The Effect of Prior Knowledge of Earnings on Non-Sophisticated Investors' Evaluation of Corporate Social Responsibility Performance

• In Event: R & D, Ownership Disclosure & Social Responsibility

Abstract

Drawing on stakeholder influence capacity (SIC) theory, we posit that the relationship between non-sophisticated investors’ investment judgments and a firm’s corporate social responsibility (CSR) performance is affected by the investor’s knowledge of the firm’s profitability. SIC theory suggests that more profitable firms are expected to have higher levels of CSR performance but get less financial reward in return. In our first experiment, using a 1 x 2 between-subjects design, we confirm that non-sophisticated investors do expect more profitable firms to have higher levels of CSR performance. Furthermore, since non-sophisticated investors evaluate CSR performance relative to expectations rather than to absolute levels of CSR performance, we hypothesize that their investment revisions are larger when a firm’s CSR performance is inconsistent with their profit-based expectations. We randomly assigned non-sophisticated investors to one of the four cells created by fully crossing firm profitability (high versus low profitability) and CSR performance (high versus low performance) in a 2 x 2 between-subjects design. Consistent with expectation, we find that participants make larger revisions to their investment likelihood when a firm’s CSR performance is inconsistent with their profit-based expectations. We also find that higher profit firms receive less benefit from disclosures of high CSR performance and more harm from disclosures of low CSR performance than do lower profit firms. Our results suggest that non-sophisticated investors expect more profitable firms to be more socially responsible but reward them relatively less for meeting this expectation.

Authors

• Edward Thomas, University of Alabama-Birmingham

• Stephen Kwaku Asare, University of Florida