CLAREMONT McKENNA COLLEGE

THE IMPACT OF CORPORATE SOCIAL RESPONSIBILITY ON EXECUTIVE

COMPENSATION

SUBMITTED TO

PROFESSOR GEORGE BATTA

AND

DEAN GREGORY HESS

BY

ANDREW JARMON

FOR SENIOR THESIS

SPRING 2010

APRIL 19, 2010

 TABLE OF CONTENTS

INTRODUCTION 1

SOCIALLY RESPONSIBLE INVESTING 3

EXECUTIVE COMPENSATION LITERATURE REVIEW 5

HYPOTHESIS 8

DATA 9

METHODOLOGY 14

RESULTS 19

DISCUSSION 20

REFERENCES 23
 INTRODUCTION
A topic often addressed in colloquial
understandings of the working world, yet
sparsely covered in the realm of executive
compensation, is the role of non-monetary
payoffs in contracting and compensation.
This is not without good reason. Unlike
monetary compensation, which can be
quantified, alternative goods such as “work
environment” and “quality of living” provide
a quagmire of definitions and measurement
that make studies of their existence and
impact much less feasible.
Of primary interest in this paper is
what a CEO would say if asked whether he or
she would prefer to work for a socially
responsible firm or a neutral firm (in regards
to social responsibility). This would be
presuming all things being equal in the firms,
the only difference being their social
responsibility track record. Even if one were
able to garner a “yes” out of the majority of
executives questioned, the difficulty in
studying the impact of this effect on
compensation could be found in the variety of
working definitions of “socially responsible”
that would likely be supplied. There might be
some commonalities, however the variance in
definition would add additional variance to
the study of its real-world effect.
At the heart of predicting the answer
of the executive would be understanding the
control that the executive might have on the
firm’s level of social responsibility. For
example, if one were to presume that there
was one factor that all persons asked would
point to as the unique component of social
responsibility, there might be firms for which
their very industry was classified as socially
irresponsible and for which the executive
team and board of directors would have
absolutely no control over the level of social
1
responsibility. This might also leave firms in
industries for which the decisions of
management did have a very significant
impact on the level of social responsibility in
the firm.
If the latter were the case, and the
CEO individually were to have a very high
degree of control over the level of social
responsibility at the firm (except for the cost
of effort), he or she might be completely
indifferent as to the prior level of social
responsibility in the firm prior to his or her
employment. This would be the case because
regardless of the firm, as long as the industry
did not dictate that the company by necessity
be socially irresponsible, the CEO could
implement his or her own version of social
responsibility at any company to which he or
she was hired.
To begin this study, it is first
necessary, however, to prove that there are
instances where qualitative goods such as
social responsibility are identified as having
an impact on compensation and job choice.
This will be followed by an analysis of the
work having been done on the impact of non-
monetary job benefits and costs at the
executive level. After this theoretical
framework under which job choice and
compensation has been shown to be impacted
by items such as the level of corporate social
responsibility, the goal of this study will be to
analyze whether it is possible to quantify the
effect of something such as corporate social
responsibility on executive compensation.
Like the examination of all things
which are not readily observable, the
necessity for proxies and natural simulations
of the good or behavior to be studied are
paramount. The overlapping of issues such as
social responsibility and worker and executive
compensation has produced a variety of
individuals from varied backgrounds
attempting to understand the topic. While this
particular study clearly identifies itself in the
field of finance, a variety of sources will be
examined.
The effect of items such as job
prestige and non-observable goods on job
choice has been examined in and outside of
financial literature. Stephen Marks (2008)
cites the work of Professor Scott Baker, who
attempts to determine whether lower relative
compensation for judges versus lawyers has
lead to a dearth in judge capabilities. The
initial hypothesis to be examined centered on
the fundamental economic idea that with
higher compensation comes more people
interested in the job and with this higher
interest comes better applicants. Marks notes
that this is also dependent upon the elasticity
of demand for the job based on compensation
and how sharply demand will fall off for
judgeship positions once salary begins to drop.
Although the study is controversial in
that Baker had to posit some qualifications in
terms of determining judge performance, a
position for which it is difficult to observe
this, his primary findings suggest that judge
salaries need not increase to ensure better
judge applicants. As Baker notes, and Marks
agrees, the non-observable aspects of the job
(e.g. an intellectually stimulating work
environment, tenure, prestige, generous
retirement benefits, the sense of public service,
etc.) seem to compensate for the difference in
monetary compensation. Thus, while the
monetary difference remains, the non-
