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Corporate Social Responsibility and Bankruptcy

Elizabeth W. Cooper

Associate Professor of Finance

La Salle University

Philadelphia, Pennsylvania

215-951-5138

cooper@lasalle.edu

Hatice Uzun

Associate Professor of Finance

Long Island University

Brooklyn, New York

718-488-1128

hatice.uzun@liu.edu

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Corporate Social Responsibility and Bankruptcy

I. Introduction

Does corporate social responsibility improve a firm’s financial performance? This question

has been asked many times over in the academic literature. While the corporate social

responsibility (CSR) – financial performance relationship has been studied from various business

perspectives including management, finance, and accounting, the results do not overwhelmingly

support a distinct relationship between the two. On the one hand, there is research showing a

positive relationship between CSR and financial performance. In a meta-analysis of studies

looking at the relationship between CSR and performance, Margolis and Walsh (2003) find that

almost 50% of the studies examined demonstrate a positive relationship between the two. On the

other hand, other studies, such as Brammer et al. (2006), demonstrate a negative relationship

between CSR and stock market returns. Additionally, studies like Nelling and Webb (2009),

Hamilton et al. (1993) and Mahoney and Roberts (2007) find generally inconclusive or no

relationship between measures of CSR and financial performance.

In this paper, we look at an element of performance that to the best of our knowledge so

far has not been analyzed in the corporate social responsibility framework: bankruptcy. Much of

the previous literature in CSR has been devoted to whether CSR determines or plays a role in

financial outcomes such as stock returns, accounting performance indicators, risk, and capital

costs. Bankruptcy, while an outcome of financial performance, is certainly not the outcome of

choice for a firm. However, the situation of financial distress and bankruptcy provides an ideal

setting in which to test the true worth and practicality of CSR. Here, the first research question

that we ask is whether CSR plays a role in determining the likelihood of bankruptcy. Does CSR

make a difference in whether a firm faces the ultimate in financial distress and files for Chapter 11

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bankruptcy? In addition, for those firms that do file for bankruptcy, does CSR explain any

difference in the probability of that firm eventually reorganizing and emerging from bankruptcy?

Our analysis is based on 78 U.S. firms that filed for Chapter 11 bankruptcy during the

period 2007 to 2014. The results suggest that CSR plays a role in determining whether or not a

firm files for bankruptcy. In particular, firms with better CSR performance are less likely to file

for bankruptcy compared with firms with worse CSR performance. This is based on our use of a

matched sample approach so that we can scientifically look at differences in how CSR impacts

firm performance. This result supports the stakeholder theory of CSR. We also look at the

relationship between CSR and bankruptcy probability under conditions of varying leverage and

firm size. Under Chapter 11 firms are able to and encouraged to reorganize and eventually emerge

as a stronger company. In this vein we also ask whether CSR plays a strategic role in firms that

are able to successfully reorganize and emerge as a firm with improved performance and viability.

We find limited evidence, however, that CSR impacts the likelihood of a firm emerging from

bankruptcy. So, while CSR may be an effective tool in avoiding bankruptcy in the first place, it is

not clear that CSR helps a firm strategically once it is deemed insolvent.

The theories that are commonly used to analyze CSR in a financial performance context

are utilized here with the background of bankruptcy and financial distress. Interestingly,

bankruptcy brings together much of the theoretical underpinnings of CSR research in that it

directly involves several stakeholder groups. For instance, creditors bear the brunt of the direct

cost of bankruptcy (Eckbo, Thorburn, and Wang (2016)). Along with the creditors from the

investment side, suppliers are also importantly impacted by the cessation of a client firm. Of

course, shareholders are impacted by a bankruptcy even before the firm files. Employees, the

community and customers are also affected by a firm that undergoes bankruptcy. Bankruptcy is

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costly for employees in the form of losing income and other benefits of working in a firm. For

example, Verwijmeren and Derwall (forthcoming) examine the relationship between employee

well-being and debt-ratios. They show that strong employee well-being is associated with lower

debt-to-asset ratios. While general economics play a role in the success or failure of a business, at

the heart of the firm are the insiders – managers and executives – who ultimately make decisions

that lead the firm one way or another.

This paper extends the existing corporate social responsibility literature but looks at CSR

not from the angel of financial “success” but rather from financial failure. We argue that this is an

important direction for the CSR literature to take as it has been shown that CSR’s impact on

financial success (such as stock returns or profitability) is less than conclusive. It could be the case

that CSR does not substantively impact financial measures of successful performance but rather it

acts as a deterrent or precipitator of a firm’s ultimate demise. If, however, it does not play a role

in bankruptcy determination or outcome, this non-relationship may actually support the idea that

CSR is inherent to a company’s position on the responsibility of the firm and is not done for ulterior

motivations.

The results from our research could potentially help academics and practitioners alike in

seeking understanding and reason behind CSR involvement and bankruptcy avoidance and

success. The question of whether CSR matters at all is worth asking. Does CSR matter if a firm

wants to avoid bankruptcy? If so, why is this the case? If a firm does file for bankruptcy, does the

amount of CSR involvement help in turning the company around and ultimately emerging from

bankruptcy? Alternatively, CSR may not in itself be useful in preventing bankruptcy or emerging

from it, but rather it is a standalone decision based on belief and character that is without regard to

financial success (or failure).

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The rest of the paper is organized as follows: Section II presents the literature review

section III describes the data, section IV presents empirical methods and results, and the conclusion

is presented in section V.

II. Literature Review and Hypothesis Development

a. Bankruptcy

The number of businesses filing for bankruptcy has peaked in recent years as a result of

the financial crisis in 2008. In particular, according to the American Bankruptcy Institute, there

were 60,837 business bankruptcies filed in 2009 compared to 24,735 in 2015 and 35,472 in 2000.

Financial, corporate governance, and ethical issues that contribute to risk of bankruptcy have

increasingly attracted the attention of researchers, practitioners, and policy makers.

One line of existing studies examines the link between accounting and market-based

financial data and bankruptcy (see, for instance, Altman (1968); Ohlson (1980); Clark and Ofek

(2004); Kwak et al. (2005); Reisz and Perlich (2007); Franzen et al. (2007); Dawkins and et al.

