Abstract
This paper explores an increasingly prevalent element of board-level commitment to sustainability. We propose a theoretical framework under which the existence and associated actions of board-level sustainability committees are motivated by shared value creation, where the interests of a diverse group of stakeholders are satisfied and sufficient profit is achieved. Using hand-collected data, we find that sustainability committees are heterogeneous in focus and vary in their effectiveness. Specifically, we disaggregate the sustainability committee construct based on stakeholder group focus (i.e., community, employee, environment, and consumer/supplier) and find that associations between sustainability committees and performance outcomes are stronger when committees focused on a specific stakeholder group are paired with relevant performance outcomes. We generally find that sustainability committees are effective at impacting relevant strengths, but do not mitigate relevant concerns. These results are consistent with the shared value framework, where committees both generate value by pursuing sustainability-related opportunities and protect value by monitoring, but not necessarily mitigating sustainability-related risks. Univariate tests suggest that effective committees are also larger, more independent, and meet more frequently. Finally, we propose a new method to classify industries based on their sensitivity to certain stakeholder groups and find that the effectiveness of committees focused on specific stakeholders is more pronounced in industries that are sensitive to these stakeholders.
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Notes
Of note is that previous academic literature has used the term “environmental committee” and other general terms to describe the very same classification. We use the term “sustainability” as the descriptor throughout this study as it labels the committees most effectively as stakeholder related.
Stakeholders are defined as those that have a legitimate stake or claim on the business (Donaldson and Preston 1995) because they affect or are affected by the business (Freeman 1984). These stakeholders range from customers to employees, suppliers, and the local community (Clarkson 1995; Freeman 1984). The increasing popularity of the voluntary board-level sustainability committee is important in reflecting the extent that stakeholder interests have been integrated into corporate decision-making (Luoma and Goodstein 1999).
Prior research has examined the existence of several board-level committees and their direct impact on respective areas of responsibility. For instance, accounting research finds that before the requirement to have an audit committee, firms that voluntarily formed audit committees were generally found to have higher quality financial reporting processes and better external audit oversight (e.g., Beasley 1996; Beasley et al. 2000). Further, extensive literature examines the performance outcomes of nominating and compensation committees (e.g., Conyon and Peck 1998; Singh and Harianto 1989; Uzun et al. 2004). While these three principal committees are now common on corporate boards, research continues to find that voluntary committees, such as the finance and investment committee or risk committee also have an impact on relevant outcomes (e.g., Baxter et al. 2013; Klein 1998). Of note is that the Dodd–Frank Act now requires board-level risk committees for certain bank holding companies.
Enterprise risk management is a crucial form of organizational governance, where companies aim to identify potential events that may affect the entity and manage risk to be within its risk appetite (COSO 2004).
For example, a public policy committee would be included in the Rodrigue et al. (2013) sample as an environmental committee, but could quite possibly have no environmental focus, leading to a measurement error that could explain the lack of significant results.
The MSCI ESG STATS database assesses firms’ CSP across a range of dimensions geared toward institutional investors (Sharfman 1996). The database covers the largest 3000 U.S. publicly traded companies by market capitalization, which includes both the S&P 500 and the MSCI KLD 400 Social Index. Data on CSP is collected from publicly available industry and company reports.
Within the database, public companies are rated on approximately 60 indicators across seven major environmental and social responsibility categories. Each indicator is a dichotomous variable equal to one if the company meets the criteria established for that indicator, and zero otherwise. For example Apple, Inc. received a 1 in employee relations strengths for its supply chain labor standards, but also received a 1 for employee relations concerns for its child labor.
We also recognize that there have been critiques as to the validity of traditional constructions of CSP outcomes with MSCI data. By drawing our main conclusions and contributions from models using dimension-level MSCI data, we avoid many of the critiques of the CSP score construction process. To be sure, we perform analysis using two alternative measures of the dependent variables to ensure our results are consistent to variable specifications. We adjust all dependent variables by the industry average in each year. We also construct percentage dependent variable measurements, by dividing the scores used in the main analysis by the number of categories each firm-year was rated in. Results are consistent across all of these alternative specifications.
