that firm values depend on these two efforts, we can
conclude that the empirical model to study CSR, CSI, and firm value should incorporate the dynamic
interplay among the three variables.
10We consider two alternate specifications for costs associated with CSI incidents, i.e., 𝑔𝕀 (. ). For both these
specifications, we do not make changes to expected loss 𝕀 but argue that the buffering effect depends only on CSR
efforts r. As expected losses 𝕀 can be seen as a typical or average firm-specific loss associated with a CSI incident, CSI
avoidance efforts should reduce the probability of CSI incidents, and, as a result, the benefits of CSI avoidance efforts i
are built into 𝕀. Thus, buffering effects only depend on CSR efforts r. To specify these buffering effects we recognize
that the buffering effects should increase as efforts increase. Thus, there are two options to specify these efforts: (1)
similar to our earlier specification we use the exponential function to specify 𝑔𝕀 (𝑟) = 𝕀 × 𝑒 −(𝜆𝑟 ×𝑟) and (2) we can use a
𝜃 ×𝕀
much simpler inverse function, such that: 𝑔𝕀 (𝑟) = 𝑟 , where 𝜃𝑟 ∈ [0, ∞). In this second specification, as efforts r are
𝑟
𝜃 ×𝕀
positive, the expected loss 𝕀 is positive, 𝜃𝑟 is positive, and the expression 𝑟 is positive and decreases as effort r
𝑟
increases; thus CSR efforts reduce the costs associated with CSI incidents. If 𝜃𝑟 is less than 1, then the buffering effect
of CSR efforts is amplified, if 𝜃𝑟 equals 1 then the CSR efforts proportionally reduce expected loss, and if 𝜃𝑟 is greater
than 1, then CSR efforts do not have much of a buffering effect. The solution to the first specification, where 𝑔𝕀 (𝑟) =
𝕀 × 𝑒 −(𝜆×𝑟) , would still involve the Lambert W function and the use of numerical methods. The solution to the second
𝜃×𝕀
specification, where 𝑔𝕀 (𝑟) = , would lead to a cubic functional form for r and a linear functional form for i; thus
𝑟
there would be three solutions for r and one for i.
33
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Table 1
EXAMPLES OF EMPIRICAL STUDIES ON THE FOUR MECHANISMS
Other
Representative Empirical Key Insights Pertaining to
Mechanism Mechanisms Empirical Basis
Papers Approach the Four Mechanisms
Examined
Data on 131 publically
traded firms’ CSR
covered in the Fortune A firm’s prior performance is
McGuire
Good Ordinary Least survey of corporate more closely related to CSR
Sundgren, and
Management Squares (OLS) reputations between than is subsequent firm
Schneeweis (1988)
1983 and 1985; firm performance.
performance from 1977
Slack Resources
and 1984.
Data on up to 249 Conservative CEOs pursue
publically traded firms’ CSR initiatives only as
Chin, Hambrick, Generalized
Good CSR initiatives between performance allows whereas
and Treviño Estimating
Management 2005 and 2009. Authors liberal CEOs emphasize CSR
(2013) Equation
use KLD data to capture even when recent firm
the firms’ CSR. performance is low.
CSR is a driver of customer
Data on 113 publically
satisfaction which in turn
traded firms for the
drives firm performance.
Luo and Structural 2001-2004 periods; firms
Notably, CSR reduces
Bhattacharya Slack Resources Equation are covered in the ACSI
customer satisfaction and
(2006) Modeling and Fortune’s America’s
hence performance among
Most Admired
firms with low innovativeness
Good Corporations survey
capability
Management
Product social performance
Data on 518 publically (PSP) has a positive impact on
Jayachandran, traded firms (3701 firm- financial performance. Also,
Hierarchical
Kalaignanam, and years). Authors use KLD PSP weakness harms firm
Linear Modeling
Eilert (2013) data to capture the firms’ performance more than PSP
CSR. strength helps firm
performance.
Performance and CSR
Pooled OLS,
data on all firms listed in
Kotchen and between-effects Firms engage in CSR in order
Insurance the KLD database
Moon (2012) and fixed-effects to offset past CSI.
(~3,000) from 1991 to
models
2005.
Penance Firms’ reputation for CSI was
Data on 354 publically associated with the greatest
Muller and Kräussl Event Study and traded firms. Authors likelihood of making a
(2011) OLS use KLD data to capture subsequent charitable donation
the firms’ CSI. in response to Hurricane
Katrina.
Data on 178 negative
events caused by
Prior CSR provides insurance-
Godfrey, Merrill, Event Study and publically traded firms
like benefits to the firms that
and Hansen (2009) OLS between 1993 and 2003.
caused negative events.
Author uses KLD data
to capture firms’ CSR.
Insurance Data on 156 eco-
harmful events caused Negative stock-market
by publically traded reactions to eco-harmful
Event Study and
Flammer (2013) firms between 1980 and announcements are smaller for
OLS
2009. Author uses KLD firms with higher levels of
data to capture firms’ environmental CSR.
CSR.
39
Table 2
STRENGTH AND CONCERN ITEMS OF THE KLD SOCIAL RATINGS DATABASE
Qualitative Issue Type Categories # of

