corporate social responsibility, tax aggressiveness, and...

Corporate Social Responsibility, TaxAggressiveness, and Firm Market Value*

TAO ZENG, Wilfrid Laurier University

Received on August 27, 2013; editorial decision completed on March 9, 2015

ABSTRACTThis paper examines the relationship of corporate social responsibility (CSR), taxaggressiveness, and firm market value. An economic model has been developed toshow that profit-maximization firms are willing to incur additional costs in CSR,such as paying more taxes, as long as they can differentiate their products fromnon-CSR firms, and that socially conscious consumers will buy products fromCSR firms at prices higher than those of non-CSR firms. The empirical study inthis paper indicates that the higher the CSR ranking of a firm, the less likely afirm is to engage in tax aggressiveness. It also indicates that a reputation of higherCSR will enhance firm market value. Using Canadian companies listed in theS&P/TSX 60 index, I find that both firms’ five-year effective tax rates and annualeffective tax rates are positively associated with their overall CSR scores as well aswith their social scores. Firms’ five-year effective tax rates are also positively asso-ciated with their governance index. I also find that firms’ overall CSR ranking andgovernance scores are positively associated with their market value.

Keywords Corporate social responsibility; Effective tax rate; Firm market value;Tax aggressiveness

R�ESUM�EL’auteur examine la relation entre la responsabilit�e sociale de l’entreprise (RSE),l’audace de ses positions fiscales et sa valeur de march�e. Il �elabore un mod�ele �econo-mique montrant que les entreprises qui cherchent �a maximiser leurs profits sontdispos�ees �a engager des couts additionnels li�es �a la RSE, notamment �a payerdavantage d’impots, dans la mesure o�u elles pourront ainsi diff�erencier leurs pro-duits de ceux des entreprises qui ne se soucient pas de la RSE, et que les consom-mateurs qui attachent de l’importance �a la RSE accepteront d’acheter les produitsdes entreprises qui sont socialement responsables �a des prix sup�erieurs �a ceux desentreprises qui ne le sont pas. L’�etude empirique de l’auteur r�ev�ele que plus le classe-ment d’une entreprise est �elev�e en ce qui a trait �a la responsabilit�e sociale, moinscette derni�ere est susceptible d’user d’audace dans ses positions fiscales. Elle r�ev�ele�egalement qu’une bonne r�eputation en mati�ere de responsabilit�e sociale accroıt lavaleur de march�e de l’entreprise. L’�etude des soci�et�es canadiennes de l’indice S&P/TSX 60 permet de constater que les taux d’imposition effectifs des entreprises sur

* The author gratefully acknowledges the financial support for this research was received from WLU/

CA Research Centre. The author thanks two anonymous reviewers and Claude Laurin, the Editor, for

their insightful comments and suggestions.

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une p�eriode cinq ans, de meme que leurs taux d’imposition effectifs annuels, sonten relation positive avec leur cote globale en mati�ere de RSE et leur cote auchapitre du comportement social. Leurs taux d’imposition effectifs quinquennauxsont aussi en relation positive avec leur indice de gouvernance. L’auteur observe�egalement que le classement global des entreprises en mati�ere de RSE et leur coteau chapitre de la gouvernance sont en relation positive avec leur valeur de march�e.

Mots clés : Audace des positions fiscales, responsabilit�e sociale de l’entreprise,taux d’imposition effectif, valeur de march�e de l’entreprise

INTRODUCTION

The question of why there is a wide variety in tax payments across firms hasalways been an agenda item for both policy makers and academics. Corporate taxaggressiveness has been a popular issue in recent years, and more tax studies areinvestigating what is associated with tax-aggressive activities. To date, the literaturehas shown that corporate tax aggressiveness is associated with a number of firmcharacteristics (size, prior losses, leverage, intensity of fixed assets, etc.), ownershipstructure (family-owned firms, institutional shareholding, inside shareholding, own-ership concentration, etc.), the weakness of internal control, the tax expertise ofexternal audit firms, and the CEO’s educational background, to name a few (Stick-ney and McGee, 1982; Zimmerman, 1983; Porcano, 1986; Omer et al., 1993;Gupta and Newberry, 1997; Klassen, 1997; Adhikari et al., 2006; Dyreng et al.,2008; Badertscher et al., 2009; Robinson et al., 2010; Zeng, 2010, 2011; Bauer,2011; Armstrong et al., 2012, among others).

Corporate social responsibility (CSR) has also received increased attentionfrom both businesses and academics. There are a number of definitions applied toCSR. According to McWilliams and Siegel (2001), CSR means actions thatenhance social goods, beyond any legal requirements and even beyond a firm’sinterests. Carroll (1979) stated that CSR means engaging in activities that respondto economic, legal, ethical, and discretionary expectations as well as to expecta-tions from broader society and other stakeholders (including consumers, suppliers,communities, governments, employees, and shareholders).

Numerous studies have examined the relationship between CSR and firmperformance, stock returns, and the cost of capital (Waddock and Graves, 1997;Stanwick and Stanwick, 1998; Forster and Meinhard, 2002; Bassen et al., 2006;Brammer et al., 2006; Paul and Siegel, 2006; Piercy and Lane, 2009; Ghoul et al.,2011; Dhaliwal et al., 2011, to name a few). However, only a few studies haveexplored the relationship between CSR and tax reporting practices. These studiesfocus on U.S firms and the results are mixed (Davis et al., 2013; Watson, 2011a,b). As argued by Christensen and Murphy (2004), current CSR studies havetouched on almost every other area of corporate engagement, except the onewhere a company’s corporate citizenship is most tangible and important: corporatetax avoidance.

8 ACCOUNTING PERSPECTIVES / PERSPECTIVES COMPTABLES

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This paper examines the relationship of CSR, tax aggressiveness, and firm mar-ket value. An economic model has been developed to show that profit-maximiza-tion firms are willing to incur additional costs in CSR, such as paying more taxes,as long as they can differentiate their products from non-CSR firms, and thatsocially conscious consumers will buy products from CSR firms at prices higherthan those of non-CSR firms. This paper also links CSR to firm market value andargues that paying more taxes can enhance firm market value by contributing tohigher CSR rankings.