A burgeoning literature has also addressed this issue by utilizing the split dimensions within MSCI to create tailored CSP variables (e.g., Bouslah et al. 2013; Jayachandran et al. 2013; Kabongo et al. 2013; Walls and Hoffman 2013; Walls et al. 2012). These studies often use individual dimensions of the KLD database, whether that be only environmental (Walls and Hoffman 2013), only diversity (Kabongo et al. 2013), only environmental and human rights performance (Berliner and Prakash 2014), or each of the dimensions individually (Bouslah et al. 2013). Recently, Flammer (2015) find that the impact of product market competition on CSR investment varies depending on the category of investment.
The human rights dimension deals with underprivileged groups in the community.
The diversity dimension corresponds largely to actions that affect employees.
While some critics of this split measure approach argue that narrow measures do not reflect the full view of a company’s CSP, our study bypasses this by merely examining performance relative to the specific stakeholders focused on in the extended governance structure, rather than the broad definition of CSR.
BoardEx contains data on all board committees as reported in public company proxy filings. While prior studies have used limited samples and manually searched company websites for the existence of these committees, through BoardEx we are able to identify the full scope of unique committee names.
For example, unique names such as “civic & charitable affairs”, “ethics, compliance, & sustainability”, “employee development and retention”, “excellence”, “clinical quality”, and more listed in Appendix 1. These committees were not classified as sustainability committees by most prior studies.
About 26% of the originally identified sample was lost due to non-CSP related descriptions. For example, committees with “employee” in their name would initially be flagged as CSP related, but upon review often had only employee stock option plan responsibilities, which we would not consider to be an element of CSP. Similarly, an “asset quality” committee was originally flagged due to its reference for quality, but was deemed unrelated as it claimed oversight for the company’s credit practices and loan loss reserves. The largest portion of committees that were removed from our committee sample upon review of their responsibilities were “trust” committees, whose name may signal CSP related activity, but responsibilities consistently involved investment policies within finance industries.
Two research assistants and one author independently coded committee responsibilities into focus indicator variables. The coders’ initial agreement rates were above 90% and Cohen’s kappa was over 0.80 for each category, suggesting very high intercoder agreement (Freelon 2010). The coders met to resolve their coding differences and the updated coding is used in analysis.
For sake of presentation, only key variables (dependent variables, committee variable, and key control variables) are displayed. A full correlation matrix was examined, along with the VIF test statistic for each variable. All VIFs are below 10 in all our models suggesting that multicollinearity is not a serious problem in interpreting the results (Cohen et al. 2003).
Given the nature of our CSP measures, we also ensure results are robust to model specifications that account for non-negative count data. Stock and Watson (2007) suggest that OLS is appropriate for count data, but that alternative specifications may better account for count data distribution. We chose to use OLS in our tabled analysis due to its ability to generate post-estimation goodness of fit measures and for easier interpretation of regression coefficients (Manner 2010). Regressions using negative binomial and Poisson distribution specifications produce the same signs on all coefficients and similar levels of statistical significance.
For an interesting example of the differential impact of a single characteristic on both CSP strengths and concerns, see Boulouta (2013). Findings of this study show that board gender diversity has a stronger influence on CSP concerns than on CSP strengths.
Beyond statistical significance, it is important to discuss the economic significance of the impact detected before making practical recommendations (Bettis et al. 2016). Holding other factors constant in our sample, the existence of a sustainability committee is associated with one additional strength. Since the mean overall strengths score for the full sample is 1.83, this is a substantial 54.64% increase in strengths associated with the existence of a committee.
We are able to identify 22 first-time committee adoptions within our sample. Univariate tests suggest that CSP concerns are significantly higher in companies that adopt a sustainability committee than in those that do not. This is consistent with a risk management explanation, where CSP concerns are risk factors that lead to the creation of a sustainability committee.
Strike et al. (2006) find that R&D intensity is associated with CSP strengths, but not CSP concerns. This finding suggests that when a company invests in innovation and presumably social performance, they are able to enhance strengths, but are not able to prevent concerns.
Characteristic data is not available for all of the 1243 committee-firm-year observations in our sample, thus the sample for this analysis is 1196 committee-firm-year observations with complete data on committee size, independence, and meeting frequency.
We choose to evaluate effectiveness based on CSP strengths, rather than net CSP or CSP concerns, given the significance and consistency of this finding in our primary analyses.
We caution that a univariate analysis is used for simplicity of presentation, and that results should not be interpreted on the same level as multivariate findings for H1 and H2.
