The Effects of Corporate Social Performance on the Cost of Corporate Debt and Credit Ratings

• DOI: http://doi.org/10.1111/fire.12025
• Date: 01 February 2014
• Author: Ioannis Oikonomou,Stephen Pavelin,Chris Brooks
• Published date: 01 February 2014

The Financial Review 49 (2014) 49–75

The Effects of Corporate Social

Performance on the Cost of Corporate Debt

and Credit Ratings

Ioannis Oikonomou

ICMA Centre, University of Reading, UK

Chris Brooks∗

ICMA Centre, University of Reading, UK

Stephen Pavelin

School of Management, University of Bath, UK

Abstract

This study investigates the differential impact that various dimensions of corporate so-

cial performance have on the pricing of corporate debt as well as the assessment of the

credit quality of specific bond issues. The empirical analysis, based on an extensive longi-

tudinal data set, suggests that overall, good performance is rewarded and corporate social

transgressions are penalized through lower and higher corporate bond yield spreads, respec-

tively. Similar conclusions can be drawn when focusing on either the bond rating assigned

to a specific debt issue or the probability of it being considered to be an asset of speculative

grade.

∗Corresponding author: ICMA Centre, Henley Business School, University of Reading, Whiteknights,

Reading RG6 6BA, UK; Phone: +44 118 378 8239; Fax: +44 118 931 4741; E-mail:

C.Brooks@reading.ac.uk.

We are grateful to the Editor,Robert Van Ness, and to two anonymous referees for useful comments that

considerably improved the paper. We also thank Davide Avino for helping us with the overview of the

literature of corporate bond spread determinants.

C2014 The Eastern Finance Association 49

50 I. Oikonomou et al./The Financial Review 49 (2014) 49–75

Keywords: corporate social responsibility, CSP, socially responsible investing, credit ratings,

cost of debt, credit spreads, corporate bonds

JEL Classifications: C33, G32, M14

1. Introduction

The notions of corporate social responsibility and corporate social performance1

(CSP)—demonstrative of the degree to which firms incorporate social and environ-

mental concerns in their operations—have been of significant interest to both the

academic and business world for the last four decades. Nevertheless, it is a common

perception that issues relevant to CSP have become more prominent in recent years

(Starks, 2009).

Faced with these new pressures, firms have to reorient their perspective and

business operation and it appears that they are aware of this. This is supported by the

UN Global Compact-Accenture CEO Study, based on a 2010 survey of more than

750 CEOs. Overall, 93% of them see sustainability as a factor that can materially

influence their firm’s future success. Perhaps the most characteristic figures showing

the increasing public awareness of CSP issues come from the socially responsible

investing (SRI) movement. According to the U.S. Social Investment Forum, in 1995

there were just 55 SRI funds with $12 billion assets under their management whereas

in 2010 there were 250 socially screened mutual funds in the United States with total

assets of $316.1 billion. These figures translate to a 455% increase in the number of

SRI funds and a staggering 2,634% increase in the value of the assets in these funds.

Given these evolutionsand trends, it is perhaps unsurprising that a wide-ranging

academic literature has been developed, with studies going as far as exploring the

connections of CSP with political beliefs (Rubin, 2008). The most substantial part of

this literature concentrates on the nature, magnitude, and significance of the connec-

tion of CSP with corporate financial performance (CFP). Although numerous papers

have been written and published in this area, as evidenced by theexisting comprehen-

sive reviews (Margolis and Walsh, 2003; Renneboog, Ter Horst and Zhang, 2008a),

no consensus has been reached with regard to the empirical relationship between

CSP and CFP either at the firm level (Brammer, Brooks and Pavelin, 2006; Edmans,

2011) or at the portfolio level of analysis (Bauer, Koedijk and Otten, 2005; Galema,

Plantinga and Scholtens, 2008; Renneboog, Ter Horst and Zhang, 2008b).

The majority of studies investigating the CSP-CFP link look at CSP resources

as being potentially value creating (or value destroying) by attempting to connect

1Although there are some distinguishing differences between the terms, they tend to be used interchange-

ably in the bulk of the related literature (Barnett, 2007); we will exclusively employ the term CSP in this

study.