Do the Math on Social Responsibility

by John Peloza

CSR advocates should not shy away from financial metrics

Corporate social responsibilities (CSR) is divided into two camps. One is typified by people with expertise in environmental management, community relations or perhaps the non-profit sector. They can be completely lacking in experience with financial management. Some have even chosen CSR as a career path because they are intimidated by the quantitative measures used in accounting and finance. They do not comprehend cash flow, share price alpha, or the difference between return on assets versus return on equity.

It’s the accountants and finance managers who speak this quantitative language who are found in the other camp. They often have a completely different view of CSR, and worry that the financial impact of such initiatives cannot be measured.

This chasm became acutely apparent when I recently presented a paper on this subject at a CSR conference. When a colleague asked the room of more than 100 professionals how many of them were money managers, equity analysts, or work in a finance role within their organization, not one person in the room raised a hand. We were all speaking to ourselves, and speaking in a different language from the one spoken at the intersection of King and Bay in Toronto’s financial district.

CSR advocates don’t do themselves any favours by shying away from financial metrics. The number crunchers are usually in charge of the investment decisions. But people on both sides of the chasm are skeptical that the financial impacts from these “soft” initiatives can even be measured and valued.

Their skepticism is understandable. After 35 years of study, we don’t know very much about the financial impacts from investments in CSR. Although there is ample evidence to support a positive relationship between CSR and financial performance, questions remain about the efficacy of CSR investments. Does CSR lead to improved financial performance, or does improved financial performance give firms the ability to invest in CSR? When a board asks for the return on investment in CSR, is it acceptable for managers to point to a small average positive correlation over time, as is often the case? This amounts to the “trust me” argument, and it doesn’t work for CSR any more that it works for any other investment made by the firm.

The majority of studies on the impact of CSR on financial performance, whether from the academic or practitioner realms, rely on a single, broad measure such as a change in share price. The problem with these metrics is that they don’t allow managers to track impacts of specific initiatives. More important, they don’t provide leading indicators so managers can adjust their strategies on the fly. They only provide a broad form of “post mortem” without any specific learning. This is hardly a compelling argument for a board.

Enlightened managers track results from CSR through measuring impacts across a range of stakeholders. For example, investments in a recycling program can have a positive impact far beyond the potential cost savings directly attributed to reduced waste. Price premiums with consumers are often associated with CSR. Employees at these firms tend to be more satisfied than those working at “regular” firms. Regulators look at these firms more favourably when they are asked to make a decision. Each of these potential impacts can be captured and contrasted against investments in CSR. In turn, these impacts can be translated into the type of metrics that carry sway with decision makers and the board – earnings per share, return on equity, etc. But without a series of metrics to measure the impact of one on the other, managers are left with nothing more than guesswork and personal bias.

The inclusion of more specific metrics will be especially critical as much of the “low hanging fruit” of CSR becomes picked over. At the moment, many firms can make easy choices for CSR. Moving to energy-efficient light bulbs costs $X and saves $Y. The go/no go decision is easily translated into the language of business. But as CSR initiatives become less obviously profitable, and increasingly rely on the nuanced reactions of stakeholders such as employees, consumers, and regulators, metrics must keep pace.