The empirical study in this paper indicates that socially responsible firms areless likely to undertake aggressive tax activities, while those firms that are less inter-ested in being socially responsible are more likely to undertake aggressive tax activi-ties. It also indicates that a reputation of higher CSR will enhance firm marketvalue. Using Canadian companies listed in the S&P/TSX 60 index, I find that bothfirms’ five-year effective tax rates and annual effective tax rates are positively associ-ated with their overall CSR scores as well as with their social scores. Firms’ five-year effective tax rates are also positively associated with their governance index. Ialso find that firms’ overall CSR ranking and governance scores are positively asso-ciated with their market value. Overall, the empirical results show that paying moretaxes leads to higher CSR rankings and thus enhances firm market value.

The remainder of this paper is organized as follows. Section 2 reviews the cur-rent literature on tax aggressiveness and CSR. Section 3 develops a theoreticalmodel showing that paying more taxes and maximizing profits are compatible. Italso develops two hypotheses for empirical tests. Section 4 designs the empiricalmodels and describes sample selection and variables. Section 5 presents the maintesting results as well as the supplementary testing results. Finally, section 6concludes the study.

LITERATURE REVIEW

There are several accounting studies examining CSR and tax aggressiveness as wellas other firm characteristics in recent years. Dhaliwal et al. (2011) find that initiat-ing the voluntary disclosure of CSR will attract dedicated institutional investorsand analysis coverage, and reduce a firm’s cost of capital. Richardson and Lanis(2012) argue that socially responsible firms are likely to deter tax-aggressive behav-ior. Using a sample of Australian public companies, they find a negative relation-ship between CSR disclosure and tax aggressiveness. Watson (2011a) finds that inthe United States, firms with low CSR scores undertake more aggressive tax activi-ties such as more book-tax differences, high effective tax rates, and more tax-shel-tering activities. In addition, Watson (2011b) finds that socially irresponsible firmsgenerally have larger unrecognized tax benefits than socially conscious firms. Heargues that socially responsible firms attract consumers and investors with similarnorm and value and therefore deter these firms’ tax aggressiveness activities. Hoiet al. (2013) also find that firms with excessive socially irresponsible activities aremore likely to engage in tax aggressiveness. However, Davis et al. (2013) analyze

CSR, TAX AGGRESSIVENESS, AND MARKET VALUE 9

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whether paying corporate tax is viewed as socially responsible. Using U.S. publicfirms, they find that CSR is negatively associated with effective tax rates, and ispositively associated with tax-lobbying expenditures. Their results show thatsocially responsible firms pay less tax and engage in more tax lobbying.

Given the mixed results on the relationship between CSR and tax aggressiveness,this paper examines the Canadian scenario. As Foster and Meinhard (2002) state,the Canadian government, unlike the U.S. government, plays a significant role insupporting universal social programs. As a result, it is expected that Canadian firmswill act differently from their U.S. counterparts when considering CSR activitiesand that the relationship between CSR activities and tax aggressiveness is differentin the two countries. Another factor to consider is that, while Canada’s culturalenvironment is similar to that of the United States, its institutional environment isnot. For example, the corporate tax rate in the United States is 40 percent, while inCanada it is around 30 percent. Prior studies suggest that a firm’s national institu-tional context, including legal, regulatory, and professional structures, affect its sen-sitivities toward its social performance (Mahoney and Thorn, 2006)

In addition, Canada has a very different industry mix than that of the UnitedStates. For example, Canada has the most number of publicly listed oil and gascompanies, and Canadian stock exchanges raise the most capital for the miningsector in the world (Li et al., 2014). Given the fact that companies in high-profile,environmentally sensitive sectors such as oil, gas, and mining would have moreincentives to build up a positive image and give prominence to CSR, Canada pro-vides an interesting scenario in which to examine the effect of CSR on firms’ activi-ties, such as tax reporting.

To make a comparison between the U.S. firms and Canadian firms, in a sup-plementary test, a Canadian indicator variable is included to test whether or notthere is a difference in the Canadian context. I find that in Canada, paying moretaxes contributes to a higher overall CSR ranking.

In the next section, I develop an economic model showing that a profit-maxi-mization firm is willing to incur additional costs in CSR, such as paying moretaxes, as long as it can differentiate its products from non-CSR firms, and thatsocially conscious consumers will buy products from CSR firms at prices higherthan those of non-CSR firms.

MODELS AND HYPOTHESES

A number of studies on CSR argue that firms’ involvement in CSR activities maycontribute to enhancing profitability. In these studies, the firms’ investment in CSRis a strategy through which firms can build up their reputation and differentiatetheir products from those of their competitors. Keith and Henderson (2010) arguethat the adoption of a CSR program may improve a firm’s image, with potentialattendant business upsides. According to a survey conducted by the CanadianDemocracy and Corporate Accountability Commission (CDCAC), 75 percent of


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Canadians agree that the government should not purchase from companies withpoor CSR records; 72 percent of Canadians agree that firms should have account-ability beyond their profit margins; and 74 percent of shareholders share the sameopinions (Keith and Henderson, 2010). Also, a Canadian national poll (AbacusData, 2014) survey found that over 60 percent of Canadians are willing to pay morefor products and services from a socially responsible firm. A 2001 Hill & Knowlton/Harris Interactive poll shows that 79 percent of Americans take CSR into accountwhen they decide whether or not to purchase a particular firm’s goods (Redman2005). Marketing studies show that firms’ social performance shapes consumers’purchasing intentions (e.g., Brown and Dacin, 1997; Creyer and Ross, 1997; Mohrand Webb 2005). Furthermore, Boehe and Cruz (2010) find that CSR contributes toproduct differentiation in the Brazilian export market and thus improves export per-formance. Flammer (2014) examines the causal mechanisms through which CSRcan improve competitiveness in the U.S. manufacturing industry. Her findings sug-gest that firms engage in CSR in order to signal product quality and differentiatethemselves from others. Lev et al. (2010) find that firms’ charitable donations aresignificantly associated with their revenue growth and customer satisfaction.

To incorporate the above arguments, I develop an economic model under afew assumptions; that is, socially conscious consumers exist, and will incur a disu-tility if they purchase goods produced by non-CSR firms, based on Barboza andTrejos (2011); socially conscious consumers are rational and maximize utility sub-ject to budget constraints; and both tax aggressive firms and tax compliant firmsare profit maximizers.