(2007); Singhal and Zhu (2013); Lyandres and Zhdanov (2013); Ho C. Y. et al. (2013)). Another

line of existing studies examine the link between corporate governance and risk of the bankruptcy

(for example, Daily and Dalton (1994); Elloumi and Gueyie (2001); Fich & Slezak (2008); Parker,

Peters, and Turetsky (2002); Platt and Platt (2012); Robinson, Robinson, and Sisneros (2012);

Darrat and et al. (2016); Eckbo, Thorburn, and Wang (forthcoming). However, to the best of our

knowledge, there has been no study on the link between CSR and bankruptcy. To fill this gap in

the literature, we examine the relationship between CSR and the likelihood of bankruptcy.

Furthermore, we also examine whether CSR explains any difference in the probability of that firm

eventually reorganizing and emerging from bankruptcy.

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When a company files for Chapter 11 under the U.S. Bankruptcy Code, it is essentially

declaring that although it is not able to keep the business afloat, the company wants to reorganize

itself so that eventually it can continue as a going concern in the future. At the time a firm files for

Chapter 11 bankruptcy they also must propose a plan of reorganization. At the heart of the plan is

the intent to keep the business alive. Generally, firms need to figure out a way to pay back their

creditors over time and work with suppliers and other stakeholder groups that are impacted by the

firm and that also impact the firm’s own value creating activities.

The existence of a reorganization plan does not automatically mean it will successfully

emerge from bankruptcy. Research points to certain characteristics that tend to predict whether a

firm will successfully emerge from bankruptcy. For instance, Denis and Rodgers (2007) find that

firms that significantly reduce assets and liabilities increase the likelihood that they will

successfully emerge from bankruptcy. Further, they find that the time spent in Chapter 11 is

directly related to the pre-bankruptcy size and operating performance of the firm. Heron, Lie and

Rodgers (2009) find that in firms that do emerge from bankruptcy, their debt ratios are higher than

the average of their respective industries. They argue that Chapter 11 proceedings may not be the

most efficient model of reorganization for firms experiencing financial distress.

In a study of firms that emerge from Chapter 11 bankruptcy Bogan and Sandler (2012) find

that having new management in place is the strongest determinant of post-bankruptcy survival. So

although Chapter 11 may not be the most efficient reorganization model, it may be the case the

procedure works effectively when under proper management. James (2016) finds that relationships

with stakeholders (as measured by executory contracts) influence the probability of whether a firm

subsequently emerges as a going concern. In particular, she finds that rejected executory contracts

(contracts that the firm has with primary stakeholders) increases the likelihood of a firm emerging

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from bankruptcy. This result supports a stakeholder management view of bankruptcy whereby

firms use Chapter 11 to make strategic changes that ultimately increase firm value. Interestingly,

one theory of corporate social responsibility involves stakeholders and thus a clear connection

between the two literatures becomes evident.

b. Corporate Social Responsibility

Why companies engage in corporate social responsibility remains a question but three

competing arguments take hold in the literature: Stakeholder theory, agency theory, and pure

altruism. Originating from Freeman (1984), stakeholder theory suggests that CSR resolves

conflicts among stakeholder groups and therefore should be compatible with better financial

performance. Managing and supporting stakeholder groups effectively should be associated with

stronger long-term value. In this sense CSR is not purely an altruistic ideal but is integral to the

success of the firm financially. Stakeholder theory also suggests firms that purposefully and

strongly engaging in corporate social responsibility ultimately take on lower risk. Erhemjamts, Li,

and Venkateswaran (2013) support the idea that CSR can be effective as a stakeholder management

tool and firms that are strong CSR performers exhibit favorable investment and organizational

strategies. Wu and Shen (2013) find that CSR is positively associated with financial performance

in the banking industry and argue that this supports the idea that CSR is a strategic choice of the

firm.

Agency theory derives its roots from Jensen and Meckling (1976), in which the authors

state that there is a distinction and information asymmetry between agents (managers) and

principles (shareholders). In this context, corporate social responsibility is ultimately a value-

destroying activity as it is seen as a waste of valuable resources in the face of the firm’s true

purpose of increasing shareholder wealth. Specifically, agency theory suggests that firms that

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engage in CSR activities do so for the benefit of insiders as it improves their reputation but it is at

the expense of the firm’s investors, who would rather see that money used for value-creating

investments or returned to shareholders through dividends. Ultimately, agency theory predicts a

detrimental financial impact to firms engaging in overt CSR activities.

Finally, pure altruism suggests that firms engage in CSR activities without an ulterior

motive; they do so because of an inherent belief that a company has a duty beyond financial

performance. In line with this argument is the finding that successful firms have the resources

available to address social issues and are seen to do so to a greater extent compared to firms that

do not have the financial means. Waddock and Graves (1997) point to a cycle of financial success

leading companies to engage more heavily in social issues, and those social endeavors helping to

lead to more financial success. At the heart is the idea that a company may choose CSR simply

because it is able to do so and managers, with shareholder support, justify the spending on the

firm’s responsibility beyond financial performance and reward. In fact, the term “corporate social

responsibility” suggests just that; a company’s ultimate responsibility lies beyond shareholder

success.

In this paper, these theories will each be tested in the context of bankruptcy. First, we test

whether CSR plays a role in the probability that a firm experiences bankruptcy. Specifically, we

look at a sample of firms that have filed for Chapter 11 bankruptcy and a matched sample of firms

that have not filed for bankruptcy and see whether CSR differentiates between the two. Our test

results should lend support to one of the three preceding theories. While each of the theories is a

possibility, based on the bankruptcy literature we expect that stakeholder theory is the predominant

theory to emerge. Hence, our first hypothesis is the following:

H1: There is a negative relationship between CSR and the likelihood of bankruptcy.

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This would imply that a firm with strong CSR has a lower probability of bankruptcy, all

else being equal. Stakeholder theory suggests that CSR creates a positive atmosphere with the

firm’s various stakeholder groups and that this would create financial benefits for the firm.

Therefore, if this is the case the firms with stronger CSR programs and actions should see better

financial performance and therefore exhibit a lower likelihood of filing for bankruptcy. While

previous literature has shown mixed results (albeit most findings suggest a positive relationship

between CSR and financial performance), it may be the case that the impact of CSR on typical

measures of financial performance is difficult to detect. Therefore, looking at bankruptcy may give

a different and clearer perspective on this relationship.