For example, Denbury Resources, Inc. falls within the oil and gas extraction industry and regularly faces environmental and safety related issues. Accordingly, the company has a “Safety, Environmental, and Reserves” committee that focuses on environment and consumer/supplier-related issues. Conversely, Marriott International, Inc. faces a vastly different CSP landscape as a service business within the hotels and lodging industry, and thus has an “Excellence” committee to oversee employee relations. It is evident in these examples that industry plays a large role in determining both CSP and committee focus.
Despite the advantages of a quantitative approach, we do recognize that qualitative approaches have been used in prior literature and have their own advantages. These classifications consider the impact of common industry activities on a given sustainability dimension. For instance, environmentally sensitive industries are often those that are resource intensive, including oil exploration, paper, chemical and allied products, pharmaceuticals, petroleum refining, and metals (Cho et al. 2006). While common for the environment dimension, this approach is difficult to apply to all dimensions of sustainability with accuracy (e.g., for the employee dimension, all firms have employees with issues that must be managed), and to the best of our knowledge such a classification has not been done for community and consumer/supplier dimensions.
Our results are robust to alternative cutoffs for the sensitive industry samples, including above the median, top quintile, and top decile.
First, the resulting classification of environmentally sensitive industries encapsulates all of the resource intensive industries that have been classified as environmentally sensitive in prior literature (Cho et al. 2006). This provides comfort that our approach does not result in classifications that conflict extant qualitative research. Second, we use data external to MSCI ESG STATS to validate the employee-sensitive classification. Since employee-sensitive industries are likely labor intensive, we examine the mean number of employees in each two-digit industry. Industries with the most employees include general merchandise stores, food stores, hotels and other lodging places, and building materials and gardening supplies. All four of these industries are classified as employee sensitive through our quantitative process. Further, most of the industries we classify as employee sensitive are in the top quartile of number of employees. Given these validations, we feel comfortable extending our quantitative method to the two other stakeholder groups, which allows the creation of a classification that has not been done under the qualitative method.
We recognize that in order to have a focused committee, the firm-year observation must be within the small portion of the sample for which a committee exists, and that this may limit the evidence provided in a full sample comparison. However, when this comparison is done within firms that have a sustainability committee, we still find a greater likelihood that firm-year observations in sensitive industries have a committee with a relevant focus. Interestingly, the consumer/supplier committee is more prevalent in industries that are not sensitive to the consumer/supplier dimension when the test is limited to those with committees. We attribute this finding to our earlier explanation that the consumer/supplier focus is the least discretionary and represents an issue that is likely considered by all firms.
Abbreviations
- CSP:
-
Corporate social performance
- MSCI:
-
MSCI ESG STATS database
- OLS:
-
Ordinary least squares
- ROA:
-
Return on assets
- SIC:
-
Standard industrial classification
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Acknowledgements
We thank seminar participants at Bentley University for their insightful comments. Jenna Burke is also grateful for financial support from the Harold S. Geneen Institute of Corporate Governance at Bentley University.
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Appendices
Appendix 1: Variable Definitions
Dependent variables | |
CSP score | Sum of net score (total strengths–total concerns) from each of the six MSCI ESG STATS dimensions (community, diversity, employee relations, environment, human rights, product); |
CSP strengths | Sum of total strengths from the six MSCI ESG STATS dimensions; |
CSP concerns | Sum of total concerns from the six MSCI ESG STATS dimensions; |
Community strengths | Sum of strengths from community and human rights dimensions; |
Community concerns | Sum of concerns from community and human rights dimensions; |
Employee strengths | Sum of strengths from employee relations and diversity dimensions; |
Employee concerns | Sum of concerns from employee relations and diversity dimensions; |
Environment strengths | Sum of strengths from environment dimension; |
Environment concerns | Sum of concerns from environment dimension; |
Consumer and supplier strengths | Sum of strengths from product dimension; |
Consumer and supplier concerns | Sum of concerns from product dimension; |
Test variables | |
Committee | Indicator variable equal to one if a board-level committee focusing on sustainability-related issues exists in firm-year; |
Community focus | Indicator variable equal to one if a board-level committee focusing on community- and/or human rights-related issues exists in firm-year; |
No community focus | Indicator variable equal to one if a board-level committee exists in firm-year and does not focus on community- and/or human rights-related issues; |