Socially Conscious Consumers

There are two sets of perfect substitute products, those produced by CSR firmsXCSR and those produced by non-CSR firms XnCSR. The products are perfect sub-stitutes in the physical sense, but are differentiated by their producers’ reputationas CSR or non-CSR firms.

Assume that there exist socially conscious consumers who prefer goods producedby CSR-firms to those produced by non-CSR firms. That is, socially conscious con-sumers would incur a disutility if they were to purchase goods produced by non-CSRfirms. The utility function of a representative socially conscious consumer is

UðXCSR;XnCSRÞ ¼ logðXCSRÞ þ ð1� gÞ logðXnCSRÞ; ð1Þwhere, similar to Barboza and Trejos (2011), g 2 (0, 1) is a parameter reflectingthe fact that a disutility will be incurred if the socially conscious consumer pur-chases goods produced by non-CSR firms. The utility function is designed as a logfunction, so U0 > 0 and U

0 0< 0.

For simplicity, I assume that all income (W) is spent by the socially consciousconsumer each period. Hence the budget constraint for the socially consciousconsumer is


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W ¼ PCSRXCSR þ PnCSRXnCSR: ð2Þ

The maximization problem faced by the socially conscious consumer is tochoose XCSR and XnCSR to

MaxXCSR;XnCSR

UðXCSR;XnCSRÞ ¼ logðXCSRÞ þ ð1� gÞlogðXnCSRÞs.t. W ¼ PCSRXCSR þ PnCSRXnCSR:

The first order condition (F.O.C.) for this consumer’s maximization problem is

LXCSR;XnCSR¼ logðXCSRÞþ ð1� gÞ logðXnCSRÞþ kðW�PCSRXCSR�PnCSRXnCSRÞ; ð3Þ

@L

@XCSR¼ 1

XCSR� kPCSR ¼ 0; ð3:1Þ

@L

@XnCSR¼ ð1� gÞ

XnCSR� kPnCSR ¼ 0; ð3:2Þ

@L

@k¼ W� PCSRXCSR � PnCSRXnCSR ¼ 0: ð3:3Þ

The solution for this maximization problem of ðX�CSR;X

�nCSRÞ is

X�CSR ¼ 1

kPCSR; ð4Þ

X�nCSR ¼ ð1� gÞ

kPnCSR; ð5Þ

Equation (4) and Equation (5) lead to

XCSR

XnCSR¼ 1

ð1� gÞPnCSR

PCSR¼ 1

ð1� gÞ1

PCSR

PnCSR

: ð6Þ

Equation (6) shows that the proportion of CSR goods to non-CSR goods pur-chased by the socially conscious consumer (XCSR

XnCSR) is an inverse function of the price

ratio PCSR

PnCSR, and is positively related to disutility parameter g. If the price ratio

between CSR goods and non-CSR goods (PCSR

PnCSR) is equal to 1

1�g, a consumer wouldpurchase a combination of the two goods. Since 1

1�g [ 1 for g 2 (0, 1), a CSR firm’sgoods can be priced higher than a non-CSR firm’s goods. This is consistent with thearguments that one benefit for a firm that pursues CSR is gaining a good reputationand therefore having the potential to charge a premium price for its products.1

1. Some studies discuss the benefits of a firm implementing CSR (Redman, 2005; Paul and Siegel,

2006; Ghoul et al., 2011; and Selvi et al., 2010), including attracting new customers, boosting

revenue, and gaining a good reputation - and therefore the opportunity to charge a premium

price for its products.


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However, if the price ratio between CSR goods and non-CSR goods (PCSR

PnCSR) is

much too high, i.e., the price for CSR goods is much too high relative to non-CSRgoods, the consumer will purchase more non-CSR goods; otherwise, if the priceratio is too low, the consumer will purchase more CSR goods.

Parameter g actually measures the degree of disutility incurred for the sociallyconscious consumer to purchase non-CSR goods. As g increases, the socially con-scious consumer is willing to pay more for CSR goods, thereby creating opportuni-ties for firms to behave in a socially responsible manner.

If the extreme case of g = 0 exists, that is, the consumer does not incur disutil-ity by purchasing non-CSR goods, or he/she cannot differentiate between CSRgoods and non-CSR goods, CSR goods cannot be sold at a price higher than non-CSR goods. In the other extreme case, where g = 1, that is, purchasing non-CSRgoods will not contribute to the socially responsible consumer’s utility at all, thereis no market for non-CSR goods.

Firms

Assume there are two sets of firms: tax-aggressive firms and tax-compliant firms.Both produce in a competitive market and are price takers. For a tax-compliantfirm, an additional cost A(.) is incurred from giving up tax-aggressive activitiesand hence paying more taxes than a tax-aggressive firm. Assume this cost A(.) isincreasing in output. For simplicity, assume A(.) is equal to q > 0 per unit of out-put produced by tax compliant firms. The profit maximization problem faced bytax-compliant firms is to choose output Xtc to

MaxXtc

p ¼ PtcXtc � cðXtcÞ � qXtc

s.t. Xtc� 0;

where c(.) is the cost function which is increasing in output Xtc. The resultingF.O.C. for this firm’s profit maximization problem is

@p@Xtc

¼ Ptc � c0ðXtcÞ � q� 0; with X�tc � 0 and X�

tc

@p�@Xtc

¼ 0: ð7Þ

Equation (7) shows that, even in the presence of extra tax cost q, a firm willproduce positive output (X�

tc[ 0) as long as the marginal cost is less than or equalto marginal revenue.

For a tax aggressive firm, the profit maximization problem is to chooseoutput to

MaxXta

p ¼ PtaXta � cðXtaÞs.t. Xta� 0:


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The resulting F.O.C. for this firm’s profit maximization problem is

@p@Xta

¼ Pta � c0ðXtaÞ� 0; with X�ta � 0 and X�

ta

@p�@Xta

¼ 0: ð8Þ

For simplicity, I assume that the marginal costs for both types of firms c0(.) arethe same, except that tax-compliant firms incur an additional cost of q. Equa-tions (7) and (8) lead to

Ptc ¼ Pta þ q for X�tc[ 0 and X�

ta [ 0: ð9Þ

Equation (9) shows that tax-compliant firms will charge a higher price for theirproducts by q, being the cost of paying more tax per unit.

