Board reforms around the world: The effect on corporate social responsibility

• Published date: 01 September 2021
• Author: Chih‐Hsien Liao,Ziyao San,Albert Tsang,Li Yu
• Date: 01 September 2021
• DOI: http://doi.org/10.1111/corg.12372

ORIGINAL ARTICLE

Board reforms around the world: The effect on corporate

social responsibility

Chih-Hsien Liao

1

| Ziyao San

2

| Albert Tsang

2

|LiYu

3

1

Department of Accounting, National Taiwan

University, Taipei, Taiwan

2

Faculty of Business, Hong Kong Polytechnic

University, Hung Hom, Hong Kong

3

Department of Accountancy and Law, Hong

Kong Baptist University, Kowloon Tong, Hong

Kong

Correspondence

Dr. Li Yu, Department of Accountancy and

Law, Hong Kong Baptist University, Kowloon

Tong, Hong Kong.

Email: lily_yu@life.hkbu.edu.hk

Abstract

Research Question/Issue: This study examines the effects of major board reforms

on firms' corporate social responsibility (CSR) performance in countries around the

world.

Research Findings/Insights: Using a difference-in-differences design, we find robust

evidence that worldwide board reforms can have significant effects on various stake-

holders, resulting in increased firm CSR performance in both the environmental and

social dimensions. Relative to countries that have implemented comply-or-explain

reforms, countries with rule-based reforms tend to drive the increase in CSR perfor-

mance post-reform. Our results hold for both first board reforms and major reforms,

across different types of reforms, and across various dimensions of CSR performance.

In addition, the effect of reforms on CSR performance is more pronounced for firms

with higher levels of institutional ownership or lower levels of insider ownership and

in countries with weaker CSR awareness and more stringent legal and regulatory

environments. Further analyses show that reforms strengthen the relationship

between CSR performance and future financial performance. Finally, we explore the

possible mechanism through which board reforms could have a significant effect on

firms' CSR performance. We find that board reforms increase a firm's likelihood of

integrating CSR criteria in executive compensation.

Theoretical/Academic Implications: The findings of this study suggest that world-

wide board reforms that aim to increase shareholders' value can also have significant

effects on various stakeholders, resulting in increased firm CSR performance in both

the environmental and social dimensions, a non-financial dimension of firm

performance.

Practitioner/Policy Implications: Our evidence suggests that increases in CSR perfor-

mance are an important channel through which board reforms can increase share-

holder value. In addition, our findings suggest that the effectiveness of reforms on

CSR varies with both firm- and country-level characteristics related to the relative

influence of external shareholders. Thus, this study offers insights to policy makers

interested in enhancing CSR performance in their country.

KEYWORDS

corporate governance, corporate social responsibility, CSR contracting, insiders, sustainability

Received: 18 March 2020 Revised: 22 March 2021 Accepted: 26 March 2021

DOI: 10.1111/corg.12372

496 © 2021 John Wiley & Sons Ltd Corp Govern Int Rev. 2021;29:496–523.wileyonlinelibrary.com/journal/corg

1|INTRODUCTION

Over the last two decades, numerous countries have undertaken cor-

porate governance reforms to strengthen the mechanisms through

which shareholders ensure a financial return on their investments

(Shleifer & Vishny, 1997).

1

Supporting the importance and effective-

ness of such reforms, recent studies have documented that major cor-

porate governance reforms implemented in many countries since the

late 1990s have increased shareholder wealth (e.g., Fauver

et al., 2017; Kim & Lu, 2013). Although approaches to reform vary

across countries, most reforms focus on board-related practices, such

as imposing greater board independence, promoting audit committee

and auditor independence, and separating the positions of chairman

and chief executive officer (CEO). As boards are the fundamental gov-

ernance mechanism of corporations, board reforms are thus consid-

ered as the major approach to address corporate governance issues.

Thus, in this study, we examine whether country-level board reforms

affect corporate performance in environmental and social dimensions

(hereafter, corporate social responsibility [CSR] performance).

CSR performance is a critical issue globally and is a primary corpo-

rate governance concern for many firms.

2

Indeed, an increasing number

of investors are integrating CSR dimensions into their investment deci-

sions based on both financial and social considerations (Dyck

et al., 2019). The stakeholder view of CSR suggests that CSR represents

an important tool for long-term shareholder value creation (e.g., El

Ghoul et al., 2017; Ferrell et al., 2016; Lins et al., 2017; Servaes &

Tamayo, 2013). Following this view, we predict that investors are likely

to exert a greater influence on improving CSR policies to enhance long-

term shareholder value due to strengthened governance practices fol-

lowing a country's corporate board reform (Oh et al., 2018).

