Nike overhauled labor practices in its suppliers' overseas factories after it was targeted by activists campaigning against sweatshop conditions. Faced with criticism on many fronts, Wal-Mart embarked on a strategy to burnish its reputation and improve or soften its impact on workers, local communities, and the environment. To deal with new realities in energy markets, British Petroleum rebranded itself as BP, adopted the "beyond petroleum" tagline, and stepped up efforts to develop clean energy and address climate change.
In all these cases, social pressure played a major role in determining corporate strategy and performance. The impact of social pressure on companies is one of the dynamics explored in new prize-winning research that examines the political and social environment in which companies operate.
"Social pressure matters. Firms need to be attentive to these kinds of pressure," says David P. Baron, the David S. and Ann M. Barlow Professor of Political Economy and Strategy, Emeritus, at Stanford GSB.
How do corporate financial performance, corporate social performance, and social pressure relate to one another, and how do they affect firms? In a recent research paper, Baron and two coauthors spelled out a model that could help socially responsible investors better understand the political and social context affecting companies. Their empirical model used data on 2,010 companies from 1996 through 2004 to portray — or estimate — the relationships of these forces.
In November, their paper, "The Economics and Politics of Corporate Social Performance," was awarded the 2009 Moskowitz Prize by the Center for Responsible Business at the Haas School of Business at the University of California, Berkeley, in cooperation with the Social Investment Forum. The annual prize recognizes quantitative research that promotes socially responsible investing. The authors — Baron, Maretno Harjoto of Pepperdine University's Graziadio School of Business and Management, and Hoje Jo of Santa Clara University's Leavey School of Business — examined data from Kinder, Lydenberg, Domini Research & Analytics, a firm that tracks companies' environmental, social, and governance practices.
Under Baron's theory, businesses operate in three interrelated markets: the product market shaped by customers, the capital market shaped by investors, and the "market for social pressure" in which government, activists, and non-governmental organizations (NGOs) put demands on companies to increase their social performance. The pressure comes through actions such as regulatory enforcement, product boycotts, internet campaigns, and statements to the press. The data showed that the impact of social pressure was due almost entirely to "private politics" — actions by activists and NGOs — rather than "public politics" stemming from government actions.
By identifying patterns in the data, the trio reached several major conclusions.
Social Pressure and Social Performance Reinforce Each Other
Greater social pressure can result in better social performance. In other words, firms step up responsible behavior in response to pressure. Nike became an industry leader in promoting better working conditions in apparel and footwear factories in Asia and elsewhere after activists made the company a prominent target in the 1990s. Starting around 2005, Wal-Mart responded to critics by adopting more progressive employee, community, and environmental practices, including recent initiatives to cut energy use and require eco-responsibility among its suppliers.
The researchers also found the reverse is true — better social performance can lead to greater social pressure. Activists and NGOs often target firms precisely because they are responsive to social pressure. The firms are seen as "soft targets." For instance, Starbucks' socially responsible bent made it an attractive target for criticism and protests by activists pressing the company to sell "fair trade" coffee.
Greater Social Pressure is Associated with Lower Financial Performance
Social pressure can hurt a company's reputation, brand equity, or productivity. If activists call attention to a company's poor environmental record, the pressure could dissuade consumers from buying its products, cause some investors to shun its stock, and reduce productivity by hurting employee morale and motivation.
In general, social pressure tends to boost corporate social performance while hurting financial performance. "Social pressure from government, NGOs, and activists has two kinds of effects," says Baron. "It leads firms to increase social performance. And social pressure tends to be penalized in financial markets."
Financial and Social Performance are Largely Unrelated
Why? Consider two contrasting grocery chains. Whole Foods positions itself as a socially and environmentally responsible grocer selling premium-priced products to a niche market. Another grocery chain might be lower on social performance while selling at low prices to price-conscious consumers. Which one will be more profitable — the high social performer or low social performer? It could go either way, since there are so many variables at play simultaneously in determining financial performance, notes Baron.
However, differing patterns exist among the subset of companies selling to consumers and those selling to other businesses, such as wholesalers and manufacturers. Among consumer companies, financial performance is positively associated with social performance, since consumers can directly reward a company's socially positive behavior by purchasing its products. Among industrial companies, the opposite is true — financial performance is negatively associated with social performance. That's because responsible behavior can be expensive, and there are no consumers to directly reward an industrial company.
Overall, the study "challenges academics and social investors alike to appreciate the complexity of firms' relationships with society," said the Center for Responsible Business in announcing the Moskowitz Prize winner.