Notwithstanding the fact that tax-compliant firms incur an additional cost ofpaying more taxes, they can still maximize profits if they are seen as CSR firms,since goods from CSR firms can be priced higher than non-CSR goods, asdepicted in equation (6). In other words, the additional cost incurred by tax-com-pliant firms is in fact the cost of differentiating their goods from other firms.

In fact, whether or not a firm decides to behave in a tax-compliant mannerdepends on the prices it can charge socially conscious customers. If the price differ-ence between tax-compliant products and tax-aggressive products is equal to theadditional cost of paying more taxes by a tax-compliant firm, there will be a combi-nation of tax-compliant and tax-aggressive firms in the market. Alternatively, if theprice difference is higher than the additional cost of paying more taxes, all firms willbehave with tax compliance, whereas if the price difference is lower than the addi-tional cost of paying more taxes, all firms will behave with tax aggressiveness.

Firms are subject to the expectations of all their stakeholders includingemployees, shareholders, consumers, communities, as well as governments; that is,firms are expected to consider the concerns of the broader society. Complying withtax obligations, refraining from using aggressive or abusive avoidance techniques,and disclosing detailed tax-planning transaction are all important tools used byfirms to engage with the broader society. Tax aggressiveness, on the other hand, isperceived by the broader society as a firm not paying its fair share of taxes therebytransferring a larger share of the overall tax burden onto others. Tax aggressive-ness enables a firm to become a free-rider, i.e., it enjoys benefits and resourceswithout paying (Christensen, 2004). Tax aggressiveness can also harm firms’ repu-tations and branding images (Fisher, 2014). Tax aggressiveness is therefore notcompatible with good corporate citizenship and can be viewed as being sociallyirresponsible.

Therefore, I expect that paying more taxes (q > 0 in the above models) wouldincrease the reputation of firms for being socially responsible and hence differenti-ate goods produced by these firms from others to maximize profit and marketvalue. I thus specify the following two hypotheses.


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HYPOTHESIS 1. There is a positive/negative relationship between CSR and taxcompliance/aggressiveness, ceteris paribus

HYPOTHESIS 2. There is a positive relationship between CSR and firm marketvalue, ceteris paribus.

EMPIRICAL MODELS

Sample and Data Collection

Financial data have been collected from the System for Electronic Document Ana-lysis and Retrieval (SEDAR) (CSA, 2014) for five years from 2005 to 2009.SEDAR reports the financial statements of all Canadian public companies andventure capitals.

CSR index data have been collected from the 2010 CSR Ranking from Corpo-rate Knights Research Group. Corporate Knights Research Group evaluates theenvironmental, social, and governance activities for TSX 60 firms in Canada basedon internationally recognized standards. The index is measured between 0 percentand 100 percent. The data include not only overall CSR scores but also the scoresof the individual components of CSR, such as social, governance, and environmen-tal scores.

The environmental score measures a firm’s energy, carbon, water, and wasteproductivities.2 The governance score measures a firm’s sustainability leadership,leadership diversity, and sustainability remuneration. The social score measures afirm’s employee safety, compensations between CEO and workers, percentage oftax paid, pension plan, and pension funding.

Since the CSR Ranking from Corporate Knights Research Group is publishedin the Global and Mail every year and is also available on-line, a large percentageof the population has access to it.

Regression Models

To determine the relationship between a firm’s CSR and tax aggressiveness and totest Hypothesis 1, I design the following regression models:

CSRi ¼ a0 þ a1ETRi þX

kkkCONTROLi þ ðIndustry dummiesÞ þ ei; ð10Þ

SOCIALi ¼ a0 þ a1ETRi þX


GOVERNi ¼ a0 þ a1ETRi þX


2. About 40 percent of firms (19 firms) do not have environmental scores.


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where

ETRi = effective tax rate for firm i

CSRi = overall corporate social responsibility index for firm i

GOVERNi = corporate governance index for firm i

SOCIALi = corporate social index for firm i

CONTROLit = a set of control variables

I measure a firm’s tax aggressiveness in two ways, that is, five-year cash taxrate and annual cash effective tax rate, based on prior tax-avoidance literature(Dyreng et al., 2008; Watson 2011a, etc.). The annual cash effective tax rate isdefined as annual tax paid divided by annual pre-tax income. As argued by Dyrenget al. (2008), the annual effective tax rate may not be a good measure of tax liabil-ity every year, since firms usually overpay taxes in one year and receive refunds inthe other year. Alternatively, I use a five-year cash effective tax rate, which is mea-sured as the sum of taxes paid over five years from 2005 to 2009, divided by thesum of pre-tax book income over those same five years. The five-year cash effectivetax rate is calculated as:

five-year effective tax rate ¼P2009

t¼2005

tax paidt

P2009

t¼2005

pre� tax incomet

:

The numerator is cash tax paid, shown on the cash flow statement.

I control for other firm characteristics that could potentially affect a firm’sCSR activities, as documented in previous studies (Waddock and Graves, 1997;Stanwick and Stanwick, 1998; Foster and Meinhard, 2002; Brammer et al., 2006;Paul and Siegel, 2006; Piercy and Lane, 2009, to name a few). They are, size(SIZE), measured as the log of total assets; return on assets (ROA), measured asnet earnings over total assets; losses (LOSS), an indicator variable, equal to 1 forfirms with loss carryovers at the beginning of 2005; leverage (LEV), measured asthe sum of short-term and long-term debts over total assets; capital intensity(FIX), the ratio of fixed assets to total assets; and inventory intensity (INV), theratio of inventory to total assets. Hypothesis 1 predicts a1 > 0.