However, should we find that there is a positive relationship between CSR and the

likelihood of bankruptcy, the result would lend support to the agency theory of CSR. Further, if

no relationship exists between CSR and bankruptcy this would suggest that CSR may be a purely

altruistic activity and one that is more related to firm choice and preference rather than as an

entrenchment tool (agency theory) or as a means to enhance financial performance (stakeholder

theory).

We extend this analysis to see whether certain factors about the firm would make CSR

more (or less) important in terms of bankruptcy prediction. We examine the interaction effect of

two variables. Specifically, if a firm is highly leveraged, the stakeholder benefits associated with

CSR may not be enough to steer a company away from the path of bankruptcy. Since highly

leveraged firms need to generate and retain cash to pay higher interest on the debt, this might

reduce their ability to fund more CSR and CSR reporting (Barnea and Rubin, 2010). Further, at

some point, the risks associated with high amounts of debt would outweigh any benefit to the firm

associated with strong CSR.

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Additionally, the size of the firm may make a difference in terms of how CSR impacts the

probability of bankruptcy. For large firms, the impact of CSR should be stronger on bankruptcy

determination as these firms may be more visible and would benefit the most from stakeholder

considerations. According to Barnea and Rubin (2010) and Branco and Rodrigues (2006) large

firms have greater impact on communities (stakeholders, investors, customers, authorities) and

therefore, firm size is likely to influence the amount of CSR disclosure to address the concern of

various stakeholders groups.

Hence, we propose two additional hypotheses:

H1a: The inverse relationship between CSR and the likelihood of bankruptcy is stronger

for firms with low debt ratios relative to firms with high debt ratios.

H1b: The inverse relationship between CSR and the likelihood of bankruptcy is stronger

for large firms relative to small firms.

Second, examining the firms that experience bankruptcy, we analyze whether CSR is a

contributing factor in whether that firm ultimately survives and emerges from bankruptcy. We also

expect to see the stakeholder theory of CSR emerging as the preeminent theory. Specifically, the

second hypothesis is the following:

H2: There is a positive relationship between CSR and the likelihood of emergence from

bankruptcy.

Stakeholder theory would suggest that with the support of stakeholders, better performing

CSR firms should be able to successfully navigate through bankruptcy proceedings and emerge

eventually as a newly formed company. Their ties to stakeholders through CSR engagement should

help the firm emerge from bankruptcy at a higher rate than firms with weak CSR and less

stakeholder support.

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As with the first hypotheses, alternate theories may be supported. A negative relationship

between CSR and the likelihood that the firm successfully emerges from bankruptcy would

indicate that managers simply use CSR as a tool to protect themselves. Ultimately, CSR would

negatively impact financial performance and therefore would be a deterrent to bankruptcy emerge

rather than a support. A non-significant relationship could indicate that CSR is a strategic

preference of the managers and owners of the firm and therefore an altruistic behavior rather than

a behavior with a goal to influence management entrenchment or firm performance. It could also

indicate that CSR is not something that can help (or hurt) a firm’s chances of recovering from

bankruptcy. Other factors may outweigh this particular indicator in determining the likelihood of

emergence.

III. Data

We begin by utilizing the LoPucki Bankruptcy Research Database. This database includes

firms that have filed for bankruptcy since October 1979 with the condition that the firms be

considered “large” (assets over $100 million in 1980 dollars), publicly traded, and had filed a 10-

K within the three years prior to filing for Chapter 11. Here, we identify those firms that filed for

Chapter 11 bankruptcy from 2007 to 2014. There are 246 firms in the LoPucki Database during

this time period. From this database we also collect information about the bankruptcy itself

including financial data about the firm one year prior to bankruptcy and characteristics regarding

the bankruptcy itself. The database identifies whether the firm filed bankruptcy along with pre-

packaged or pre-negotiated terms that could ease the negotiations of large creditors regarding debt

contracts. Further, we collect information on how long the CEO was in that position prior to the

bankruptcy filing date and whether the CEO was replaced during the bankruptcy proceedings.

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Additionally, we identify whether a firm eventually emerged from Chapter 11 and ultimately

“survived.”

The sample of firms from LoPucki’s Database is matched to firms in MSCI’s STATS

database over the same time period. The STATS database, formerly known as KLD, is a prominent

tool in CSR research. The STATS data includes CSR data that for most U.S. publicly-traded

companies since 1991. It varies by year, but as of 2012 ESG STATS contained data on the largest

3,000 U.S. publicly traded companies by market capitalization. The data consist of annual scores

of environmental, social and governance (known as ESG) performance indicators. The indicators

identify positive and negative performance attributes in seven areas including community

relations, diversity, employee issues, environmental matters, product safety, corporate governance,

and human rights. Here, we include all categories except human rights.1

Community relations includes issues relating to charitable giving and community

engagement. Diversity contains a wide range of issues and some include workplace diversity and

minority contracting. Employee issues pertain to profit sharing, benefits, and professional

development opportunities, as examples. Environmental issues include such areas as clean

technology, waste management, and carbon emissions. Product safety, where applicable, refers to

areas such as chemical safety, financial product safety, and privacy and data safety. Corporate

governance includes issues relating to governance structures and risk controls.

The firm rates each firm separately on these different dimensions of CSR. The rating is

binary in that an indicator is given a score of “0” if a particular indicator is not present in the firm

or a score of “1” if it is relevant. Strengths and concerns are rated separately. For instance, Bally

1 Human Rights issues include things such as involvement in exceptional human rights initiatives or, on the concern side, supporting controversial regimes and involvement in egregious human rights violations such as killings or physical abuse. It is not a highly-populated category so we do not include it in the analysis here.

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Total Fitness, which filed for bankruptcy in 2007 (and later emerged from bankruptcy) was rated

a “1” for the concern indicator variable relating to marketing and advertising in 2006 (the year

prior to the bankruptcy filing). According to MSCI’s documentation, this means that there was

evidence of controversies involving the firm’s marketing and advertising practices, which include

factors such as: “widespread or egregious instances of false, discriminatory, or improper

marketing/advertising, marketing targeted at disadvantaged groups, resistance to improved

practices, and criticism by NGOs and/or other third party observers.” As another example,

Blockbuster Inc., which filed for bankruptcy in 2010 (and was later acquired by Dish Network),

was giving a rating of “0” for the Community Impact concern variable in 2009. This means that

MSCI saw no evidence that the firm engaged in controversies related to the community in which

it does business.