monetary compensation received through the
judgeship position cancels out this difference.
Working in the same avenue of non-
finance research, Judge and Bretz (1991)
found that “work values” were a significant
factor in job choice. While the term “work
values” is vague, Judge and Bretz indicate
that it encompasses the value systems of
individuals. They further suggest that a
person’s job selection is based on said value
2
systems and is in search of a firm that mimics
the values that they hold. However, the
authors merely suggest that “work values”, as
they relate to company culture, play a
significant role in job choice. The study is
somewhat limited in its applicability largely
because of the uncertainty over what the term
“work values” actually means. Other than
suggesting that it encompasses non-
compensatory items, the authors do not
elaborate.
The most definitive work on the
effects of social responsibility or moral values
on compensation and job selection comes
from Frank (1996). In his study, the author
looked at several surveys to try and determine
the effect that social values had on job
desirability and compensation. He looked at
the difference in compensation for lawyers
working in the public versus private spaces, a
survey of Cornell students and their job
preferences and a study looking at the
required level of compensation for a person to
choose the same job at a relatively less
socially responsible firm. Frank’s primary
findings suggest that individuals are willing to
sacrifice pay for working in a more ethical
environment. Furthermore, when asked
directly workers would prefer lower pay at a
more ethical firm if they were performing the
same task that they would be performing at a
less socially responsible firm.
Within the sphere of financial research,
several papers have hinted at the importance
of non-monetary rewards in terms of firm
selection and the attractiveness of firms to
executives, however they typically did not
incorporate variables associated with these
factors in their studies. Jensen and Murphy
(1990), in looking at compensation and its
effects on trying to solve the agency theory
dilemma, posit that elements such as visibility,
prestige and power have an effect on the level
of required monetary compensation that an
executive needs in order to take the position.
They do not include such variables in their
study because from an ex ante perspective
they do not vary positively with company
value and thus do not serve as an effective
tool in trying to get agents to act in the
interest of principals.
In a later paper, Murphy (1995)
further identifies non-monetary items as
significant towards the total compensation of
a CEO. Murphy writes:
[t]he value an executive receives from
his position includes his monetary
compensation and also includes
important non-monetary elements
such as power, prestige, and
community standing (6).
Murphy’s main argument in this paper is that
actual monetary compensation has to be high
enough to make it such that the CEO is still
willing to take actions such as plant closings
or layoffs that will certainly hurt his or her
reputation but would be in the best interest of
shareholders. This argument would suggest
that Murphy believes there can be a tradeoff
between non-monetary and monetary
compensation, although he links it more to
CEO specific factors rather than associative
benefits within a corporation known for
prestige or community standing (i.e. social
responsibility).
SOCIALLY RESPONSIBLE INVESTING
This study derives its metric for
determining the social responsibility of a
given firm from the quickly growing field of
Socially Responsible Investing (SRI). It
would be foolish to develop a proprietary
metric for the evaluation of a given
company’s level of corporate social
3
responsibility (CSR) given that one would be
imposing personal bias in to the study and
ignoring all previous research done as to what
may or may not qualify as a valid metric in
evaluating CSR. It can also be presumed that
if the metrics accepted by the SRI industry are
capable of moving capital markets and
determining fund allocations they might also
be capable of swaying executive job choice
decisions and influencing compensation.
The theoretical backing for SRI can be
sourced from the intersection of capital
markets and human morality. The ideal
situation for it to come in to focus would be
an instance where the risk and payoff of two
companies was expected to be equal, however
the level of “social responsibility” was
deemed to be different for each. In this
instance, socially responsible investors would
select the more socially responsible company,
in essence adding a secondary payout to the
expected stock return: social payoff.
The difficulty in studying anything
associated with the SRI industry will always
be characterized by the usage of terms such as
“moral”, “socially responsible” and “ethical”,
which each cultivate ambiguities as to the
real-world examples for which these ideas can
best be witnessed. The definition of SRI
provided by Renneboog, Horst and Zhang
(2007) will be used for this study, whereby
SRI is:
…a set of investment screens to select
or exclude assets based on ecological,
social, corporate governance or ethical
criteria, and often engages in the local
communities and in shareholder
activism to further corporate strategies
towards the above aims (1723).