The second hypothesis is on the association between CSR and firm marketvalue. Based on Ohlson’s (1995) residual income model, firm market value can beexpressed as firm book value and earnings. Therefore, I design the followingregression models:

VALi ¼ b0 þ b1CSRi þ b2BOOKi þ b3ROAi þ ðIndustry dummiesÞ þ eit; ð13Þ


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VALi ¼ b0 þ b1SOCIALi þ b2BOOKi þ b3ROAi þ ðIndustry dummiesÞ þ eit; ð14ÞVALi ¼ b0 þ b1GOVERNi þ b2BOOKi þ b3ROAi þ ðIndustry dummiesÞ þ eit; ð15Þ

where

VALi = averaged fiscal-year-end share price from 2005 to 2009 for firm i

CSRi = overall corporate social responsibility index for firm i

GOVERNi = corporate governance index for firm i

SOCIALi = corporate social index for firm i

BOOKi = shareholders’ equity, deflated by total assets for firm i

ROAi = net earnings over total assets for firm i

Hypothesis 2 predicts b1 > 0.

The original sample includes TSX 60 firms. I delete five companies which aretrusts and are taxed differently than the other firms.

When using the annual effective tax rate, I further delete 38 observations witheither a negative pre-tax income or with the annual effective tax rate falling outside[0, 1]. As a result, there are 237 observations left.

When using the five-year effective tax rate, I delete two companies with thefive-year effective tax rate falling outside [0, 1], following other studies of effectivetax rates (Dyreng et al., 2008). As a result, the final sample includes 53 firms.

Table 1 shows the distribution of the sample firms by industry according tothe Global Industry Classification (GIC), which is collected from the CorporateKnights Research Group database. The major industries are energy (11 firms),financials (11 firms), materials (10 firms) and consumer staples and discretionary(10 firms).

The four major industries are included to control for potential industry fixedeffects in all the above regression models.

EMPIRICAL RESULTS

Panel A from Table 2 presents the mean and median values of CSR ratings andETR for each of the four major industries. It shows that energy has the highestmean value of the overall CSR scores; financials has the highest mean and medianvalues of social scores; and materials has the highest mean and median values ofgovernance scores. Financials has the lowest mean and median values of five-yearETR as well as annual ETR.

Panel B from Table 2 presents the descriptive statistics of all major variables.It shows that on average, the five-year ETR is 21.5 percent, which is less than the


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statutory rate (around 30 percent from 2005 to 2009). The annual ETR, on aver-age, is 24.34 percent, which is also less than the statutory rate.

Panel B from Table 2 also reveals that, on average, TXS 60 firms have anoverall CSR index of 49.3 percent, a governance index of 37.9 percent and a socialindex of 61.2 percent. The maximum overall CSR index is 80.8 percent, while theminimum overall CSR index is 2.6 percent.

In addition, Panel B from Table 2 documents that, on average, profitability(ROA) is 0.084, leverage (LEV) is 0.174, average share price is $36.97, and morethan 75 percent of firms have a loss carry-over from prior years.

Table 3 reports the Pearson correlation matrix. It shows the correlationsbetween major variables. The maximum absolute value of the correlation is 0.808,between BOOK and SIZE. The minimum absolute value of the correlation is0.0001, between ROA and LEV.

Consistent with the hypotheses, ETR is positively associated with CSR; andCSR is positively associated with VAL.

Table 4 presents the results from models 10 to 12, where ETR is measured asthe five-year cash ETR. Column 3 shows the results from model 10, where theoverall CSR is regressed on ETR and other control variables. Column 4 shows theresults from model 11, where a component of the CSR index, the social index, isregressed on ETR and other control variables. Column 5 shows the results frommodel 12, where a component of the CSR index, the governance index, is regressedon ETR and other control variables.

Column 3 shows that, consistent with Hypothesis 1, the coefficient on ETR ispositive and statistically significant at the 0.01 level, which implies that paying

TABLE 1Distribution of sample firms by industry

Industry (GICS sector) Numbers of firms

Energy 11

Consumer staple and discretionary 11

Materials 10

Financials 10

Industrials 4

Telecommunications 3

Utilities 2

Information Technology 1

Healthcare 1

Total 53


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TABLE 2Descriptive statistics

Panel A: Descriptive statistics by industries

Variable

Energy Consumer Material Financials

Mean Median Mean Median Mean Median Mean Median

CSR 0.556 0.555 0.427 0.442 0.498 0.51 0.536 0.563

SOCIAL 0.656 0.687 0.624 0.61 0.453 0.434 0.733 0.72

GOVERN 0.549 0.681 0.186 0.042 0.559 0.683 0.341 0.37

ETR1 0.242 0.246 0.275 0.282 0.226 0.217 0.18 0.183

ETR2 0.292 0.239 0.431 0.296 0.496 0.191 0.231 0.207

Panel B: Summary statistics for all firms

Variable Mean Median 1st quartile 3rd quartile SD Minimum Maximum

ETR1 0.215 0.215 0.144 0.282 0.114 0.012 0.556

ETR2 0.2434 0.2338 0.129 0.3165 0.1633 0.0021 0.968

CSR 0.493 0.506 0.396 0.617 0.157 0.026 0.808

SOCIAL 0.612 0.644 0.506 0.739 0.191 0.03 0.948

GOVERN 0.379 0.365 0.042 0.685 0.28 0 0.738

ROA 0.084 0.064 0.031 0.126 0.066 0.003 0.278

LEV 0.174 0.172 0.039 0.274 0.145 0 0.53

INV 0.052 0.016 0 0.063 0.073 0 0.276

FIX 0.44 0.469 0.141 0.677 0.302 0 0.929

LOSS 0.736 1 0 1 0.445 0 1

SIZE 10.919 10.917 10.488 11.214 0.685 9.641 12.475

BOOK 0.081 0.084 0.052 0.109 0.043 0.008 0.159

VAL 36.97 34.81 26.64 48.16 16.5 4.384 82.05

Notes:

Table reports the summary statistics for the sample firms during the fiscal years 2005–2009.The variables are defined as follows: ETR1 is five-year average effective tax rate, ETR2 is annual effective

tax rate, CSR is overall 2010 corporate social responsible index, SOCIAL is 2010 corporate socialindex, GOVERN is 2010 corporate governance index, BOOK is measured as the sum of shareholders’

equity over the sum of total assets, and VAL is averaged fiscal-year-end share price from 2005 to 2009.Firm-specific control variables are defined as follows. ROA: measured as the sum of earnings over the sum

of total assets for five years from 2005 to 2009; LEV: measured as the sum of short- and long-term

debts over the sum of total assets for five years from 2005 to 2009; FIX: capital intensity, the ratio ofthe sum of fixed assets to the sum of total assets for five years from 2005 to 2009; INV: inventoryintensity, the ratio of the sum of inventory to the sum of total assets for five years from 2005 to 2009;LOSS: indicator variable, equal to 1 with positive loss carryovers at the beginning of 2005; SIZE:

measured as log of the average total assets for five years from 2005 to 2009.