Area Categories
Charitable giving, Innovative giving
Non-US Charitable giving
Support for Housing
Strengths Support for Education (added ‘94) 8
Indigenous Peoples Relations (added ‘00, moved ‘02)
Community Volunteer Programs (added ‘05)
Other Strength
Investment Controversies
Negative Economic Impact
Concerns Indigenous Peoples Relations (‘00-’01) 5
Tax Disputes (added ‘05)
Other Concerns
Limited Compensation
Ownership Strength
Strengths Transparency Strength (added ‘05) 5
Political Accountability Strength (added ‘05)
Corporative Other Strength
Governance High Compensation
Ownership Concern
Accounting Concern (added ‘05)
Concerns 6
Transparency Concern (added ‘05)
Political Accountability Concern (added ‘05)
Other Concerns
CEO
Promotion
Board of Directors
Work/Life Benefits
Strengths 8
Women & Minority Contracting
Diversity
Employment of the Disabled
Gay & Lesbian Policies
Other Strength
Controversies
Concerns Non-Representation 3
Other Concerns
Union Relations
No-Layoff Policy (ended ‘94)
Cash Profit Sharing
Strengths 7
Employee Involvement
Employee Retirement Benefits Strength
Relations Health and Safety Strength / Other Strengths
Union Relations
Health and Safety Concern
Concerns Workforce Reductions 5
Retirement Benefits Concern (added ‘92)
Other Concerns
40
Beneficial Products and Services
Pollution Prevention
Recycling
Clean Energy
Strengths 8
Communications (added ‘96, moved ‘05)
Property, Plant, and Equipment (ended ‘95)
Management Systems
Environment
Other Strength
Hazardous Waste
Regulatory Problems
Ozone Depleting Chemicals
Concerns Substantial Emissions 7
Agricultural Chemicals
Climate Change (added ‘99)
Other Concerns
Positive Record in South Africa (‘94-’95)
Indigenous Peoples Relations Strength (added ‘02)
Strengths 4
Labor Rights Strength (added ‘02)
Other Strength
South Africa (ended ‘94)
Human Rights
Northern Ireland (ended ‘94)
Burma Concern (added ‘95)
Concerns Mexico (‘95-’02) 7
Labor Rights Concern (added ‘98)
Indigenous Peoples Relations Concern (added ‘00)
Other Concerns
Quality
R&D/Innovation
Strengths 4
Benefits to Economically Disadvantaged
Product Other Strength
Product Safety
Marketing/Contracting Concern
Concerns 4
Antitrust
Other Concerns
41
Table 3
DESCRIPTIVE STATISTICS
Variables CSI CSR Tobin’s q Log(emp) FinLev ROA AdtoSales RDtoSales

CSI 1.0000
CSR .3643 1.0000
Tobin’s q -.0869 .0059 1.0000
Log(Number of Employees)
.4074 .3817 -.1323 1.0000
(Log(emp))
Financial Leverage (FinLev) .0778 -.0474 -.0996 .0543 1.0000
ROA .0270 .0697 .0621 .2039 -.1008 1.0000
Advertising-to-Sales Ratio (%)
-.0189 .0440 .1047 .0080 -.0139 -.0385 1.0000
(AdtoSales)
R&D-to-Sales Ratio (%) 1.0000
-.0222 -.0213 .0747 -.0857 -.0012 -.1645 .0037
(RDtoSales)
Mean 1.7938 1.4851 1.6209 1.2247 .1926 .0196 .0120 .3469
Standard Deviation 1.9112 2.0549 1.4342 1.9240 .2050 .1731 .0441 6.3368
The means, standard deviations, and pairwise correlations reported here are based on “unstandardized” CSR and CSI scores. Note that we used
“standardized” CSR and CSI scores in our empirical analysis.
42
Table 4
SUMMARY OF UNIT ROOT AND STATIONARITY TESTS OF THE VARIABLES
Variable Statistics P-value Conclusion