However, although CSR has become an important business prac-

tice in recent years, opponents believe that it can be an agency cost

with the potential to limit shareholder value (e.g., Bénabou &

Tirole, 2010; Cheng et al., 2016; Friedman, 2007; Krüger, 2015).

3

More specifically, this perspective argues that CSR investment repre-

sents costly diversion of scarce resources and that managers engaging

in CSR are serving their own interests at the expense of shareholders.

From this perspective, improved board oversight and monitoring

resulting from strengthened corporate governance practices would

presumably reduce firms' CSR investment due to agency problems. An

alternative prediction is that corporate board reforms may have no

effect on CSR performance. CSR pertains to a broad array of issues

(such as reducing environmental emissions, providing employees with

adequate training and a safe working environment, and maintaining

the company's reputation and image) related primarily to non-financial

stakeholders. Thus, on a conceptual level, it seems unlikely that corpo-

rate board reforms that deal with audit committee and auditor inde-

pendence, board independence, or separating the positions of the

chairman and CEO would directly affect corporate CSR performance.

Overall, these discussions suggest that the ultimate effect of corpo-

rate board reforms on CSR is an empirical question.

Although there is a growing interest in the effects of corporate

governance on CSR performance (Arora & Dharwadkar, 2011;

Barnea & Rubin, 2010; Johnson & Greening, 1999), the empirical evi-

dence on the relationship between corporate governance and CSR

has been equivocal (Endrikat et al., 2020; Oh et al., 2018). This lack of

consistency in the previous findings thus calls for further investigation

that helps us better understand the relationship between corporate

governance and CSR. Given the possible endogeneity concerns in

examining the relationship between corporate governance and CSR

(Ferrell et al., 2016; Harjoto & Jo, 2011; Jamali et al., 2008; Jo &

Harjoto, 2012), the quasi-experiment provided by the worldwide

adoption of corporate board reforms

4

can presumably help us answer

the questions of (1) whether and how major corporate board reforms

in a country affect firms' CSR performance, (2) whether and how the

effect of reforms on firms' CSR performance varies with cross-

sectional differences across reform-, firm-, and country-level charac-

teristics, and (3) what are the possible channels through which board

reforms can affect firms' CSR performance.

To test whether corporate board reforms affect firms' CSR invest-

ment, we use data from Thomson Reuters ASSET4 to construct firm-

level CSR measures.

5

Based on a large sample of more than 20,000

observations from 34 countries with firms' CSR performance data

available, we examine changes in firms' CSR performance following a

country's implementation of major corporate board reforms. Using a

difference-in-differences (DID) research design, we find that, on aver-

age, firms' CSR performance improves after reforms. Our results hold

for both first board reforms and major reforms, across different types

of reforms (including reforms focusing on the improvement of board

independence, enhancing audit committee and auditor independence,

and encouraging the separation of the chairman and CEO roles), and

across different dimensions of CSR performance (environmental and

social dimensions). This finding suggests that corporate board reforms

implemented primarily to ensure financial returns to shareholders

(e.g., by improving board oversight/monitoring) also appear to have a

positive spillover effect for non-financial stakeholders.

In addition, we find that the positive effect of reforms on CSR is

mainly driven by firms in countries with rule-based reforms and in

countries with lower levels of CSR awareness in general. Additional

results suggest that reforms have a greater effect on CSR in countries

with a more stringent legal and regulatory environment. Finally, con-

sistent with studies showing the importance of CSR to shareholder

wealth (e.g., Dhaliwal et al., 2011; Dyck et al., 2019; Lins et al., 2017),

we find that the effect of reforms on CSR is more pronounced for

firms with higher levels of institutional ownership or lower levels of

insider ownership.

Although the above findings support the argument that corporate

board reforms positively affect firms' CSR, they do not indicate

whether increased post-reform CSR investment enhances shareholder

value. That is, firms' increased CSR investment could represent sym-

bolic CSR activities instead of substantive CSR initiatives (Cheng

et al., 2016; Cronqvist & Yu, 2017; Masulis & Reza, 2015). For

example, a higher level of CSR investment could result from managers'

symbolic response to increasing pressure from outside directors, who

tend to pay more attention to non-financial CSR performance than to

corporate financial performance (Ibrahim & Angelidis, 1995; Post

LIAO ET AL.497