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more taxes contributes to a higher overall CSR ranking. Similarly, column 4shows that the coefficient on ETR is positive and statistically significant at the0.01 level, which implies that firms that pay more taxes enhance their social scores.Finally, column 5 shows that the coefficient on ETR is positive and significantat the 0.1 level, which implies that paying more taxes also helps enhance gover-nance scores. In summary, Table 4 indicates that a high effective tax rate ispositively associated with the overall CSR ranking as well as all the three CSRcomponents.

A few control variables are also significant. For example, the coefficient onSIZE is positive and significant for all the three models, which implies that largefirms have high CSR scores as well as high social and governance scores. This isconsistent with the argument that large firms are most likely to face public scrutinyand be forced to invest heavily in CSR. In addition, large firms generally havemore resources and are therefore better able to make CSR a priority.

TABLE 3Pearson correlation matrix

Variable CSR ETR ROA LEV INV FIX LOSS SIZE BOOK VAL

CSR 1

ETR 0.32 1

ROA �0.155 0.116 1

LEV �0.016 �0.179 �0.000 1

INV �0.145 0.266 0.244 0.012 1

FIX 0.051 �0.05 0.336 0.414 �0.099 1

LOSS �0.012 �0.137 0.083 0.313 0.004 0.115 1

SIZE 0.372 �0.096 �0.516 �0.192 �0.467 �0.385 �0.242 1

BOOK �0.236 0.142 0.561 �0.092 0.328 0.378 0.236 �0.808 1

VAL 0.293 0.041 �0.031 �0.168 �0.059 �0.232 �0.294 0.375 �0.258 1

Notes:

Table reports the summary statistics for the sample firms during the fiscal years 2005–2009.The variables are defined as follows: ETR is five-year average effective tax rate, CSR is overall 2010

corporate social responsible index, BOOK is measured as the sum of shareholders’ equity overthe sum of total assets, and VAL is averaged fiscal-year-end share price from 2005 to 2009.

Firm-specific control variables are defined as follows. ROA: measured as the sum of earnings over

the sum of total assets for five years from 2005 to 2009; LEV: measured as the sum of short-and long-term debts over the sum of total assets for five years from 2005 to 2009; FIX: capitalintensity, the ratio of the sum of fixed assets to the sum of total assets for five years from 2005to 2009; INV: inventory intensity, the ratio of the sum of inventory to the sum of total assets for

five years from 2005 to 2009; LOSS: indicator variable, equal to 1 with positive loss carryoversat the beginning of 2005; SIZE: measured as log of the average total assets for five years from2005 to 2009.


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TABLE 4Testing results for five-year average effective tax rate

Variable Exp. sign Model 10 Model 11 Model 12

Intercept ? �1.4676** �1.091* �2.806***(�2.24) (�1.545) (�2.58)

ETR + 0.570*** 0.648*** 0.480*(�2.841) (�2.998) (�1.441)

ROA + �0.06 0.373 0.398(�0.153) (�0.884) (�0.613)

LEV ? 0.055 0.304* 0.135(�0.26) (�1.321) (�0.381)

INV ? 0.233 0.273 0.181(�0.655) (�0.71) (�0.306)

FIX ? 0.127 0.304*** 0.07(�1.216) (�2.695) (�0.405)

LOSS ? 0.028 0.155*** �0.111*(�0.547) (�2.823) (�1.311)

SIZE + 0.161*** 0.108* 0.280***(�2.658) (�1.66) (�2.786)

Energy + �0.024 �0.071 0.085(�0.31) (�0.854) (�0.669)

Materials + 0.062 �0.117* 0.348***(�0.876) (�1.539) (�2.956)

Financial + �0.053 0.314** �0.272(�0.396) (�2.185) (�1.23)

Consumer + �0.051 0.057 �0.125(�0.723) (�0.741) (�1.057)

R2 (adj) 0.23 0.39 0.33

Observations 53 53 53

Notes:

The table reports the testing results from the following regression models:


kkkCONTROLi þ ðIndustry dummiesÞ þ ei;





where ETR is five-year average effective tax rate, CSR is 2010 overall corporate social responsibleindex, SOCIAL is 2010 corporate social index, GOVERN is 2010 corporate governance index.

Firm-specific control variables are defined as follows. ROA: measured as the sum of earnings over thesum of total assets for five years from 2005 to 2009; LEV: measured as the sum of short- and long-term debts over the sum of total assets for five years from 2005 to 2009; FIX: capital intensity, the

ratio of the sum of fixed assets to the sum of total assets for five years from 2005 to 2009; INV:inventory intensity, the ratio of the sum of inventory to the sum of total assets for five years from2005 to 2009; LOSS: indicator variable, equal to 1 with positive loss carryovers at the beginning of

2005; SIZE: measured as log of the average total assets for five years from 2005 to 2009.***, **, and * denote significance at the 0.01, 0.05, and 0.10 levels, respectively, based on one-tailed t-test.


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LEV and FIX are positively associated with the social index. LOSS is posi-tively associated with social scores but negatively associated with governancescores.

Finally, Table 4 shows that industry effect exists. Financial institutions are pos-itively associated with social scores. Materials sector is positively associated withgovernance scores but negatively associated with social scores.

Table 5 presents the results from models 10 to 12, where ETR is measuredas annual cash ETR. Column 3 shows the results from model 10, where theoverall CSR is regressed on annual cash ETR and other control variables. Col-umn 4 shows the results from model 11, where a component of the CSR index,the social index, is regressed on annual cash ETR and other control variables.Column 5 shows the results from model 12, where a component of the CSRindex, the governance index, is regressed on annual cash ETR and other controlvariables.