Δ𝐶𝑆𝐼 -74.937 .000 Stationary
Δ𝐶𝑆𝑅 -97.229 .000 Stationary
Δ𝑇𝑜𝑏𝑖𝑛′ 𝑠 𝑞 -50.413 .000 Stationary
We use lags of one in the ADF regression. The reported statistic is the inverse normal Z statistic. Choi’s (2001)
simulation results suggest that this statistic offers the best trade-off between size and power.
43
Table 5
ESTIMATION RESULTS OF CONTEMPORANEOUS EFFECTS
Independent Dependent
CSI CSR Tobin’s q
CSI 1 1.5216 (.0351) -.9618 (.0230)
CSR 0 1 .3954 (.0100)
Tobin’s q 0 0 1
Standard errors are reported in parentheses. They are calculated based on 1,000 bootstrap samples.
44
Table 6
ESTIMATION RESULTS FROM THE REDUCED-FORM PVAR MODEL
Independent Dependent
CSI(t) CSR(t) Tobin’s q(t)
CSI(t-1) .1620** -.2256 -.1718**
CSI(t-2) .1250* -.1825** .0723
CSR(t-1) -.0231 .4530*** .0154
CSR(t-2) .0251 .0332 -.0593
Tobin’s q(t-1) -.0421 -.2986* .3935***
Tobin’s q(t-2) -.0003 -.1440 .0028
ROA -.0430 .0975 -.1103
Log(Emp) -.0195 -.1489 -.2583***
Financial Leverage .0841 .1074 .0409
Ad-to-Sales 2.9651 23.1109 2.0771
R&D-to-Sales -.0009*** .0009 -.0015
Year-fixed effect^ Included Included Included
AB Test (m1) -3.21*** -2.35** -4.80***
#
AB Test (m2) -1.72 -.94 .29
Hansen Test of 2
𝜒 = 123.36 2
𝜒 = 12.56 2
𝜒 = 163.59
Over-identification p-value: .095* p-value: .961 p-value: .084*
Restrictions&
***, **, and * represent 1%, 5%, and 10% significance level, respectively
^We use first-differencing in all three models to control for firm- and industry-specific fixed-effects.
# The AB test (m2) is a test for autocorrelation of the residuals for the first-differenced model. In a valid
model, residuals should not exhibit significant AR(2) behavior.
& The Hansen test of over-identification restriction examines whether the instruments are valid.
45
Table 7
SUMMARY OF MANAGERIAL IMPLICATIONS
1. Firms can expect negative financial performance implication from their CSI.
2. Increasingly, many firms engage in both CSR and CSI.
3. Firms that engage in both CSR and CSI tend to engage in CSR after CSI occurred.
4. Many firms appear to engage in CSR after CSI occurred to offset their past CSI.
5. Using CSR to offset past CSI does not attenuate the negative performance implication of CSI.
6. Few firms invest in CSR just because they are doing well financially.
There appear to be two types of firms:
 Some firms engage in CSR to offset their past CSI.
7.  Other firms engage in CSR because (we speculate) it is simply part of what they do.
The latter firms can expect to see significant financial returns from their CSR investments. However,
the former firms likely see little if any positive financial returns from their CSR investments.
CSR = Corporate Social Responsibility; CSI = Corporate Social Irresponsibility
46
Figure 1
THE FOUR MECHANISMS
time (t) time (t)

Financial Performance CSR CSI CSR
Mechanism 1 Mechanism 3:
Slack Resources: Penance:
Financial performance in (t - x, x ≥ 1) CSI in (t - x, x ≥ 1)
causes CSR in t causes CSR in t
time (t) time (t)

CSR Financial Performance CSR CSI
Mechanism 2: Mechanism 4:
Good Management: Insurance:
CSR in (t - x, x ≥ 1) CSI in t
causes financial performance in t causes CSR in (t - x, x ≥ 1)
CSR = Corporate Social Responsibility; CSI = Corporate Social Irresponsibility
47
Figure 2
PANEL A: PAIRWISE CORRELATION BETWEEN CSR AND
FINANCIAL PERFORMANCE (FP = Tobin’s q)
0.15
0.1
Correlation
0.05
0
1992 1994 1996 1998 2000 2002 2004 2006 2008
-0.05
Year
lagged CSR & FP lagged FP & CSR
PANEL B: PAIRWISE CORRELATION BETWEEN CSR AND CSI

0.5
0.4
Correlation
0.3
0.2
0.1
0
1992 1994 1996 1998 2000 2002 2004 2006 2008
Year
lagged CSR & CSI lagged CSI & CSR
The correlations shown are based on the unbalanced panel dataset of over 4,500 firms. We also examined the
correlations considering only firms for which we have full data across the 19 years (i.e., balanced panel; n =
190) and the results are similar. The CSR and CSI scores are from the Kinder, Lydenberg, and Domini (KLD)
Social Ratings Database.
48
Figure 3
PANEL A: IMPULSE RESPONSE FUNCTIONS FOR THE DYNAMIC RELATIONSHIP
BETWEEN CSR AND FINANCIAL PERFORMANCE (Tobin’s q)
Response of Tobin's q to CSR shock Response of CSR to Tobin's q shock
0.7 0.05
0
Percent Change
0.5 0 1 2 3 4 5 6 7 8 9 10
Percent Change
-0.05
-0.1
0.3
-0.15
0.1 -0.2
-0.25
-0.1 0 1 2 3 4 5 6 7 8 9 10 -0.3
-0.35
-0.3 -0.4
Year
Year
PANEL B: IMPULSE RESPONSE FUNCTIONS FOR THE DYNAMIC RELATIONSHIP

