The Relationship between Corporate Social Responsibility, Reputation, and Activist Targeting

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Sunday September 9, 2012 at 10:17 am
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Editor’s Note: The following post comes to us from Brayden King of the Kellogg School of Management at Northwestern University and Mary-Hunter McDonnell of the Northwestern University School of Law.

The global market has created a complex political environment for corporations. On the one hand, they seem less beholden to state control, but on the other hand they have become more concerned with brand, image, and reputation as assets used to gain customer loyalty, stakeholder support, and regulatory freedom (Klein 1999). Their reliance on reputation as an asset has meant that they have become more committed to impression management tactics, like philanthropic activity and improving firm environmental standards, in order gain the approval of the stakeholders that matter most.

Having a good reputation has numerous positive consequences for firms. In our study, Good Firms, Good Targets: The Relationship between Corporate Social Responsibility, Reputation, and Activist Targeting, which was recently made publicly available on SSRN, we suggest that it also creates certain liabilities. Belonging to the top tier of most reputable firms and engaging in reputation-building actions, like announcing prosocial activities, exposes a firm to activist attention, making them more likely targets of boycotts. Activists, ever eager for media coverage and the agenda-setting influence attached to it, use firms’ reputation-seeking as a weapon against the firm. By targeting firms that are already committed to reputation-building, they put those firms in a position where they must react by conceding or by doing more CSR activities if they wish to maintain their lofty status in the field. Our findings suggest that scholars who have asserted that CSR and other reputation-building activities have insurance-like properties that protect a firm from future activist challenges may be wrong. Rather than serving as a form of insurance against future criticism, CSR may in fact just make firms more attractive targets. Insofar as activists are eager to target companies that the media and other stakeholders will notice, companies that built reputations for being socially conscious are certainly on their radar. Such companies offer a visible stage for activists.

The irony of our finding is that firms believe reputations will protect them, and in a sense they are correct in this assessment. Past research suggests that boycotted firms are initially protected from negative investor reaction (King 2011). Investors seem to believe that high reputation firms will be able to better deal with the consequences of the boycott than firms with weaker reputations. But a firm’s positive reputation also creates critical liabilities. Firms with positive reputations also receive more negative media attention following a boycott, and for every additional day of boycott media coverage the corporate target experiences greater damage to the market value. The implication of this is that firms with a positive reputation have a greater incentive to quickly concede to activists’ demands. Failing to do so can damage their reputation and lead to a decline in their value.

Firms that become boycott targets are also more likely to increase the amount of prosocial activities they do in the public (McDonnell and King, working paper). Fearing the reputational threat represented by the boycott, they do more philanthropy, more community outreach, and engage in other CSR activities, hoping that their audiences will give more weight to these positive actions than they will to the negative claims made by boycotters. The results of this study suggest, however, that by increasing the amount of prosocial activities they do, these firms also expose themselves to the threat of future activist targeting.

The implication of these various studies is that the ever-greater focus on reputation-building only makes firms more vulnerable to activist attacks. Reputation, in this sense, has become an important liability for firms. Once a firm develops a positive reputation, they are obligated to maintain it. From the activist perspective, there is much to gain by forcing firms to defend their reputations. Not only do they generate more attention to their cause by targeting high reputation firms (King 2011), but the net social impact is also positive. As these firms do more prosocial activities to renovate their image after the boycott, they subsequently dedicate more resources and strategic focus on CSR. A virtuous circle, at least from the perspective of the activist, follows. More CSR practices leads to an improved (or at least maintained) reputation, which causes the firm to continue to be a target of activism, the consequence of which is more commitment to CSR. From the point of view of the company, however, having a good reputation can be a “double edged sword” or at least a potential liability when facing activists who seek the public limelight (Rhee and Haunschild 2006).

Of course, another implication of this pattern is that activist focus is almost exclusively on the upper tier of reputable firms. Corporations that are in the lower tier of the reputation index or that are not ranked at all receive considerable less attention from activists, and therefore those same firms have fewer incentives to engage in prosocial activities and may fly under the radar of activists no matter how irresponsible their practices are. Inasmuch as they are ignored by social movement activists, they have fewer reasons to engage in CSR activities and are freer to deviate from norms of moral and social appropriateness. Thus, even as prestigious firms are doing their best to improve their standards and become more socially conscious citizens, firms that fly under-the-radar because of their weak reputations are able to get away with irresponsible behavior. The net social impact of activists ignoring these less reputable firms is almost surely negative.

Future research ought to focus on the behaviors of firms that are not targeted by activists, assessing the consequences of failing to engage these firms. In addition, we need to develop a better understanding of how firms and activists negotiate settlements, such as those observed by Barley (2007), in which activist targeting is curtailed in favor of setting up certification systems or active partnerships between firms and social movement groups. Our research suggests that firms with positive reputations have good reasons to set up such partnerships, inasmuch as it would allow them to escape future activist targeting while also benefiting from the glow of prosocial actions.

The full paper is available for download here.

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