Overall, we are able to match 78 firms between LoPucki and STATS databases during our

examination period of 2007 to 2014. We use the CSR data for the year prior to the bankruptcy

filing. To measure CSR, we follow Rekker et al. (2014) and use Net CSR Score. The Net CSR

Score is the sum of the scores of each of the six categories. Specifically, NET_CSR_SCORE =

COM_score + DIV_score + EMP_score + ENV_score + PRO_score + CGOV_score, where the

individual categorical scores are calculated by subtracting the total number of concerns from the

total number of strengths in each category. In addition to using the continuous variable Net CSR

Score, we also divided the score into high and low values where HI_CSR_SCORE is equal to 1 if

the NET_CSR_SCORE is above the median for the sample and equal to 0 if is below the median.

Table 1 and 2 present frequency distributions of the bankruptcy filings in our sample by

year and by industry. The year 2009 accounted for almost 40% of our sample of bankruptcies, with

2013 and 2014 having the fewest. Overall the financial crisis (the period from 2008 to 2010)

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contained 52 of the 78 bankrupt firms used in the sample. As Table 2 reports, the industry with the

highest frequency of bankruptcies was manufacturing followed by finance and

transportation/communication (industry is a variable classified in the LoPucki database).

Manufacturing firms account for 31 out of the 78 bankruptcies in the sample.

In order to study the determinants of bankruptcy, we create a matched sample of firms that

did not experience bankruptcy. Specifically, we match each of the 78 firms in our bankruptcy

sample to firms in the STATS universe based on three characteristics: size, industry, and year. The

matched sample must have CSR data available for us to test the hypothesis that CSR matters when

it comes to probability of bankruptcy. The closest matched firm to each bankrupt firm in the sample

was done by finding firms with the same 2-digit SIC code as the bankrupt firm and also within

15% of the bankrupt firms’ total assets as of the year of the bankruptcy filing. In cases where

multiple firms fit this criteria, we chose the firm closest in size to the bankrupt firm as the match.

In 9 cases we needed to find firms slightly outside of the 15% total asset differential window. We

collected CSR data on the matched firms as of the year prior to the Chapter 11 filing of the bankrupt

sample.

Table 3 presents the descriptive statistics of the bankrupt firms in our sample. The average

NET_CSR_SCORE was -0.910 with a median score of -1.0. This means that across all of the six

categories that our CSR measure covers, the sum of the positive minus the negative scores nets to

close to -1. Overall, CSR scores for the bankruptcy firm are leaning slightly toward the “concern”

areas as opposed to “strength” but the variance in scores is fairly high with a standard deviation of

2.169. By design, the average binary CSR measure, HI_CSR_SCORE, is about half (59%). The

average debt ratio for the 78 bankrupt firms is 95% with a slightly lower median at 91.8%. On

average, 26% of the firms in the sample came with a prepackaged/prenegotiated restructuring plan

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and 57.8% of the bankrupt firms in our sample eventually emerged from bankruptcy. The time

period that a CEO was in the job prior to the bankruptcy was 1461 days (4 years) on average, and

the firm replaced the CEO in about half (48.5%) of the firms.2

IV: Methodology and Results

We compare our matched sample of non-bankrupt firms to the sample of bankrupt firms to

first see if there are any univariate differences between the two samples. The results of the t-tests

are reported in Table 4. Interestingly, the only characteristic that is statistically significant between

the two matched samples is the debt ratio (LEVERAGE). Unsurprisingly, firms that experienced

bankruptcy had a might higher debt ratio on average (95%) relative to firms in the matched sample

that did not experience bankruptcy (61%). Total assets (SIZE), return on assets (ROA), and cash-

to-assets (CASHTA) were not statistically significantly different between samples. For total assets,

this result is not surprising given the fact that the samples were matched by size. We do see that

ROA and cash-to-assets are smaller on average for the bankruptcy sample relative to the matched

sample. Finally, while the average CSR scores (NET_CSR_SCORE) are higher for the non-

bankruptcy matched sample, the differences are not statistically significant. The differences are

pronounced however: the average Net CSR Score for the bankruptcy sample is -0.910 compared

to -0.538 for the matched sample.

Also utilizing the matched sample, we find that firms with higher Net CSR Scores are,

from a frequency standpoint, less likely to experience bankruptcy than firms with lower Net CSR

Scores. Specifically, for firms with Net CSR Scores greater than the median (HI_CSR_SCORE =

2 The authors here would like to note that we are currently in the process of including several other variables into the analysis including z-score and board characteristics.

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1) 39 of them were in the non-bankruptcy matched sample and 31 were in the bankruptcy sample

(these results are not reported in a table).

We next look at the bankruptcy sample and matched firms in a multivariate setting. This

will enable us to test Hypothesis 1, which states that, based on stakeholder theory, we should see

a negative relationship between CSR and the likelihood of bankruptcy. Our logistic regression

model is based on Darrat, et al. (2016), who look at how corporate governance characteristics

effect the risk of bankruptcy. Specifically, our model is as follows:

Pr(BANKRUPTCY)= 𝛼 + 𝛽1𝐶𝑆𝑅 + 𝛽2𝐿𝐸𝑉𝐸𝑅𝐴𝐺𝐸 + 𝛽3𝑆𝐼𝑍𝐸 + 𝛽4𝑅𝑂𝐴 +

𝛽5𝐶𝑅𝐼𝑆𝐼𝑆 +𝛽6𝐶𝐴𝑆𝐻𝑇𝐴 +𝛽7𝐼𝑁𝐷𝑈𝑆𝑇𝑅𝑌 + 𝜀

CSR represents the corporate social responsibility score. Here we use the binary variable