BETWEEN CSR AND CSI
Response of CSI to CSR shock Response of CSR to CSI shock

0.3 1.5
0.2
1
Percent Change
Percent Change
0.1
0
0 1 2 3 4 5 6 7 8 9 10 0.5
-0.1
-0.2
0
-0.3 0 1 2 3 4 5 6 7 8 9 10
-0.4 -0.5
Year
Year
The graphs show the 2.5% and 97.5% confidence band (dotted line) on either side of the response function
(solid line). The confidence band is obtained from 1,000 Monte Carlo simulations.
49
Figure 4
UNRESTRICTED VS. RESTRICTED IMPULSE RESPONSE FUNCTIONS FOR THE
DYNAMIC RELATIONSHIP BETWEEN CSI AND
FINANCIAL PERFORMANCE (Tobin’s q)
Response of Tobin's q to CSI shock
0.05
0 1 2 3 4 5 6 7 8 9 10
-0.05
Year
-0.15
Percent Change
-0.25
-0.35
-0.45 Restricted Unrestricted
-0.55
The graph shows the results from the restricted (gray solid line) and unrestricted (black solid line) impulse
response function, as well as the 2.5% and 97.5% confidence bands of the response functions (dashed line for
the restricted impulse response; dotted line for the unrestricted impulse response).
50
WEB APPENDIX

