How Third-Party CSR Ratings Impact Your Share Price
Being added to – or removed from – a social index as a reflection of corporate behaviour can impact stakeholder relationships and your stock price.
Investing in continuous CSR and cultivating a good reputation may make your investors a little more forgiving of your firm during tough times.
With trillions in assets in socially screened portfolios on the line, investors are increasingly turning to third-party social indices to help them assess a company’s CSR performance as a way to discriminate between firms that are “talking the talk” and ones that are truly incorporating corporate social responsibility (CSR) into their business.
Both the Domini 400 Social Index and the Calvert social index, for example, add and remove firms based on whether or not they exhibit strong social responsibility and ethics, determined by both financial performance and CSR behaviour. Managers interested in getting the best share price for their investors need to understand the criteria used for inclusion and removal because these actions have very real market consequences.
Stakeholders Punish Delisted Firms
Recent research from Jonathan Doh, Shawn Howton and Shelly Howton(all from Villanova University) and Donald Siegel (University of Albany, SUNY) looked at whether a company’s inclusion — or expulsion — from a social index impacts a firm’s share price. They reviewed companies added to and deleted from the Calvert social index between 2000 and 2005, testing whether these additions and deletions influenced the respective firm’s share price.
The researchers found that being added to a social index doesn’t increase a company’s share price—but when a company is removed, its stock takes a hit. Dropped firms lost more than 1.2 per cent of their market value in the two days following the announcement of their removal. This represented an average market capitalization loss of $4 million. Their research also confirmed the link between social/environmental investment and a company’s operating performance. They found there is stronger operating performance in the period immediately before a firm is added to the index and poorer operating performance in the period before delisting.
CSR Cushions the Blow
As a final step, the researchers tested whether the market treats companies with a reputation as strong CSR performers differently from those with a reputation for poor CSR when added or removed. Firms with a strong CSR reputation experience less of a share price increase when added to the index than those with a poorer CSR reputation. Why? Those firms have an incentive to regularly talk about their good deeds publicly — so, any bump has likely already been factored into the company’s market valuation.
That same good CSR reputation also helps protect companies when they’re removed from the index. The trust and respect earned from its stakeholders insulates it from market fluctuation. So while there is less of a market upside when good CSR firms are added to an index, there is less of a downside market risk when removed.
Being Listed is a Bonus, Not the Strategy
Listing on indices that confer legitimacy can help your firm, but it should complement rather than replace proactive communication between your firm and its key stakeholders.
Doh, J.P., Howton, S.D., Howton, S.W., and Siegel, D.S. 2010. "Does the Market Respond to an Endorsement of Social Responsibility? The Role of Institutions, Information and Legitimacy." Journal of Management. 36.6: 1461–1485.