Does Corporate Social Responsibility (CSR) Create Shareholder Value? Evidence from the Indian Companies Act 2013

• Date: 01 December 2017
• Author: SHIVARAM RAJGOPAL,HARIOM MANCHIRAJU
• Published date: 01 December 2017
• DOI: http://doi.org/10.1111/1475-679X.12174

DOI: 10.1111/1475-679X.12174

Journal of Accounting Research

Vol. 55 No. 5 December 2017

Printed in U.S.A.

Does Corporate Social

Responsibility (CSR) Create

Shareholder Value? Evidence from

the Indian Companies Act 2013

HARIOM MANCHIRAJU

∗AND SHIVARAM RAJGOPAL

†

Received 6 October 2015; accepted 4 March 2017

ABSTRACT

In 2013, a new law required Indian firms, which satisfy certain profitability,

net worth, and size thresholds, to spend at least 2% of their net income on

corporate social responsibility (CSR). We exploit this regulatory change to

isolate the shareholder value implications of CSR activities. Using an event

study approach coupled with a regression discontinuity design, we find that

the law, on average, caused a 4.1% drop in the stock price of firms forced

to spend money on CSR. However, firms that spend more on advertising

are not negatively affected by the mandatory CSR rule. These results suggest

that firms voluntarily choose CSR to maximize shareholder value. Therefore,

∗Department of Accounting, Indian School of Business; †Roy Bernard Kester and T.W.

Byrnes Professor of Accounting and Auditing, Columbia Business School.

Accepted by Douglas Skinner. We thank an anonymous referee, Yakov Amihud, Bernie

Black, Sanjay Kallapur, Simi Kedia, YongtaeKim, Bill Kross, Stephanie Larocque (discussant),

Suresh Radhakrishnan, Srini Rangan, Sri Sridharan, K.R.Subramanyam, Stephan Zeume (dis-

cussant), Hao Zhang, and workshop participants at 2015 MIT Asia Conference in Account-

ing, 2015 AAA conference and the Indian School of Business for helpful comments. We also

thank Ranjan Nayak and Aadhaar Verma for providing excellent research assistance. Finally,

we thank our respective schools for financial support.

1257

Copyright C, University of Chicago on behalf of the Accounting Research Center,2017

1258 H.MANCHIRAJU AND S.RAJGOPAL

forcing a firm to spend on CSR is likely to be sub-optimal for the firm with a

consequent negative impact on shareholder value.

JEL codes: M14; M40; M41; M48

Keywords: CSR; shareholder value; Indian Companies Act 2013

1. Introduction

Spending on certain forms of corporate social responsibility (CSR) is now

mandatory in India.1Clause 135 of the Companies Act (mandatory CSR

rule, hereafter) passed by the Indian Parliament in 2013 requires a firm,

which meets certain thresholds in any fiscal year, to spend 2% of its average

net profits of the prior three years on CSR activities.2A legislative mandate

forcing corporations to spend funds on CSR activities is perhaps the first of

its kind in the world. We exploit this unique setting to isolate the impact of

CSR on shareholder value.

There are two competing views on whether CSR affects shareholder

value. The “shareholder expense” view, advocated most notably by Milton

Friedman [1970], asserts that “the social responsibility of business is to in-

crease its profits.” He goes on to argue that “if businessmen do have a so-

cial responsibility other than making maximum profits for stockholders,

how are they to know what it is? Can self-selected private individuals decide

what the social interest is?” Under Friedman’s framework, CSR activities of

a firm are typically viewed as a manifestation of moral hazard toward the

shareholder. The contrasting view, labeled here as the “stakeholder value

maximization” view, following the “doing well by doing good” theory ad-

vanced in the management literature, argues that strategic CSR spending

can increase firm value. The intuition is that a firm’s self-interested focus

on stakeholders’ interests increases their willingness to support the firm’s

operations in several ways (Kitzmueller and Shimshack [2012]).