Charles Kang
Frank Germann
Rajdeep Grewal
Estimation Procedure
We follow a two-step approach to estimate the structural VAR model (e.g., Blanchard and Perotti
2002; Blanchard and Quah 1989; Sims 1980). That is, we first estimate the reduced-form VAR model and
then estimate the structural parameters from the variance-covariance matrix of residuals from the reduced-
form VAR estimation. First, we multiply equation (1) [see main document for equation (1)] by A−1 (the
inverse of the contemporaneous effect matrix) and derive the reduced-form representation of the equation:
𝐶𝑆𝐼𝑖𝑡 𝛾11 𝛾12 𝛾13
𝑃 𝑃
(WA1) [ 𝐶𝑆𝑅𝑖𝑡 ] = ∑𝑝=1 [𝛾21 𝑃
𝛾22 𝛾23 ] [ 𝐶𝑆𝑅𝑖(𝑡−𝑝) ]
𝑃
𝑇𝑜𝑏𝑖𝑛′ 𝑠 𝑞𝑖𝑡 𝑃
𝛾31 𝑃
𝛾32 𝑃
𝛾33 𝑇𝑜𝑏𝑖𝑛′ 𝑠 𝑞𝑖(𝑡−𝑝)
𝜐𝐶𝑆𝐼 𝑖𝑡
+Φ𝑋𝑖𝑡 + Ψ𝑖 + 𝛫𝐷 + [ 𝜐𝐶𝑆𝑅 𝑖𝑡 ]
𝜐𝑇𝑜𝑏𝑖𝑛′ 𝑠 𝑞
𝑖𝑡
𝑃 𝑃 𝑃 𝑃 𝑃 𝑃
𝛾11 𝛾12 𝛾13 𝜆11 𝜆12 𝜆13
𝑃 = A−1
𝑃
where, [𝛾21 𝑃
𝛾22 𝛾23 ] [𝜆𝑃21 𝜆𝑃22 𝜆𝑃23 ], Φ = A−1 Θcon , Ψ𝑖 = 𝐴−1 H𝑖 =
𝑃 𝑃 𝑃
𝛾31 𝛾32 𝛾33 𝜆𝑃31 𝜆𝑃32 𝜆𝑃33
[A−1 𝜂𝐶𝑆𝐼,𝑖 , 𝐴−1 𝜂𝐶𝑆𝑅,𝑖 , 𝐴−1 𝜂 𝑇𝑜𝑏𝑖𝑛′ 𝑠𝑞,𝑖 ]′, 𝐾 = 𝐴−1 Γ, 𝜐𝑖𝑡 = 𝐴−1 𝜑𝑖𝑡 , and 𝜐𝑖𝑡 =
′
[𝜐𝐶𝑆𝐼 𝑖𝑡 , 𝜐𝐶𝑆𝑅 𝑖𝑡 , 𝜐𝑇𝑜𝑏𝑖𝑛′ 𝑠 𝑞 ] ~𝑁(0, Σ𝜐 ).
𝑖𝑡
From the mapping between 𝜐𝑖𝑡 and 𝜑𝑖𝑡 , we can derive the relationship between the variance-
covariance matrix of the reduced-form residual (Σ𝜐 ) and the variance-covariance matrix of the structural-form
residual (Σ𝜑 ) such that Σ𝜐 = A−1 Σ𝜑 𝐴−1 ′. Second, we obtain estimates of A and Σ𝜑 by using the estimate of
51
Σ𝜐 . In general, several identification restrictions are needed since there are n(n + 1)/2 knowns (the distinct
elements of Σ𝜐 ) and n(3n + 1)/2 unknows (the n2 elements of A and the n(n + 1)/2 distinct elements of
Σ𝜑 ). For identification, we set the diagonal elements of A equal to 1 by scaling and let A be the lower triangle
matrix based on our recursive causal ordering. Thus, we impose some short-run restrictions which rely on the
contemporaneous effect assumptions. In addition, as suggested in the literature (e.g., Bernanke 1986; Sims
1986), we assume that Σ𝜑 is a diagonal matrix. Thus, our SPVAR model is just identified and we can obtain
structural parameter estimates of A and Σ𝜑 .
When estimating equation (WA1), we have to consider the following three econometric issues: (1)
endogeneity, (2) unobserved heterogeneity, and (3) dynamic panel bias. First, CSI, CSR and firm performance
are assumed to be endogenous because, as discussed above, the causality may run in both directions. Thus, it
is possible that our variables of interest can be explained by their lagged values and/or by the lagged values of
the respective other endogenous variables (e.g., Pauwels et al. 2004). These potential feedback effects among
the regressors may be correlated with the error term. Dynamic panel GMM estimators such as the Blundell
and Bond (1998) estimator account for this type of endogeneity that arises from direct and indirect feedback
effects among the regressors. Specifically, by using lagged values of the endogenous regressors (e.g., CSI𝑡−1 )
and lagged first-differences of the regressors (e.g., ∆CSI𝑡−1) as additional instruments, the endogenous
variables become pre-determined and are therefore not correlated with the error term (Arellano and Bond
1991; Arellano and Bover 1995; Holtz-Eakin et al. 1988).
Second, unobserved heterogeneity may play a critical role in determining a firm’s CSR and CSI
scores. For example, companies operating in the oil and gas industry may engage in more environmentally
harmful activities than companies that operate in the food and beverage industry. Thus, we need to control
for this unobserved heterogeneity to detect the true relationship among CSI, CSR and firm performance. We
use first-differencing which allows us to control for unobserved heterogeneity stemming from firm-specific
and industry-specific effects (Cameron and Trivedi 2005). In short, by first-differencing, time-invariant firm-
specific and industry-specific effects are removed. In other words, the unobserved firm-specific effect Ψ𝑖
52
cancels out of the model and, considering the iid assumption of 𝜐𝑖𝑡 , our estimation gives consistent slope
estimates.
Third, our panel data has a relatively short time series dimension (T) and a large cross-sectional
dimension (N). Estimating equation (2) using a first-difference ordinary least square approach or a least
square dummy variable approach would give inconsistent and biased estimates (i.e., result in a dynamic panel
bias; Nickell 1981). That is, in the dynamic panel models, the first-difference OLS estimator is inconsistent
because the regressors include lagged dependent variables (Cameron and Trivedi 2005). In contrast, the
dynamic panel GMM estimator allows us to overcome the dynamic panel bias. To obtain consistent
estimates, Anderson and Hsiao (1981) proposed an instrumental variable (IV) approach that estimates the
first-difference model using the lags of the dependent variable as an instrumental variable. Later, Holtz-Eakin
et al. (1988) and Arellano and Bond (1991) extended Anderson and Hsiao’s (1981) idea and proposed a panel
GMM estimator using not only the additional lags of the dependent variables but also the lags of the
difference of the dependent variables as instruments. Subsequently, Arellano and Bover (1995) and Blundell
and Bond (1998) developed a system GMM estimate which uses lags of differences for equations in levels and
also lags of levels as instruments for equations in first differences. They showed that an efficiency gain in
estimation is possible even when the time series is nearly unit root. Thus, we use the Blundell and Bond
(1998) estimator to deal with the weak instruments problem in first-differenced models as well as the dynamic
panel bias which is a common problem in small 𝑇 and large 𝑁 panels such as the one we are using. We also
note that the Blundell and Bond (1998) estimator has been widely used to test causal relationships when using
panel data (e.g., Huang et al. 2008). In the following, we briefly present the Blundell and Bond (1998)
estimator as well as the moment conditions.
We first derive the first-difference of equation (WA1) to remove the unobserved firm-specific time
invariant effect Ψ𝑖 :
𝑃 𝑃 𝑃 Δ𝐶𝑆𝐼𝑖(𝑡−𝑝)
Δ𝐶𝑆𝐼𝑖𝑡 𝛾11 𝛾12 𝛾13
𝑃 𝑃
(WA2) [ Δ𝐶𝑆𝑅𝑖𝑡 ] = ∑𝑝=1 [𝛾21 𝑃
𝛾22 𝛾23 ] [ Δ𝐶𝑆𝑅𝑖(𝑡−𝑝) ] + ΦΔ𝑋𝑖𝑡 + 𝛫Δ𝐷 + Δ𝜐𝑖𝑡
𝑃
Δ𝑇𝑜𝑏𝑖𝑛′ 𝑠 q𝑖𝑡 𝑃
𝛾31 𝑃
𝛾32 𝑃
𝛾33 Δ𝑇𝑜𝑏𝑖𝑛′ 𝑠 q𝑖(𝑡−𝑝)
where Δ is the first-difference operator.
53
For identification, we assume the standard initial conditions on yi1 = [ 𝐶𝑆𝐼𝑖1 , 𝐶𝑆𝑅𝑖1 , 𝑇𝑜𝑏𝑖𝑛′ 𝑠 q𝑖1 ]′
that E(yi1 𝜐𝑖𝑡 ) = 0 for i = 1, … , N and t = 2, … , T (e.g., Ahn and Schmidt 1995). The standard moment
condition is the orthogonality condition between the dependent variable and the lagged error term:
E(yi(t−s) Δ𝜐𝑖𝑡 ) = 0 𝑓𝑜𝑟 𝑡 = 3, … , 𝑇 𝑎𝑛𝑑 𝑠 ≥ 2. In addition, we impose two extra moment conditions for
the GMM estimation. These are 𝑇 − 3 linear moment conditions: E(uit , Δyi(t−1) ) = 0 for t = 4,5, … , T and
E(ui3 , Δyi2 ) = 0. Due to these two moment conditions, the lagged differences of the dependent variable can
be used as a possible instrument. In general, the asymptotically efficient GMM estimation based on the set of
moment conditions is as follows: Γ ′ = (Γ1 , Γ2 , … , Γ𝑝 ) where Γ ′ is a (3 × 3p) matrix of stacked coefficients
of lagged dependent variables. The GMM estimator of γ = 𝑣𝑒𝑐(Γ), where 𝑣𝑒𝑐 denotes the column stacking
operator, is given by Cao and Sun (2011):