Column 3 shows that, consistent with Hypothesis 1, the coefficient on annualETR is positive and statistically significant at the 0.1 level, which implies thatpaying more taxes contributes to a higher overall CSR ranking. Similarly, col-umn 4 shows that the coefficient on annual ETR is positive and statistically sig-nificant at the 0.01 level, which implies that firms that pay more taxes enhancetheir social scores. However, column 5 shows that the coefficient on annual ETRis not significant, which implies that paying more taxes annually does notenhance a firm’s governance scores. In summary, Table 5 indicates that a higheffective tax rate is positively associated with the overall CSR ranking and thesocial scores.

A few control variables are also significant. Some of the results are similar tothose in Table 4. For example, the coefficient on SIZE is positive and significantfor all three models; LEV and FIX are positively associated with the social index;and LOSS is positively associated with social scores but negatively associated withgovernance scores.

In addition, Table 5 shows that ROA is positively associated with both thesocial and governance scores.

Finally, Table 5 shows that industry effects exist. The four industries are allsignificant for some or all CSR scores.

Table 6 presents the results from models 13 to 15, where I link CSR rankingand its components to firm market value. Column 3 shows the results from model13, where firm market value is regressed on the overall CSR, book value, andearnings. Column 4 shows the results from model 14, where firm market value isregressed on the social index, book value, and earnings. Column 5 shows theresults from model 15, where firm market value is regressed on the governanceindex, book value, and earnings. It shows that, consistent with Hypothesis 2, thecoefficient on CSR is positive and statistically significant at the 0.01 level, which


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TABLE 5Testing results for annual effective tax rate


Intercept ? �1.1*** �0.788*** �1.986***(�4.327) (�2.827) (�5.076)

ETR + 0.087* 0.151** 0.082(�1.463) (�2.317) (�0.894)

ROA + 0.02 0.281** 0.275*

(�0.15) (�1.874) (�1.31)

LEV ? 0.029 0.213** 0.05(�0.329) (�2.24) (�0.376)

INV ? 0.149 0.145 0.089(�0.919) (�0.817) (�0.356)

FIX ? 0.062* 0.208*** 0.028

(�1.306) (�4.013) (�0.386)

LOSS ? 0.008 0.12*** �0.119***(�0.364) (�4.99) (�3.52)

SIZE + 0.149*** 0.105*** 0.232***(�5.899) (�3.799) (�5.97)

Energy + 0.03 �0.013 0.14***

(�0.034) (�0.342) (�2.653)

Materials + 0.092*** �0.072** 0.349***(�2.895) (�2.06) (�7.145)

Financials + �0.067 0.233*** �0.261***(�1.215) (�3.843) (�3.073)

Consumer + �0.009 0.102*** �0.111**

(�0.282) (�2.865) (�2.212)

R2 (adj) 0.24 0.38 0.45


Notes:








where ETR is annual effective tax rate, CSR is 2010 overall corporate social responsible index,SOCIAL is 2010 corporate social index, and GOVERN is 2010 corporate governance index.

Firm-specific control variables are defined as follows. SIZE: measured as log total assets; ROA:measured as net earnings over total assets; LOSS: indicator variable, equal to 1 with positiveloss carryovers at the beginning of 2005; LEV: measured as the sum of short- and long-term

debts over total assets; FIX: capital intensity, the ratio of fixed assets to total assets; INV:inventory intensity, the ratio of inventory to total assets.

***, **, and * denote significance at the 0.01, 0.05, and 0.10 levels, respectively, based on one-tailedt-test.


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implies that a high overall CSR ranking enhances firm market value. Similarly, col-umn 5 shows that the coefficient on the governance index is positive and statisti-cally significant at the 0.01 level, which implies that a high governance score alsoenhances firm market value. Column 4, however, shows that the coefficient onsocial index is not significant. In addition, energy and materials are negativelyassociated with firm market value, but financials and consumer staple and discre-tionary are positively associated with firm market value.

I use White’s (1980) test to find that heteroskedasticity is not a problem.

The CSR ranking from Corporate Knights Research Group reveals that taxpayment is a factor that determines social and final scores (i.e., tax payment con-tributes 20–25 percent to social scores and 6–10 percent to final scores). The tax-payment factor is calculated based on the average percent of statutory taxes paidover the last four fiscal years (via annual reports), that is, cash tax over taxes owedat the statutory rate.

In a robust test, I adjust the social and final CSR scores by excluding tax pay-ment. I calculate the average cash effective tax rate over four years before CSRranking is disclosed. For those firms with an average cash effective tax rate higherthan the statutory tax rate, their social scores are reduced by 20–25 percent andthe final scores are reduced by 6–10 percent. The results, not presented in thepaper, are similar to those in Table 5 to the extent that ETR is positively associ-ated with the social, governance, and final scores.

It is desirable to directly compare the results in this paper with those for theU.S. firms presented in prior literature (Watson, 2011a,b; and Davis et al., 2013).However, the CSR measurements used in prior literature are different from thoseused in this study. For example, Watson (2011a,b) and Davis et al. (2013) useCSP ratings produced by Kinder, Lydenberg and Domini Research & Analysis.The data are only for the U.S. firms, which provide integer scores of strengthand concerns in several categories including corporate governance, community,diversity, environment, human rights, and so on. The ratings can be positive ornegative.

To make a comparison between the U.S. firms and the Canadian firms, in asupplementary test I have collected the overall CSR rankings for 2012 and 2013for the global 100 most sustainable corporations from Corporate Knights ResearchGroup. There are 18 U.S. firms and 13 Canadian firms in 2013 among the globaltop 100 sustainable corporations. In 2012, there are 10 U.S. firms and 10 Canadianfirms among the global top 100 sustainable corporations. The database from Cor-porate Knights Research Group provides a uniform measurement of overall CSRfor both the U.S. firms and Canadian firms. Initially there are 51 firm-year obser-vations. After deleting 6 observations with unavailable financial reports, negativepre-tax earnings, or effective tax rates falling outside [0, 1], there are 45 observa-tions left. Financial data for the U.S. firms have been collected from the SEC10-K database. Financial data for Canadian firms have been collected from the


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SEDAR database. A Canadian indicator variable is included in model 10 to testwhether or not there is a difference in the Canadian context. Therefore, the regres-sion model is designed as follows:

