CSR performance and the cost of debt: does audit quality matter?

Author:Sami Bacha, Aymen Ajina, Sourour Ben Saad
Publication Date:26 Nov 2020
CSR performance and the cost of debt:
does audit quality matter?
Sami Bacha, Aymen Ajina and Sourour Ben Saad
Purpose This study aims to shed light on the effectof corporate socialresponsibility (CSR) on the cost
of debt. It also investigateswhether audit quality affects the cost of debt incurredby socially responsible
Design/methodology/approach Based on a sample of French non-financial companies over the
period 2005 to 2016, this paper uses paneldata regressions. This paper re-estimates the model using
Newey-West standarderrors and the weighted-least-squaresmethod. For further robustness, thispaper
runs instrumental variableregressions using the two-stage instrument variable method (two-stage least
Findings The results show a negative relationship between CSR performance and the cost of debt,
suggesting that financial institutions are likely to apply preferential costs for socially responsible firms.
Financial institutionsreward socially responsible companies as they recognizethe potentiality of CSR to
reduce firmrisk and enhance its reputation. The findingsalso show that the perceived audit quality,along
with CSR performance, are relevant to banks in the pricing of debt. The incremental audit quality,
attributable to auditsby the Big 4 auditors, decreases the cost of debt for CSR firms.Big 4 auditors are
expectedto, simultaneously, play information and insuranceroles, thereby enhancing the firm riskprofile.
The resultsare robust to alternative audit qualitymeasures (i.e. audit fees).
Practical implications This study has importantimplications for managers and banks. Managerswill
be able to understand the effect of CSR on financing costs with relevant implications for strategic
financing planning.Firms are also encouraged to signal their commitmentto maintain a high-level quality
reporting and reduce agencycosts through their expenditure in auditing (i.e. hiring a largewell-known
audit firm). Moreover, this study sensitizes banking institutions to encourage the concept of socially
responsible finance and consider soft information (i.e. involvement in societal issues, corporatecitizen,
trustworthiness,integrity and non-opportunisticbehavior), as part of the credit decision-makingand debt
Originality/value This study extends the literature on CSR and the cost of debt. Unlike prior studies,
this paper focuseson the debt-pricing effects of auditquality for CSR firms. Audit qualityis deemed to be
an important governance feature that is likely to constraint opportunistic behaviors (i.e. CSR diversion)
and play information and insurance roles to lenders. Audit quality (perceived or real), along with CSR
performance,are associated with lower costsof debt.
Keywords Corporate social responsibility, Cost of debt, Audit quality, Big 4, Audit fees, France
Paper type Research paper
1. Introduction
Extensive literature on corporate social responsibility (CSR) has shown that the positive
effects related to CSR are many, and have an impact on internal and external firms’
resources. Interestingly, prior studies have mostly focused on the financial impacts of CSR
on firm performance (Tang et al.,2012;Torugsa et al., 2013;Flammer, 2015;Amini and Dal
Bianco, 2017). Finally, a growing attention was paid to the strategic effects of CSR
performance on the firm value and the reputational risk (McWilliams et al.,2006;Drews,
2010;Odriozola and Baraibar-Diez, 2017). Among others, the CSR-cost of debt link has
attracted a growing attention in the recent literature (Oikonomou et al.,2014;Cooper
Sami Bacha is based at the
Faculty of Economic
Sciences and Management
of Sousse, University of
Sousse, Sousse, Tunisia.
Aymen Ajina is based at the
Faculty of Economic
Sciences and Management
of Sousse, University of
Sousse, Sousse, Tunisia.
Sourour Ben Saad is based
at the Department of
Accounting and Finance,
University of Sousse,
Sousse, Tunisia.