′
γ̂𝐺𝑀𝑀 = 𝑣𝑒𝑐(Γ̂) ≔ vec ((Γ̂1 , Γ̂2 , … , Γ̂𝑝 ) )
′ )𝑊 (I ′ −1 ′
= [(I3 ⊗ 𝑆𝑍𝑋 𝑁 3 ⊗ 𝑆𝑍𝑋 )] [(I3 ⊗ 𝑆𝑍𝑋 )𝑊𝑁 𝑣𝑒𝑐(𝑆𝑍𝑌 )]
1 𝑁 1 𝑁 1 −1
′̂ ̂
where 𝑆𝑍𝑋 = ∑ 𝑍 ′ 𝑋̃ , 𝑆𝑍𝑌 = ∑ 𝑍 ′ Δ𝑦𝑖 , 𝑎𝑛𝑑 𝑊𝑁 = 𝐼3 ⊗ ( ∑𝑁
𝑖=1 𝑍𝑖 Δ𝜐𝑖 Δ𝜐𝑖 ′𝑍𝑖 )
𝑁 𝑖=1 𝑖 𝑖 𝑁 𝑖=1 𝑖 𝑁
̂𝑖 are consistent
𝐼3 is a (3 × 3) identity matrix, ⊗ is the Kronecker product, 𝑊𝑁 is the weight matrix, and Δ𝜐
estimates of the first-differenced residual obtained from a preliminary consistent estimator (this is known as a
two-step GMM estimator). 𝑋̃𝑖 is a (T − 2) × (K + 1) matrix with t-th row (Δyi(t−1) , Δ𝑋𝑖𝑡′ ), t = 3, … , T, Δ𝑦𝑖
is a (T − 2) × 1 vector with t-th row Δ𝑦𝑖𝑡 , and Zi is the instrument matrix such that, Zi =
𝑄𝑖 0 0 ⋯ 0
𝑞𝑖3 ′ 0 ⋯ 0
0 Δ𝑦𝑖2 0 ⋯ 0
0 𝑞𝑖4 ′ ⋮
0 0 Δ𝑦𝑖3 ⋯ 0 , where 𝑄𝑖 = ( ) and q′it =
⋮ ⋱ 0
⋮ ⋮ ⋮ ⋯ 0
⋯ Δ𝑦𝑖(𝑇−1) ) 0 ⋯ 0 𝑞𝑖𝑇 ′
(0 0 0
[𝑦𝑖(𝑡−2) , 𝑦𝑖(𝑡−3) , … , 𝑦𝑖1 , Δ𝑋𝑖𝑡 ′].
To estimate the dynamic relationship among CSR, CSI and firm performance, we calculate the
orthogonalized impulse response function. To do so, we need to estimate the covariance matrix of the error
Σ𝜐 . The estimator of Σ𝜐 is given by:
54
𝑁 𝑇
1
̂𝜐 =
Σ ∑ ∑ 𝜐̂
𝑖𝑡 𝜐
̂′
𝑖𝑡 ,
𝑁𝑇
𝑖=1 𝑡=0
where 𝜐̂ 𝑦𝑖 . ) − Γ̂ ∑𝑃𝑝=1(𝑦𝑖(𝑡−𝑝) − ̅̅̅

