5. Discussions and Implications
The nexus of this paper emphasizes the important effect of information
certification on investors' reactions to product recall strategies. While managers may
intend to convey positive messages through voluntary product recalls, the messages,
however, may not be well received. Voluntary recalls involve different motivations
and thus result in greater information uncertainty that increases the difficulty for
investors in interpreting the signals. Our findings suggest that CSR performance
positively affects investors' valuation on the financial impacts of voluntary product
recalls. The effect of CSR, however, becomes insignificant for involuntary recalls
since the underlying information is more straightforward in involuntary recall
announcements.
To the best of our knowledge, this paper is the first one in the literature to link
CSR performance with the financial impacts of product recall strategies. Chen et al.’s
study (2009) investigates the differences in financial value changes around the
announcements of product recalls comparing proactive and passive recall strategies.
Our study differs from Chen et al. (2009) in several important respects. First, this
paper examines voluntary and involuntary product recalls, while Chen et al. (2009)
measure proactive and passive recall strategies by whether the recalls involve any
incidents or not. The different focus may explain why our sample size of voluntary
recalls is much larger than proactive recalls in their study. Second, our study
considers the contingent effect of CSR on product recall strategies, while Chen et al.
(2009) does not. Finally, the sample in our study includes more product recall
announcements, and covers a longer time period.
This study is related with Cheah et al.’s (2007) that investigate the effect of
CSR on the abnormal returns of product recall announcements. They find that CSR
does not have a significant effect on the abnormal returns of product recall
announcements in both the U.K. and U.S. samples. While with similar focus on CSR
effect, their analyses does not consider that recall strategies may receive
heterogeneous impacts from CSR performance. In contrast, our study emphasizes the
characteristics of information uncertainty associated with voluntary and involuntary
recalls that can yield different impacts of CSR on investors' perception about the
financial impacts of product recalls.
Godfrey et al. (2009) investigate the risk management hypothesis by studying
the effect of CSR on shareholder wealth for a sample of negative events involving
lawsuits and regulatory actions. While their findings show that ICSR plays a more
important role in mitigating the unfavorable impacts of negative events, they also
suggest that social initiatives targeting a firm's primary stakeholders may yield the
insurance-like benefits when the negative events affect primary stakeholders. Our
evidence is consistent with the predictions. Product recalls involve the manufacturing
process of business operation, and the consequence has strong impacts on the welfare
of primary stakeholders, including customers, suppliers, employees and shareholders.
Since TCSR activities target primary stakeholders, it is actually not surprising that our
findings show that TCSR indeed are more effective in reducing the impacts of product
recalls, particularly for voluntary recalls. This paper, together with Godfrey et al.
(2009), provides strong evidence that not all CSR activities are alike. The effect of
CSR on firm value change is critically dependent on whether the nature of the events
is consistent with the types of CSR activities. TSCR performance is expected to be
more effective when the events have strong impacts concerning primary stakeholders,
while ICSR is more important when the shocks have greater influences on secondary
stakeholders.
Managerial Implications, Limitations and Future research
Our results suggest an important implication for managers in recall strategies
along with the factors that lead investors to choose socially responsible investment
products. A growing body of literature has indicated that the strategic use of CSR
positively links with firm performance (McWilliams et al., 2006), yet, how CSR can
benefit a firm in negative corporate events may closely hinge on target stakeholders’
behavior. Our findings suggest that the certification role of TCSR germane to direct
stakeholder relationship may nurture practical knowledge to invest functional CSR as
future assets under budgetary concerns. Furthermore, this paper accentuates the
qualitative usage of CSR that signifies the novelty and nature of the research in CSR
area. Managers can help reduce the negative impact of a product recall by effectively
developing and communicating the intangible values created from the CSR
engagement. In doing so, managers would more align investor expectations with
insurance property. In conclusion, managers had better march to the beat of different
stakeholder preferences in a given market.
The study sheds light on the informational attribute of socially responsible
activities for investors to evaluate a product recall strategy. As the debate if the CSR
investment in companies links to firm value remains a puzzle (see a systematic review
in Taneja, Taneja and Gupta, 2011), this study attends to find the value proposition in
CSR engagement upon a product recall announcement that helps resolve investor
uncertainty to an extent that influences stock market reactions. By means of CSR
investment preceding a corporate crisis, investors’ tolerance for operational mistakes
may heighten to an optimal level on the premise that the financial loss is acceptable.
In other words, as messages from the recall strategies are ambiguous to outside
stakeholders, it is the informational attribute of CSR activities publicly obtained from
third parties that decrease investor doubts on the consequences. While the empirical
results show a negative effect of both voluntary and involuntary recall strategies, the
certification role of CSR has been shed more lighted on differentiating the potential
impact on different recall strategies. Finally, the study encourages managers to
concern more on investment horizon in CSR in terms of business operational viability
that is conducive to long-term value creation. The investment in CSR initiatives has
cumulated more governance role of monitoring and disciplining corporate behavior to
the significance (Bhattacharya, Korschun and Sen, 2009). As a TCSR-oriented
activity relates more with governance, employees and product aspects (Mattingly and
Berman, 2006), firms can choose a favorable investment policy to maintain target
stakeholder.
There are some limitations in our research. Firstly, the event study methodology
is usually constrained as it goes to detect the long-run effects. Our study provides
evidence surrounding the announcement of a product recall strategy which may not
necessarily predicts long-term effects. Research on whether CSR activities could
recover the financial losses in the future is thus encouraged. Secondly, as the sample
in KLD database are S&P1500 publicly listed firms, our results may not be
generalized to privately-held firms. The information uncertainty ought to be much
higher for private firms, and hence the certification role of CSR activities should have
a greater impact. It would be interesting to explore the impact of CSR activities on
privately held firms in future research. Finally, the evidence in this study suggests the
certification function of CSR is important in voluntary recalls. CSR, however, is
certainly not the only mechanism that a firm can use to certify information. Other
mechanisms, such as reputations and corporate governance can also perform the
certification function. It is thus interesting to see if our findings also exist in other
mechanisms of information certification.
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