HI_CSR_SCORE (1 indicates higher or stronger CSR; 0 indicates weaker CSR firms) and the

continuous measure of CSR (NET_CSR_SCORE). Our hypothesis suggests that this coefficient

should be negative as a firm with stronger CSR would be less likely to experience bankruptcy

relative to a firm with weak CSR. LEVERAGE is equal to the debt ratio of the firm; the more

levered the firm, the higher the likelihood of bankruptcy. Firm SIZE is measured by the log of total

assets. Darrat et al. (2016) noted a negative relationship between firm size and bankruptcy

probability. Profitability is measured with return on assets (ROA). The more profitable the firm,

the lower the likelihood that the firm will experience bankruptcy. We also include a binary

variable CRISIS, which takes the value of 1 if the bankruptcy (and subsequently the matched firm

pair) is in year 2008, 0 otherwise. We propose that firms in year 2008 were prone to experiencing

financing distress more than in other years due to the financial crisis so we control for this by

incorporating the crisis dummy variable into the analysis. We control for liquidity using the

measurement CASHTA, which is cash and short-term assets divided by total assets. Presumably,

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the more liquid the firm, the lower the probability of bankruptcy. However, this variable is not

present for some of our sample firm and therefore reduced our sample size. We also control for

industries in each model. Specifically, we use the U.S. Department of Labor’s industry

classification breakdown and divide our sample into size industry categories: Mining,

Manufacturing, Transportation/Communication, Retail, Finance, and Services. We run both

logistic and probit regressions for each of the models (here we report the results of the logistic

regressions). The dependent variable is equal to 1 if the firm experienced bankruptcy and 0

otherwise. All financial characteristics and controls and the CSR variables are as of one year prior

to the bankruptcy announcement.

Results of the logistic models are reported in Table 5. The probability modeled in each

analysis is bankruptcy = 1. The coefficient on HI_CSR_SCORE is negative and statistically

significant at the 10% level in Model 1. This indicates that weaker CSR scores (below the median)

are associated with a higher probability of bankruptcy compared to firms with strong CSR scores.

This result is consistent with our first hypothesis, which states that CSR strength is negatively

related to the likelihood of bankruptcy. Further, we find that the coefficient on LEVERAGE is

positive and statistically significant at the 1% level, adding to the evidence that higher debt ratios

are associated with a higher probability of bankruptcy relative to firms with low debt ratios.

Interestingly, we find that ROA is positively related to the probability of bankruptcy but the size

of the firm is not related. In terms of industries, the probability of bankruptcy seems to be highest

for mining and manufacturing firms. In each model we use year fixed effects. Thus, we find

support initially for the stakeholder theory of CSR.

In Model 2, we again use the binary measure of CSR, HI_CSR_SCORE, and find that it is

negative and significant at the 5% level. This result is again consistent with the first hypothesis. In

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this model we include the variable CASHTA, which is a measure of liquidity. This reduces the

sample from 156 institutions to 132. The control variables in Model 2 are also consistent with that

of Models 1 and 3. In Model 3 of Table 5, the continuous measure of CSR, NET_CSR_SCORE,

is not statistically significantly related to the likelihood of bankruptcy. However, we do note that

the coefficient is negative. We cannot use this as evidence to support the first hypothesis, however.

Otherwise, the control variables are consistent with Model 1 in that the debt ratio, ROA, mining

and manufacturing are all positively associated with the likelihood of bankruptcy. In all three

specifications, we find that the chi-squared test statistics are statistically significant indicating good

model fit. For each model, we also perform a probit analysis. These results (not reported) are

consistent with the logistic regression results presented here in Table 5. In summary of the results

in Table 5, we find evidence to support the first hypothesis – stronger corporate social

responsibility deters bankruptcy – in particular when CSR is measured using a distinction between

“high” and “low.” It may be the case that because CSR scores do not vary substantially by firm,

looking at them as “good” and “bad” is more informative than the continuous measure of CSR

performance.

Next we examine the interaction effects of variables on the likelihood of bankruptcy. In

addition to main effects of CRS variables on the likelihood of bankruptcy, the interaction effects

among the two variables could provide better predictions of bankruptcy. Therefore, we test our

hypotheses 1a and 1b by analyzing the following models.

Pr(BANKRUPTCY) = 𝛼 + 𝛽1𝐻𝐼_𝐶𝑆𝑅_𝑆𝐶𝑂𝑅𝐸 + 𝛽2𝐿𝐸𝑉𝐸𝑅𝐴𝐺𝐸 + 𝛽3𝐶𝑆𝑅𝑥𝐿𝐸𝑉𝐸𝑅𝐴𝐺𝐸 +

𝛽4𝑆𝐼𝑍𝐸 + 𝛽5𝑅𝑂𝐴 +𝛽6𝐶𝐴𝑆𝐻𝑇𝐴 +𝛽7𝐶𝑅𝐼𝑆𝐼𝑆 + +𝛽8𝐼𝑁𝐷𝑈𝑆𝑇𝑅𝑌 + 𝜀

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Pr(BANKRUPTCY)= 𝛼 + 𝛽1𝐻𝐼_𝐶𝑆𝑅_𝑆𝐶𝑂𝑅𝐸 + 𝛽2𝐿𝐸𝑉𝐸𝑅𝐴𝐺𝐸 + 𝛽3𝐶𝑆𝑅𝑥𝑆𝐼𝑍𝐸 +

𝛽4𝑆𝐼𝑍𝐸 + 𝛽5𝑅𝑂𝐴 +𝛽6𝐶𝐴𝑆𝐻𝑇𝐴 +𝛽7𝐶𝑅𝐼𝑆𝐼𝑆 + +𝛽8𝐼𝑁𝐷𝑈𝑆𝑇𝑅𝑌 + 𝜀

The results of the interaction effects are presented in Table 6. In Models 1 and 2, we see

that the relationship between CSR and the probability of bankruptcy is negative and statistically

significant at the 10% level. In other words, we continue to see that firms with strong CSR have a

lower likelihood of bankruptcy relative to firms with weaker CSR. Further, we see that leverage

and the probability of bankruptcy is positive and statistically significant at the 1% level. Firms

with a higher proportion of debt relative to equity have a higher chance of bankruptcy, all else

being equal. However, we do not see that the interaction between CSR and leverage is significant

in the model (the coefficient is positive but not statistically significant). Therefore, we cannot

conclude that the inverse relationship between CSR and bankruptcy changes with differences in

debt ratios (Hypothesis 1a). This is surprising as we expected that at high levels of debt, the

relationship between CSR and bankruptcy probability would weaken but it appears that CSR

impacts bankruptcy at all debt ratios.