𝑖𝑡 = (𝑦𝑖𝑡 − ̅̅̅
̂ (𝑋𝑖𝑡 − ̅𝑋̅̅𝑖̅. ) 𝑓𝑜𝑟 𝑡 = 0, … , 𝑇, and ̅̅̅
𝑦𝑖 . ) − 𝛷 𝑦𝑖 . 𝑎𝑛𝑑 ̅𝑋̅̅𝑖̅. are the
averages of the dependent variables and the control variables over time, respectively.
Figure WA1
TWO-VARIABLE VS. THREE-VARIABLE IMPULSE RESPONSE FUNCTIONS
FOR THE DYNAMIC RELATIONSHIP BETWEEN CSR
AND FINANCIAL PERFORMANCE (Tobin’s q)
Response of Tobin's q to CSR shock

6
2
Percent Change
0
0 1 2 3 4 5 6 7 8 9 10
-2
-4
Year
-6
CSI is not in the system CSI is in the system
The graph shows the impulse response functions based on the three-variable SPVAR model (CSR, CSI, and
Tobin’s q; black line) and the two-variable SPVAR model (CSR and Tobin’s q; gray line). It also shows the
2.5% and 97.5% confidence bands (dashed line for the two-variable SPVAR model; dotted line for the three-
variable SPVAR model). As the graph shows, when CSI is not in the system (gray line), the effect of CSR on
Tobin’s q is about four times larger in time 0 than when CSI is in the system (black line).
55
Figure WA2
EVOLUTION OF MEDIA ATTENTION RELATED TO CSR
35000
30000
25000
20000
15000
10000
5000
Newspaper articles
We searched through Factiva and, considering the years 1979 – 2014, counted the number of newspaper articles
that referenced the term “CSR” in each year. The results from that search are shown in Figure WA2.
56
References
Ahn, Seung C., and Peter Schmidt (1995), “Efficient Estimation of Models for Dynamic Panel Data,” Journal
of Econometrics, 68(1), 5–27.
Anderson, T. W., and Cheng Hsiao (1981), “Estimation of Dynamic Models with Error Components,” Journal
of the American Statistical Association, 76(375), 598–606.
Arellano, Manuel and Stephen Bond (1991), “Some Tests of Specification for Panel Data: Monte Carlo
Evidence and an Application to Employment Equations,” The Review of Economic Studies, 58(2), 277–
297
_____ and Olympia Bover (1995), “Another Look at the Instrumental Variable Estimation of Error-
components Models,” Journal of Econometrics, 68(1), 29–51.
Bernanke, Ben S. (1986), “Alternative explanations of the money-income correlation,” Carnegie-Rochester
Conference Series on Public Policy, Elsevier,25(1), 49-99.
Blanchard, Olivier Jean, and Danny Quah (1989), “The Dynamic Effects of Aggregate Demand and Supply
Disturbances,” American Economic Review,79(4), 655–73.
_____ and Roberto Perotti (2002), “An Empirical Characterization of the Dynamic Effects of Changes in
Government Spending and Taxes on Output,” Quarterly Journal of Economics, 117, 1329-1368
Blundell, Richard, and Stephen Bond (1998), “Initial Conditions and Moment Restrictions in Dynamic Panel
Data Models,” Journal of Econometrics, 87(1), 115–143.
Cameron, A. Colin, and Pravin K. Trivedi (2005), Microeconometrics: Methods and Application. Cambridge
University Press.
Cao, Bolong, and Yixiao Sun (2011), “Asymptotic Distributions of Impulse Response Functions in Short
Panel Vector Autoregressions,” Journal of Econometrics, 163(2), 127–143.
Holtz-Eakin, Douglas, Whitney Newey, and Harvey S. Rosen (1988), “Estimating Vector Autoregressions
with Panel Data,” Econometrica, 56(6), 1371–1395.
Huang, Bwo-Nung, M.J. Hwang, and C.W. Yang (2008), “Causal Relationship Between Energy Consumption
and GDP Growth Revisited: A Dynamic Panel Data Approach,” Ecological Economics, 67(1), 41–54.
Nickell, Stephen J. (1981), “Biases in Dynamic Models with Fixed Effects,” Econometrica, 49(6), 1417–26.
Pauwels, Koen, Jorge Silva-Risso, Shuba Srinivasan, and Dominique M. Hanssens (2004), “New Products,
Sales Promotions, and Firm Value: The Case of the Automobile Industry,” Journal of Marketing, 68(4),
142–156.
Sims, Christopher A. (1980), “Macroeconomics and Reality,” Econometrica, 48(1), 1–48.
_____ (1986), “Are Forecasting Models Usable for Policy Analysis,” Federal Reserve Bank of Minneapolis
Quarterly Review, 10, 2-16.
57