Received 3 November 2019
Revised 10 February 2020
25 April 2020
10 July 2020
2 October 2020
15 October 2020
Accepted 18 October 2020
DOI 10.1108/CG-11-2019-0335 VOL. 21 NO. 1 2021, pp. 137-158, ©Emerald Publishing Limited, ISSN 1472-0701 jCORPORATE GOVERNANCE jPAGE 137
and Uzun, 2015;Ge and Liu, 2015;Magnanelli and Izzo, 2017;La Rosa et al.,2018;
Bhuiyan and Nguyen, 2020). On the point, there is no unanimous position in the literature,
as CSR activities could negatively affectthe cost of debt financing or on the opposite, make
access to capital more serious. The findings show that the strategic effects of CSR on the
cost of debt depend on how financial stakeholders and creditors recognize the potentiality
of CSR to reduce opacity risk, and perceiveits benefits on firm value and reputation.
The literature on the determinantsof financing costs generally documents a positive relation
between a firm risk profile and firm transparency, and its cost of debt (Leland and Pyle,
1977;Diamond and Verrecchia, 1991). The literature on CSR, instead, presents risk
reduction (Albuquerque et al., 2019), informational conflicts resolution (Cui et al.,2018),
enhanced reputation (Melo and Garrido-Morgado, 2012), as many potential benefits of
these activities. Recent studies have shown that CSR is considered to be important issues
for stakeholders and financial investors (McWilliams and Siegel, 2011;Harjoto and
Laksmana, 2018;Clark et al.,2019;Murashima, 2020). CSR is certainly interesting because
of its increased demand from stakeholders and the current trend toward CSR(Helmig et al.,
2016). Garcı
anchez, and Noguera-G
amez (2017) argue that CSR is considered as a
crucial value for success while looking for a greater transparency in relation to firm
performance. Clark et al. (2019) alsoshow that investors use CSR performance to select the
most ethical or responsible companies for their portfolio. Besides, Miller et al. (2020) attest
that corporate social reputation influences its creditworthiness as part of its financial
In this paper, we consider that banks and financial institutions have no social agenda to
promote. They are interested solelyin the ability of the borrower to repay its loan obligations
and evaluate firms only considering the firm’s financial leverage, risk profile and capacity to
meet financial obligations. Hence, if CSR implies an increasing reputation or a reduction of
the risk, and, consequentially, an improvement of the financial performance, banks will
apply better conditions on loans granted to these firms. As the instrumental view of
stakeholder theory suggests, the pursuit of social responsibilities helps firms to create
positive synergies with shareholders and non-investing stakeholders, and gain reputational
advantages that can impact on the firm’soverall performance, reducing thus, their financing
costs (Dhaliwal et al.,2014;El Ghoul et al.,2018;). Alternately, if CSR is perceived as a
discretionary activity or a concealment strategy, socially responsible firms may suffer of a
competitive disadvantage due to the agency conflicts arising between shareholders and
debtholders (McWilliams et al.,2006;Osma and Guillam
´n, 2011;Liang and
Renneboog, 2018). From an agency perspective, CSR activities are associated with
diversion of shareholders’ scrutiny that may exacerbate information asymmetry issues and
impair firms’ reputation,resulting then in higher capital constraints (Cheng et al., 2014).
Audit quality literature have highlighted the value relevance of audits to shareholders,
investors and creditors (Becker et al.,1998;Humphrey, 2008;Francis, 2011;DeFond and
Zhang, 2014;Ciconte et al., 2015). Independent auditors may play an important role in
reducing information asymmetry between managers and stakeholders, and contribute to
the efficient resolution of contracting problems by producing valuable information about
borrowers (Minnis, 2011;Causholli and Knechel, 2012). An enhanced audit process quality
is expected to result in higher quality financial reporting, more credibility and less
opportunistic behaviors (Becker et al., 1998). Knechel et al. (2013) add that the level, real
and/or perceived, of auditor capability and independence varies across different market
and institutional settings, as well as between groups of auditors. In this line, DeAngelo
(1981) argue that audit quality increases with the size of an audit firm. Larger auditors are
expected to have larger reputationalincentives to maintain independence from their clients.
Therefore, the purpose of this paper is, while enhancing the empirical results of the effects
of CSR activities on the cost of debt, to investigate the value relevance of the perceived
audit quality to banks and financial institutions. Specifically, we investigate whether hiring a

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