In Models 3 and 4 of Table 6 we see that again, CSR is inversely related to the likelihood

of bankruptcy and leverage is positively related to bankruptcy. Size of the firm is not statistically

significantly related to bankruptcy probability in and of itself. However, in Model 4, where we

also include CASHTA as an additional control variable in the model, we do see evidence that the

interaction between size and CSR is positive and statistically significant at the 10% level.

Hypothesis 1b said that we expected that large firms would have a stronger relationship between

CSR and bankruptcy probability as larger firms are more apt to disclose more information to

stakeholders and are likely to be monitored closer relative to small firms. The analysis here shows

20

that the hypothesis is supported in this particular model, however the interaction parameter is not

statistically significant in Model 3. Therefore, we find mixed support for this Hypothesis 1b.

Next we turn to an analysis of the firms that did in fact file for bankruptcy. Our research

question is whether corporate social responsibility is a determinant for bankrupt firms to eventually

emerge from bankruptcy. The second hypothesis in this paper states that we should see a positive

relationship between CSR and the probability that the firm will emerge from bankruptcy.

The specific logistic regression model is as follows:

Pr(𝑒𝑚𝑒𝑟𝑔𝑒) = 𝛼 + 𝛽1𝐶𝑆𝑅 + 𝛽2𝐿𝐸𝑉𝐸𝑅𝐴𝐺𝐸 + 𝛽3𝑆𝐼𝑍𝐸 + 𝛽4𝑅𝑂𝐴 + 𝛽5𝑃𝑅𝐸𝑃𝐴𝐶𝐾

+ 𝛽6𝐶𝐸𝑂_𝑇𝐸𝑁𝑈𝑅𝐸 + 𝛽7𝐶𝐸𝑂𝑇_𝑇𝑈𝑅𝑁𝑂𝑉𝐸𝑅 + 𝛽8𝐶𝑅𝐼𝑆𝐼𝑆 + 𝛽9𝐼𝑁𝐷𝑈𝑆𝑇𝑅𝑌

+ 𝜀

We again measure CSR performance using the continuous measure (NET_CSR_SCORE)

and the binary measure (HI_CSR_SCORE). Denis and Rodgers (2007) find that smaller firms

spend less time in Chapter 11 and have better operating performance relative to larger companies.

We control for SIZE using the log of total assets. In a prepackaged bankruptcy, the firm files a

reorganization plan at the same time as filing for bankruptcy. These types of restructurings tend to

emerge from bankruptcy faster and with lower costs relative to bankruptcies filed without a

prepackaged/pre-negotiated restructuring plan. We control for this using the variable PREPACK,

which is equal to 1 if the firm files an organization plan at the same time as filing for bankruptcy.

The length of time that a CEO is in office may also influence whether or not the firm emerges from

bankruptcy. Longer tenured CEOs might be able to better navigate through the bankruptcy and

restructuring process since older CEO are generally more experienced, which would increase the

probability that they would successfully navigate the firm through the bankruptcy process. On the

other hand, it might be the case that longer-tenured CEOs, who were at the helm when the firm

21

experienced bankruptcy in the first place, would not be best suited help the company emerge from

bankruptcy. We use the variable CEO_TENURE to account for the number of days the CEO has

been in office. Similarly, firms that replace their CEOs during the bankruptcy process may be more

likely to emerge from bankruptcy if the replacement CEO is successful at turning the company

around. Betker (1995b) shows that 91% turnover of CEOs in office two years prior to filing by

the time the firm emerges from bankruptcy. Bogan and Sadler (2012) find that management

turnover is a determinant of bankruptcy survival. Ayotte and Morrison (2007) find that 70% of

CEOs are replaced within two years of a bankruptcy filing. We use the variable

CEO_TURNOVER to account for companies that replaced the CEOs after filing for Chapter 11.

Our findings are reported in Table 7. The first model reports results without industry

controls and the second model controls for industry. The logistic regressions modeling the

probability of emerging from bankruptcy fail to show any consistent and significant relationship

between CSR and emergence for both models. Specifically, the coefficient HI_CSR_SCORE is

negative in both models (-0.699 in Model 1 and -0.676 in Model 2) but the results are not

statistically significant. This is contrary to our hypothesis and conjecture where we posit that CSR

would have a positive influence on bankruptcy emergence. Compared with our results in Tables 5

and 6, which showed a negative relationship between CSR and the probability of bankruptcy, these

results make it reasonable to consider that CSR does not impact successful emergence from

bankruptcy. Kahl (2002) argues that only the worst firms fail to navigate through bankruptcy, so

it appears that CSR is not representative of a factor that would determine bankruptcy emergence.

However, as expected, a bankruptcy filing that was accompanied by a prepackaged or pre-

negotiated restructuring arrangement is significantly more likely to emerge from bankruptcy

relative to a bankruptcy that was not prepackaged/pre-negotiated. The coefficient on

22

PREPACKAGED is positive and significant at the 5% level in both models of Table 6. None of

the other control variables are statistically significant in the models, including debt ratio, total

assets, and CEO turnover and CEO tenure. In Model 2 we do note that manufacturing and retail

firms are more likely to be associated with bankruptcy emergence relative to other industries.

In summary, we do not support the conjecture that CSR matters when it comes to emerging

from bankruptcy. So, while CSR seems to influence whether a company experiences bankruptcy

in the first place, having strong corporate social responsibility does not seem to help (or hurt) a

firm once it has filed for Chapter 11. This may provide some support for the altruistic theory of

CSR, but more than likely it is evidence that other variables are more important to a firm once it

files for bankruptcy. Stakeholder relationships may not provide much support for a firm that does

not have a restructuring plan in place, for instance. Therefore, although we do not unequivocally

support stakeholder theory in this context, these results do not suggest that the CSR stakeholder

theory is not valid.

