Person:

Chatterji, Aaron

We examine how firms respond to third-party ratings of their corporate environmental activities. Using insights from institutional theory, we hypothesize that ratings are particularly likely to spur responses from firms whose legitimacy is threatened and thus are shamed by these ratings. We extend existing theory by drawing on the strategic choice perspective to hypothesize that the greatest performance improvements will be exhibited by those shamed firms that face lower-cost opportunities to improve and thus are particularly able to respond. We tike advantage of a natural experiment, when a major social rating agency expanded the scope of its ratings, to empirically test these hypotheses in the context of environmental ratings and environmental performance of more than 650 firms in the United States. We find empirical evidence that supports our hypotheses, and present implications for theory and public policy.

Ratings of corporations' environmental activities and capabilities influence billions of dollars of "socially responsible" investments as well as some consumers, activists, and potential employees. In one of the first studies to assess these ratings, we examine how well the most widely used ratings those of Kinder, Lydenberg, Domini Research & Analytics (KLD) provide transparency about past and likely future environmental performance. We find KLD "concern" ratings to be fairly good summaries of past environmental performance. In addition, firms with more KLD concerns have slightly, but statistically significantly, more pollution and regulatory compliance violations in later years. KLD environmental strengths, in contrast, do not accurately predict pollution levels or compliance violations. Moreover, we find evidence that KLD's ratings are not optimally using publicly available data. We discuss the implications of our findings for advocates and opponents of corporate social responsibility as well as for studies that relate social responsibility ratings to financial performance.