Existing empirical evidence on whether CSR creates shareholder value

is inconclusive, partly because these studies are clouded by methodolog-

ical concerns such as potential endogeneity, reverse causality, or omitted

variable problems (Margolis, Elfenbein, and Walsh [2009]).3The choice

to conduct CSR is voluntary. Assuming firms spend their optimal level of

1While the term CSR itself is not defined in the Indian Companies Act 2013, the Act does

provide a list of activities that it considers to be CSR. We provide these details in section 3.1.

2As per the mandatory CSR rule, if during any fiscal year a firm has either (1) a net worth

of Indian Rupees (INR) 5,000 million (about U.S. $83 million) or more; (2) sales of INR

10,000 million (about U.S. $167 million) or more; or (3) a net profit of INR 50 million (about

U.S. $0.83 million) or more, it is required to spend 2% of its average net profits of the last

three years on CSR related activities. An exchange rate of 60INR =1US$ is assumed for the

conversion of INR to US$.

3For reviews of the literature on CSR, see Griffin and Mahon [1997], Orlitzky and Benjamin

[2001], Margolis and Walsh [2003], Orlitzky,Schmidt, and Rynes [2003], Margolis, Elfenbein,

and Walsh [2009], and Kitzmueller and Shimshack [2012].

IMPACT OF CSR ON SHAREHOLDER VALUE 1259

CSR, on average, there ought to be no association between future firm

performance and CSR in the cross-section (Himmelberg, Hubbard, and

Palia [1999]). Hence, it is difficult to ascertain whether the observed as-

sociations between CSR and firm performance (i) are causal in nature;

or (ii) are merely attributable to model misspecification due to the influ-

ence of unobserved firm level heterogeneity related to CSR (Himmelberg,

Hubbard, and Palia [1999]). Second, as highlighted by Hong, Kubik, and

Scheinkman [2012], reverse causality can drive the results as firms that are

doing well, and are hence less financially constrained, are more likely to

spend resources on CSR activities. Hence, firm performance could cause

higher future CSR, as opposed to the other way around. Third, as Lys,

Naughton, and Wang [2015] suggest, CSR could merely signal and not

cause future profits. In sum, the correlation between CSR and firm value or

firm performance, documented by earlier studies, albeit interesting, does

not necessarily warrant a causal interpretation.

To partially overcome these inferential problems, we exploit numerical

thresholds specified in the mandatory CSR rule and employ a regression

discontinuity design (RDD) to identify a potentially causal link between

CSR and firm value.4An RDD typically compares the outcomes just above

and just below a discontinuous threshold, and attributes any differences

in the outcome variable to the intervention that creates the discontinuity,

assuming that but for the intervention, firms above and below the thresh-

old are similar.5Because the intervention is exogenously imposed, firms

have no control as to whether they will receive the intervention or not.

Hence, there is an equal probability that the firm might be assigned on ei-

ther side of the threshold, thereby making RDD a close approximation of

a randomized experiment near the threshold (Lee and Lemieux [2010]).

However, an important limitation of RDD is that it captures treatment ef-

fects localized around the threshold and hence the results are not always

generalizable to the entire population.

In this paper, the discontinuity arises because, around the INR 50 mil-

lion profit threshold exogenously determined by the mandatory CSR rule,

a minor change in net income leads to a discrete change (i.e., a disconti-

nuity) in the application of CSR rule. Such discontinuity classifies firms as

AFFECTED (those who are required to comply with CSR rule) and UNAF-

FECTED (those who are not required to comply with CSR rule). Intuitively,

there is no reason to expect systematic differences in a firm with a net in-

come of INR 51 million and another with a net income of INR 49 million.

Thus, any differences in the cumulative abnormal returns (CAR) around

4Gow, Larcker, and Reiss [2016] document an increasing trend in the use of quasi-

experimental methods to draw causal inference in accounting research and believe that pa-

pers using these methods are considered stronger research contributions.

5See Imbens and Lemieux [2008], Lee and Lemieux [2010], and Robert and Whited

[2012] for recent overviews on the RDD methodology and surveys of RDD applications in

the economics and finance literature.