Employee focus | Indicator variable equal to one if a board-level committee focusing on employee-related issues exists in firm-year; |
No employee focus | Indicator variable equal to one if a board-level committee exists in firm-year and does not focus on employee-related issues; |
Environment focus | Indicator variable equal to one if a board-level committee focusing on environment-related issues exists in firm-year; |
No environment focus | Indicator variable equal to one if a board-level committee exists in firm-year and does not focus on environment-related issues; |
Consumer and supplier focus | Indicator variable equal to one if a board-level committee focusing on product-related issues exists in firm-year; |
No consumer and supplier focus | Indicator variable equal to one if a board-level committee exists in firm-year and does not focus product-related issues; |
Committee size | Number of members on the committee; |
Fully independent | Indicator variable equal to one if all members of the committee are independent directors; |
Meeting frequency | Number of committee meetings; |
Control variables | |
Board size | Natural log of number of members on the board of directors; |
Independence | Percentage of directors who are independent; |
Tenure | Mean tenure of all directors; |
Busy board | Indicator variable equal to one if 50% or more of board members sit on at least three boards (including the associated company); |
Size | Natural log of total assets at end of year; |
Quick | Current assets divided by current liabilities; |
ROA | Income before extraordinary items divided by total assets at beginning of the year; |
Leverage | Long-term debt divided by total assets from end of year; |
R&D investment | Ratio of research and development expense to sales |
Appendix 2: Sustainability Committee Classification
Stakeholder groups | MSCI dimension | Sample committee names (from coded data) | Common committee responsibilities |
|---|---|---|---|
Community | Community | Public interest, public issues, community and external relations, civic and charitable affairs, charitable contributions, etc | Charitable giving, Community impact, Community engagement, volunteer programs, etc |
Human rights | Public policy, public issues, corporate social responsibility, ethics compliance and sustainability, etc | Labor rights, Human rights policies and initiatives, human rights violations, etc | |
Employees | Employee relations | Occupational safety and environmental protection, operational safety, public policy, employee development and retention, etc | Union relations, employee involvement, employee health and safety, professional development, child labor, etc |
Diversity | Employee and public responsibility, public affairs, diversity review, corporate responsibility, excellence, etc | Women and minority contracting, employment of the disabled, employment of underrepresented groups, etc | |
Environment | Environment | Environmental health safety and public policy, environmental and safety, environmental and corporate responsibility, etc | Waste management, climate change, water stress, biodiversity and land use, raw material sourcing, etc |
Consumer/supplier | Product | Environmental and safety, quality, public policy, best practices, nuclear, clinical quality, excellence, safety, etc | Product quality and safety, customer relations, etc |
Appendix 3: Independent Variable Coding
The following responsibility statements are taken from the proxy filing for each committee-firm-year:
Arch Coal Inc. 2013 | Delta Air Lines Inc. 2013 |
|---|---|
“Energy and Environmental Policy” Committee | “Safety and Security” Committee |
The Energy and Environmental Policy Committee reviews, assesses and provides advice to the Board on current and emerging energy and environmental policy trends and developments that affect or could affect us. In addition, the Energy and Environmental Policy Committee makes recommendations concerning whether, and to what extent, we should become involved in current and emerging energy and environmental policy issues | Among other matters, the Committee: • oversees and consults with management regarding customer, employee and aircraft operating safety and security, including related goals, performance and initiatives by: • reviewing current and proposed safety and security-related programs, policies and compliance matters • reviewing matters with a material effect on Delta’s flight safety operations and security • establishing and approving annual safety and security goals reviewing the safety and security programs and performance of the Delta Connection carriers • reviewing the security of the Company’s information technology systems and operations, including defenses against cyber threats to the airline |
These descriptions illustrate that the committees focus on different dimensions of sustainability. These committees are therefore coded as one for the following indicators, which are used in empirical analysis.
Arch Coal Inc. 2013 | Delta Air Lines Inc. 2013 |
|---|---|
“Energy and Environmental Policy” Committee | “Safety and Security” Committee |
Committee | Committee |
Environment focus | Employee focus |
No community focus | Consumer/supplier focus |
No employee focus | No community focus |
No consumer/supplier focus | No environment focus |
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Burke, J.J., Hoitash, R. & Hoitash, U. The Heterogeneity of Board-Level Sustainability Committees and Corporate Social Performance. J Bus Ethics 154, 1161–1186 (2019). https://doi.org/10.1007/s10551-017-3453-2
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DOI: https://doi.org/10.1007/s10551-017-3453-2