V. Conclusion

In this paper we address the question of whether corporate social responsibility matters

when a firm is faced with bankruptcy. Theory suggests that CSR can help a firm by engaging

stakeholders and can use that support for financial gain (stakeholder theory). Alternatively, CSR

could pose a financial drag on the firm where capital is used for things outside of the firm’s

business projects, thus making the firm worse off than it would be had they not engaged in CSR

(agency theory). Or, CSR may be a factor separate from other business decisions, making no

difference at all in the outcomes of the firm’s financial performance but rather is part of the internal

structure of the firm – a true altruistic behavior for firms that can afford it.

23

Here we use a matched sample approach to study the difference between CSR of firms that

do become bankrupt compared to those that do not. Our analysis is comprehensive as we matched

a sample of 78 bankrupt firms through the period 2007 to 2014, which includes the financial crisis,

based on year, size, and industry.

In the context of bankruptcy what we find is that stronger CSR firms are less likely to

become bankrupt relative to weaker CSR firms, all else being equal. This result is in line with the

stakeholder theory of CSR, since it may be the case that firms with better CSR involvement are

able to use that stakeholder support for financial advantage and gain that firms with weaker CSR

do not have the stakeholder support available. Leverage and size variations do not seem to impact

the CSR-bankruptcy relationship. However, when we look at whether CSR determines bankruptcy

outcome, we find that it does not play a vital role. Once a firm is bankrupt, it is more about the

bankruptcy itself, in particular bankruptcies that are pre-packaged and pre-negotiated, that

determines whether the firm eventually emerges. This result does not support stakeholder theory,

but nor does it support agency or pure altruism. We argue that in bankruptcy, variables beyond

bankruptcy specifics do not make a difference ultimately in terms of emerging from Chapter 11.

This paper provides some support for the stakeholder theory of CSR and adds to the

literature on CSR in this context. Specifically, in determining financial failure, as opposed to

success, CSR seems to be important. So from an academic standpoint this paper fills in a research

gap in a fairly busy stream of CSR literature. From a practitioner’s standpoint, this paper provides

evidence to show that CSR does matter to a firm in the context of financial performance. For

managers deciding whether to invest in CSR activities beyond altruistic reasons can find this study

as well as many others that point to a positive relationship between CSR and financial performance.

24

Going forward, we are working on strengthening the results of the paper by including other

variables that measure the likelihood of bankruptcy (z-score) as well as several board

characteristics. The board of director characteristics such as board size, independence, and

effectiveness should help to control for other factors that surely impact the firm’s future

performance. Further, board characteristics may interact with CSR in that firms with strong boards

may behave differently under similar CSR factors compared to firms with weak boards. In

addition, it could be the case that board strength and CSR have an endogenous relationship. This

is an area of future research that we are adding to the paper in the coming weeks and months.

25

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Appendix: Variable Definitions

Variable Definitions

BANKRUPTCY Takes the value of 1 if the firm experienced bankruptcy and 0 otherwise.

NET_CSR_SCORE

The score for each category (COM, ENV, DIV, EMP, and PRO) is

calculated as the number of strengths minus the number of concerns in

each category by year. Overall net score is calculated as COM_score +

DIV_score + EMP_score + ENV_score + HUM_score + PRO_score.

HI_CSR_SCORE This is equal to 1 if the Net CSR Score is above the median for the sample

and equal to 0 if is below the median.

SIZE The log of the total assets.

LEVERAGE Book value of debt over book value of assets.

ROA Operating income before depreciation, scaled by book value of assets.

CASHTA Cash and short-term assets divided by total assets.

CRISIS Takes the value of 1 if the bankruptcy is in year 2008, and 0 otherwise.

PREPACK Takes value of 1 if the firm files a reorganization plan at the same time as

filing for bankruptcy, and 0 otherwise.

EMERGED Takes value of 1 if the firm emerged from bankruptcy, 0 otherwise.

CEO_TENURE The length of time that a CEO is in the office (in days).

CEO_TURNOVER Takes value of 1 if the firms replace the CEO during the bankruptcy process,

0 otherwise.

29

Table 1: Distribution of Bankruptcy Firms by Filling Year

Filling Year N Percent

Cumulative

Percent

2007 6 7.69 7.69 2008 11 14.10 21.79 2009 31 39.74 61.54 2010 10 12.82 74.36 2011 8 10.26 84.62 2012 7 8.97 93.54 2013 2 2.56 96.15 2014 3 3.85 Total 78 100

Table 2: Distribution of Bankruptcy Firms by

Industry

Industry N Percent

Cumulative

Percent

Finance 21 26.96 26.96 Manufacturing 31 39.74 66.67

Mining 7 8.97 75.64 Retail 4 5.13 80.77

Services 5 6.41 87.18 Transcommelec 10 12.82

Total 78 100

Notes: Table 1 and 2 report frequency distributions of the bankruptcy filings in our sample by

year and by industry during the period from 2007 -2014.

30

Table 3: Summary Statistics (Bankruptcy Firms)

Variables N Mean Median SD Min Max

CSR Variables NET_CSR_SCORE 78 -0.910 -1.000 2.169 -7.00 5.00

HI_CSR_SCORE 78 0.589 1.000 0.495 0 1.00

Firm Characteristics LEVERAGE 78 0.950 0.918 0.499 0.275 4.529

SIZE 78 20614.31 2859.22 86385.60 264.405 691063

Bankruptcy Characteristics PREPACK 78 0.256 0.000 0.439 0 1.00

EMERGED 76 0.578 1.000 0.497 0 1.00

Governance Characteristics CEO_TENURE 77 1460.67 568.00 1975.02 0 8857

CEO_TURNOVER 70 0.485 0.000 0.503 0 1.00

Notes: Table 3 reports the summary statistics for the major variables during the sample period of

2007-2014. See the Appendix for the definitions of all the variables.