Washing Away Your Sins? Corporate Social Responsibility, Corporate Social Irresponsibility, and Firm Performance

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© 2015, American Marketing Association

Washing Away Your Sins? Corporate Social Responsibility,

Keywords: Corporate Social Irresponsibility, Corporate Social Responsibility, Firm Performance,

panel vector autoregressive (SPVAR) model.

conclude with a discussion of the implications, as well as limitations, of our research.

the four mechanisms.

Slack Resources Mechanism

Good Management Mechanism

bad things, i.e., CSI, happens.

during adverse events might be substantial.

Relationship among the Four Mechanisms

Summary and Initial Evidence

inappropriate (also see Margolis et al. 2007; Scholtens 2008).

[Insert Figure 2 about here]

the otherwise positive performance effects of CSR.

details on the economic theory model in Appendix A.

following SPVAR model:

θ𝑐𝑜𝑛,𝐶𝑆𝐼 𝑋𝑖𝑡 + 𝜂𝐶𝑆𝐼,𝑖 + ΓCSI 𝐷 𝜑𝐶𝑆𝐼 𝑖𝑡

sales, and R&D-to-sales), where K is the number of control variables, Θcon =

firm 𝑖, D = [𝑑1991 , ⋯ , 𝑑2009 ]′ is the (T × 1) vector of year dummies where 𝑑𝑡 = 1 if year = 𝑡; 𝑑𝑡 =

usual ‘fixed effect’ decomposition, where 𝜔𝑖𝑡 ≡ 𝐻𝑖 + 𝜑𝑖𝑡 .

get captured by it contemporaneously.

Web Appendix for details regarding our estimation procedure).

DATA AND METHOD

KLD Social Ratings Database

[Insert Table 2 about here]

̅̅̅̅̅̅̅̅̅̅̅𝑡 is the average CSR(I) score in year 𝑡, and s. d. (CSR(I)t )

is the standard deviation of CSR(I) score in year 𝑡.

analysis to minimize the effect of different samples sizes.

proposed by Chung and Pruitt (1994).

present the descriptive statistics in Table 3.

[Insert Table 3 about here]

Data Analysis Approach

using generalized impulse response functions.

estimation is based on the first-difference.

̂𝜐 ).7 Further, we used Monte Carlo simulation to obtain upper and

lower 95% confidence bands (see Doan 1992).

results, and follow this with a post-hoc analysis.

Stationarity and Unit Root Tests

[Insert Table 4 about here]

Model Estimation and Optimal Lags Selection

dynamic panel data model is two.

[Insert Table 5 about here]

[Insert Table 6 about here]

Impulse Response Functions (IRFs)

[Insert Figure 3 about here]

elaborate on these findings in the discussion section.

Post-hoc Analysis: Is CSR a Potent Penance Mechanism?

[Insert Figure 4 about here]

(see Pauwels (2004) for technical details).8

and managerial contributions and implications of our research.

about whether doing good implies doing well.

performance effects of CSI using a largescale dataset as we do here.

[Insert Table 7 about here]

penance reasons does not pay off financially.

research should investigate these conjectures.

investigate this potential explanation.

than KLD, of course).

in terms of their severity.

performance implications of CSR.

CSR, CSI, and firm value.

given time t as:

where, ℝ and ℂ represent revenues and costs, respectively.

where, 𝑔𝑆 (. ) is an appropriate dynamic response function for sales.