TABLE 6Testing results on market value


Intercept ? 10.327 25.995** 18.441**

(�0.909) (�2.063) (�2.217)

BOOK + 11.242 �27.599 35.947

(�0.127) (�0.294) (�0.426)

ROA + 65.4* 56.559* 49.690*

(�1.625) (�1.318) (�1.303)

CSR + 37.84***

(�2.628)

SOCIAL + 8.665

(�0.641)

GOVERN + 30.58***

(�3.555)

Energy ? �5.407 �1.409 �9.537*

(�0.801) (�0.2) (�1.433)

Materials ? �9.25 �4.141 �17.05**

(�1.177) (�0.502) (�2.116)

Financials ? 15.52** 14.58* 17.04**

(�1.896) (�1.661) (�2.19)

Consumer ? 7.326 7.059 8.811*

(�1.115) (�0.998) (�1.41)

R2 (adj) 0.18 0.07 0.26


Notes:


VALi ¼ b0 þ b1CSRi þ b2BOOKi þ b3ROAi þ ðIndustry dummyÞ þ eit;

VALi ¼ b0 þ b1SOCIALi þ b2BOOKi þ b3ROAi þ ðIndustry dummyÞ þ eit;

VALi ¼ b0 þ b1GOVERNi þ b2BOOKi þ b3ROAi þ ðIndustry dummyÞ þ eit;

where CSR is overall corporate social responsibility index, GOVERN is corporate governanceindex, SOCIAL is corporate social index, BOOK is measured as the sum of shareholders’ equity

over the sum of total assets for five years from 2005 to 2009, and ROA is measured as the sumof net earnings over the sum of total assets for five years from 2005 to 2009.

***, **, and * denote significance at the 0.01, 0.05, and 0.10 levels, respectively, based on one-tailed

t-test.


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TABLE 7Results from supplementary test

Exp. sign Model 16

Intercept ? 0.428*(1.643)

CAN ? �0.037(�0.857)

ETR + �0.246*(�1.693)

CAN9ETR + 0.297**(1.878)

ROA + 0.71**(2.34)

LEV ? �0.126**(�1.781)

INV ? 0.244(1.098)

FIX ? �0.016(�0.214)

LOSS ? 0.17**(2.387)

SIZE + 0.014(0.675)

Energy + �0.048*(�1.469)

Technologies + �0.015(�0.35)

Financial + �0.067*(�1.358)

Biotech + 0.003(�0.081)

R2 (adj.) 0.09

Observations 45

Notes:


CSRit ¼ h0 þ h1ETRit þ h2CANi þþh3CANi � ETRit þX

k@kCONTROLit

þ ðIndustry dummiesÞ þ ei;

where ETR is annual effective tax rate, CSR is overall corporate social responsible index for 2012and 2013, CAN is indicator variable, equal to 1 for Canadian firms. Firm-specific control variablesare defined as follows. SIZE: measured as log total assets; ROA: measured as net earnings over

total assets; LOSS: indicator variable, equal to 1 with net loss in last year; LEV: measured as thesum of short- and long-term debts over total assets; FIX: capital intensity, the ratio of fixed assetsto total assets; INV: inventory intensity, the ratio of inventory to total assets.

***, **, and * denote significance at the 0.01, 0.05, and 0.10 levels, respectively, based on one-tailed t-test.


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CSRit ¼ h0 þ h1ETRit þ h2CANi þþh3CANi � ETRit þX

k@kCONTROLit

þ ðIndustry dummiesÞ þ ei; ð16Þ

where

CAN = 1 for Canadian firms and 0 for U.S. firms.

Table 7 presents the results from model 16. It shows that the coefficient onCAD9ETR is positive and statistically significant at the 0.05 level. It suggests that,in Canada, paying more taxes contributes to a higher overall CSR ranking.

CONCLUSION AND SUMMARY

This paper examines the relationship of CSR, tax aggressiveness and firm marketvalue. An economic model is developed based on the idea by Barboza and Trejos(2011) to show that profit-maximization firms would be willing to incur additionalcosts in CSR (such as paying more taxes) as long as they can differentiate theirproducts from those of non-CSR firms, and that socially conscious consumers willbuy products from CSR firms at prices higher than those of non-CSR firms. Theempirical study in this paper indicates that socially responsible firms are less likelyto undertake aggressive tax activities, while those firms that are less interested inbeing socially responsible are more likely to undertake aggressive tax activities. Italso indicates that a reputation of higher CSR will enhance a firm’s market value.Using Canadian companies listed in the S&P/TSX 60 index, I find that both firms’five-year effective tax rates and annual effective tax rates are positively associatedwith their overall CSR scores as well as their social index. Firms’ five-year effectivetax rates are also positively associated with their governance index. However, theannual effective tax rates are not associated with the governance index. Based onOhlson’s (1995) residual income model, I also find that firms’ overall CSR rankingand governance index are positively associated with their market value. However,the social index is not associated with firm market value. Overall, the empiricalresults show that paying more taxes leads to higher CSR rankings and thusenhances firm market value. In a supplementary test for cross-country comparison,I find that paying more taxes contributes to a higher overall CSR ranking in theCanadian context.

It should be noted that firms implementing CSR may enjoy favorable tax treat-ments; for example, charitable donations are tax deductible as are R&D expendi-tures incurred in environmental and sustainability activities. These tax treatmentswill reduce the tax liability of CSR firms and hence will be biased against theresults in this paper.

This study provides important evidence that increases our understanding of therelation between CSR and tax aggressiveness in countries beyond the United Statesthat have a different institutional environment and industry mix.


AP Vol. 15 No. 1 — PC vol. 15, no 1 (2016)

This study is of interest to policymakers, corporate managements, and aca-demics who wish to examine the relationship between CSR and other firm charac-teristics. Given that CSR has recently attracted increased attention fromacademics, businesses, governments, and other bodies, future studies should beconducted to explore the reason why CSR differs considerably across firms. Futurestudies may also extend the model in this paper to include other business goalsbesides maximizing profits.

Finally, the results from this study must be interpreted with caution, since thesample is a small portion of the large population of Canadian public firms. Thesmall sample size may reduce the strength of the tests and generalizability of someof the results.

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