31

Table 4:Summary Statistics (Bankruptcy and non-bankruptcy firms)

Non-Bankruptcy Sample Bankruptcy Sample

Variables N Mean SD Min Max N Mean SD Min Max t-value p-value

CSR variables

NET_CSR_SCORE 78 -0.538 2.062 -8.000 5.000 78 -0.910 2.169 -7.000 5.000 1.10 0.274

HI_CSR_SCORE 78 0.500 0.503 0 1.00 78 0.397 0.492 0 1.00 1.29 0.202

Firm characteristics

LEVERAGE 78 0.613 0.260 0.084 1.206 78 0.950 0.499 0.275 4.529 -5.29*** 0.000***

SIZE 78 11898.5 31796.7 228.0 218328 78 20614.31 86385.6 264.4 691063 -0.84 0.405

ROA 78 -1.120 12.743 -46.754 21.284 78 -0.143 0.187 -0.930 0.108 -0.68 0.500

CASHTA 78 0.093 0.101 0.000 0.565 78 0.072 0.092 0.000 0.427 1.18 0.238

Notes: This table reports the summary statistics for the major variables used in the empirical analysis during the sample period of 2007-

2014. The sample contains 78 bankruptcy firms and 78 matched non-bankruptcy firms. *, **, and *** indicate significance based on a

difference in means t-test at the 10%, 5%, and 1% levels, respectively. See the Appendix for the definitions of all the variables.

32

Table 5: Logistic Regressions: Determinants of Bankruptcy

Model 1 Model 2 Model 3

Variables

HI_CSR_SCORE -0.8986 -1.0233

(0.4782)* (0.5164)** NET_CSR_SCORE -0.5932

(0.4520) LEVERAGE 6.4529 5.8166 6.2420

(1.2154)*** (1.3024)*** (1.1841)*** SIZE -0.0804 -0.0791 -0.1092

(0.1839) (0.1957) (0.1824) ROA 0.0525 0.0486 0.0534

(0.0269)** (0.0280)* (0.0272)** CASHTA 0.3963

(2.6096) MINING 2.2627 2.3343 2.0492

(1.2039)* (1.3179)* (1.1798)* MANUFACTURING 2.2292 2.2132 1.9674

(1.0912)** (1.2194)* (1.0577)* TRANSCOMM 1.2567 1.5760 0.9986

(1.1072) (1.2327) (1.0894) RETAIL 2.3130 2.5747 1.9676

(1.4296) (1.5191)* (1.4074) FINANCE 1.2062 1.4384 0.9241

(1.0818) (1.2474) (1.0428) CRISIS -1.2634 -1.1815 -1.2018

(0.4964)*** (0.5341)** (0.4833)*** INTERCEPT -5.1421 -5.0739 -4.6108

(1.8480)*** (1.9924)*** (1.7944)*** No. of Observation 156 132 156 Likelihood ratio test(p

value) <.0001 <.0001 <.0001

Notes: These models use logistic regressions to examine the relationship between CSR and

likelihood of bankruptcy during the sample period of 2007-2014. The standard errors are reported

in the parentheses. *, **, and *** indicate significance at the 10%, 5%, and 1% levels, respectively.

See the Appendix for the definitions of all variables.

33

Table 6: Logistic Regressions with interactions

Model 1 Model 2 Model 3 Model 4

Variables

HI_CSR_SCORE -1.5787 -1.539 -0.9709 -1.1624

(0.8609)* (0.9163)* (0.4874)** (0.5390)**

LEVERAGE 6.1376 5.6472 6.6471 6.1089

(1.2537)*** (1.3222)*** (1.2513)*** (1.3561)***

CSRxLEVERAGE 1.0014 0.7555

(1.0408) (1.1040) SIZE -0.0907 -0.0932 -0.2834 -0.3962

(0.1851) (0.1979) (0.2216) (0.2517)

CSRxSIZE 0.00006 0.0009

(0.00004) (0.0005)*

ROA 0.0521 0.049 0.0582 0.0561

(0.0275)* (0.0286)* (0.0278)** (0.0294)*

CASHTA 0.3246 -0.3255

(2.6250) (2.6812)

MINING 2.2884 2.3366 2.2984 2.605

(1.1937)* (1.3009)* (1.2193)* (1.3836)*

MANUFACTURING 2.2584 2.2337 2.2506 2.4697

(1.0780)** (1.1994)* (1.1137)** (1.2940)*

TRANSCOMM 1.4019 1.6767 1.3925 1.9703

(1.1059) (1.2257) (1.1336) (1.3155)

RETAIL 2.2923 2.5545 2.3385 2.8744

(1.4284) (1.5109)* (1.4672) (1.6038)*

FINANCE 1.2425 1.4535 1.4602 2.0119

(1.0739) (1.2336) (1.1165) (1.3561)

CRISIS -1.3047 -1.2313 -1.3574 -1.3347

(0.5039)*** (0.5447)** (0.5092)*** (0.5585)**

INTERCEPT -4.9587 -4.9126 -3.8287 -3.1614

(1.8333)*** (1.9809)** (1.9927)* (2.1759)

No. of Observation 156 132 156 132

Likelihood ratio test(p

value) <.0001 <.0001 <.0001

<.0001

Notes: These models use logistic regressions to examine the relationship between CSR and the

probability of bankruptcy during the sample period of 2007-2014. The standard errors are reported

in the parentheses. *, **, and *** indicate significance at the 10%, 5%, and 1% levels, respectively.

See the Appendix for the definitions of all variables.

34

Table 7: Logistic regression: Determinants of Emerging from bankruptcy

Model 1 Model 2

Variables

HI_CSR_SCORE -0.6993 -0.6763

(0.6375) (0.7283)

LEVERAGE 0.9118 0.3119

(1.1443) (1.0807) SIZE -0.0007 0.5024

(0.1929) (0.2805)* PREPACKED 1.8022 2.0082

(0.8755)** (0.9877)** CEO_TENURE 0.00007 -0.00002

(0.0001) (0.0001) CEO_TURNOVER -0.6629 -0.7061

(0.5573) (0.6372) MINING 1.5908

(1.2604) MANUFACTURING 2.9115

(1.1499)*** TRANSCOMM 1.5053

(1.2156) RETAIL 2.7826

(1.5483)* FINANCE 1.9248

(1.9532) CRISIS -0.5317 -0.8698

(0.8585) (09348) INTERCEPT 0.0488 -5.1939

(1.4012) (2.7319)** No. of Observation 70 70 Likelihood ratio test (p-

value) 0.023 0.014

Notes: These models use logistic regressions to examine the relationship between CSR and the

probability that the firm will emerge from bankruptcy during the sample period of 2007-2014. The

standard errors are reported in the parentheses. *, **, and *** indicate significance at the 10%,

5%, and 1% levels, respectively. See the Appendix for the definitions of all variables.