How Third-Party CSR Ratings Impact Share Price
Being added to external corporate social responsibility indices enhances a companyâ€™s reputation and can affect its share price, but not always in ways expected. This article examines how the stock prices of 121 companies changed after being added to or removed from the Calvert Social Index.
Socially responsible investing has been growing faster than the overall market over the last decade. According to Lipper, socially responsible mutual funds are growing while other diversified equity funds are shrinking. Companies in the Carbon Disclosure Leadership Index (CDLI) and Carbon Performance Leadership Index (CPLI) deliveredÂ double the total return of Global 500 companies between January 2005 and May 2011 (see CDP Canada 2011: Key Highlights).
Generally speaking, being added to an external index amounts to an institutional endorsement and boosts a companyâ€™s stock price. The effects from being added to the S&P 500, for example, have been examined in various studies (Jain, Dhillon, Beneish). All confirmed that joining the index brings gains. Leaving the index brings losses.
Does the same also apply to indices in the area of corporate responsibility? Does joining the Calvert Social Index, widely used by many socially responsibleÂ mutual funds,Â boost a companyâ€™s stock price and leaving the index decrease it? During the six year period, from 2000 to 2005, 56 companies were added to the Calvert Social Index while 65 companies were removed. Each of the 121 companiesâ€™ stock prices was tracked by researchers at Villanova School of Business from the day before the addition or removal announcement through to 2 days after the announcement. The results were not all as expected.
The overall finding: Being added to a corporate responsibility index does not increase a companyâ€™s share price, but when a company is removed, its stock price takes a hit.
On first look, this appears to be a no-win situation. Your share price either remains the same or drops. Does this mean companies should simply avoid being added to any corporate responsibility index? It turns out, as is often the case, the background reasons are more interesting than the overall finding.
An announcement of addition to the index does not mean a company has changed overnight. It means the company has been demonstrating good corporate citizenship behaviour for one or more years in areas including environment, governance and ethics, human rights, community relations, etc. By the time a company joins the index, many great achievements had been made over a significant period of time.Â Naturally, they had also been communicating these achievements to the public through press releases and other communications. Rightfully so. These communications had been steadily lifting the stock price so that by the time they join the index, no further significant increase occurs.Â The research data does show that in the year prior to being added to the index, these companies delivered higher market-adjusted returns and more positive changes in operating performance than their deleted peers. So their stock prices did increase, just not during the index announcement.
The situation is quite different when it comes to removal from the index. A removal means the company, which had previously been a good corporate citizen, has stopped much of their good behaviour. But companies do not issue press releases when they stop doing something good. The general public does not notice something has changed until an external index announces the company no longer meets the criteria for their inclusion. Such announcement brings new information to the public. The market reacts to the new information and the stock price drops. In dollar terms, the average deleted firm in the study lost four million dollars in market capitalization on the day of and the day following the deletion announcement.
What is the take away from this? Focus not on the indices but on internal performance. Many studies have found that a companyâ€™s social performance and financial performance are linked (e.g.Â Waddock,Â Orlitzky, Schmidt, and Rynes). Firms that take actions to improve their social performance tend to also improve their operating performance, which leads to good financial performance. Focus on social and operating performance. Share your achievements with your stakeholders and your shareholders will thank you. Being added to an index is simply icing on the cake.
Derek Wong is a Toronto based sustainability consultant. See contact info and more posts like this at Carbon49.com.
Energy Manager News
- Senators National Energy Policy Vision Leads to a Hopeful Future
- Google Builds Data Center on Site of Old Coal Plant
- EPA Honors 3 Facilities for Combined Heat and Power
- Cheese Factory Installs Anaerobic Digestion
- Certification Program Established for Green Button Standard
- Diesel Genset Market to Reach $68B by 2024, Navigant Says
- Emulsion Mist Collectors Designed for Heavy Industry
- IKEA Plugs In Fuel Cells at California Store