While this certainly is not the sole definition
that exists for SRI, for all intents and purposes
it is a comprehensive definition that will serve
for this study.
 As far as the origins of SRI, many
academics peg the date of its start at various
points in history. Hill, Ainscough, Shank and
Manullang (2006) synthesize the history of
SRI by piecing together the citations of others
on the subject. In their account of it, SRI took
root in the 1940s when governments and labor
unions avoided investments in companies
with poor labor policies. This was further
expanded during the environmental
movement of the 1970s and concern over the
Vietnam war. The historical event that most
researchers, including Hill et. al. associate
with the development of SRI, is the apartheid
in South Africa during the 1980s. Renneboog,
Horst and Zhang (2007) even credit the SRI
movement with effectively ending apartheid.
In terms of actual SRI fund origins,
Muñoz-Torres, Fernández-Izquierdo and
Balaguer-Franch (2004) attribute European
SRIdevelopment with the movement
originating in the United States. Addressing
SRI in Spain, the authors note that the first
SRI fund in Europe started in 1965 in Sweden
and that the first SRI fund in the U.K. was
started in 1984. By point of comparison, the
first fund in the world ever employing social
screens was the Pioneer Fund, founded in
1928 in the United States. Renneboog et. al.
(2007) agree with Muñoz-Torres et. al. in
crediting the U.S. with development of the
SRI industry and furthermore credit the
Pioneer Fund with starting the movement on
the professional asset management side.
The modern day growth of SRI
investment products is associated by
Renneboog et. al. with the “ethical
consumerism” of today’s culture in which
consumers are willing to pay a price premium
for goods that are associated with being
ethically produced.
According to the Social Investment
Forum the SRI investment style currently
“encompasses an estimated $2.71 trillion out
4
of the $25.1 trillion in the U.S. investment
marketplace today”. The forum also notes
that there were 260 mutual funds performing
social screens as of 2007, with assets of
$201.8 billion1.
Although the typical profile of
individuals participating might be expected to
be dogmatic fundamentalists who allocate
their entire portfolio to assets deemed socially
responsible, Geczy, Stambaugh and Levin
(2003) indicate that the typical SRI investor
only allocates 25-35% of his or her total
wealth to such investments. Under this
paradigm it is easy to reject the notion that
those involved in SRI investing represent a
small subsection of the population and that
their views and values would likely never
overlap with those held by the CEOs of major
firms.
While the SRI industry does provide
an instance of individuals determining asset
allocations based on non-financial reasons,
the lack of definitive research demonstrating
an underperformance of such assets does not
lend itself to serving as another instance of
individuals sacrificing monetary gain for non-
monetary gain.
This is not to say that there has not
been research to document a financial cost
associated with investing behind an SRI
screen. Geczy, Stambaugh and Levin (2003)
find that:
[t]o an investor who believes strongly
in the CAPM and rules out managerial
skill, i.e. a market index investor, the
cost of the SRI constraint is typically
just a few basis points per month,
measured in certainly-equivalent
loss…The SRI constraint imposes
1
“Socially Responsible Investing Facts”, Social
Investment Forum.
http://www.socialinvest.org/resources/sriguide/srifacts.
cfm
 large costs on investors whose beliefs
allow a substantial amount of fund-
manager skill (1).
These findings are mirrored to a certain extent
by Guerard (1997). Guerard notes:
…the difference between the average
return on socially-screened equity
mutual funds and the 2034 unscreened
equity mutual funds drops from -417
basis points over the past five years to
-105 basis points over the past ten
years, a less meaningful differential,
particularly given the very small
number of socially-screened equity
mutual funds with long-term track
records (2).
While Guerard arrives at similar values as
those suggested by Geczy et. al., he maintains
that this does not represent a substantial
difference in returns between SRI and non-
SRI funds.
To further confound results on the
effectiveness of investing in CSR firms, Hill,
Ainscough, Shank and Manhullang (2006)
argue that on a long enough time horizon,
CSR firms outperform others. According to
Hill et. al.:
…the long-term investment horizon of
10-years (1995-2005) produced alpha
coefficients for the U.S. and European
portfolios that are significant and
positive at the 95% level, revealing
superior long-term financial
performance by socially responsible
firms (171).
Their study used a U.S. portfolio comprising
the same securities as a study done by Shank,
Manullang and Hill (2005). Thus, the
different conclusions arrived at by academics
in the field suggests that the monetary cost of
5
non-monetary gain in the SRI field has not yet
been determined and may not exist.
Additionally, it might well be argued
that CSR is simply a proxy for strong
corporate governance, which as will be
addressed in the executive compensation
literature review has been shown to predict
financial underperformance and additional
excess compensation for executives.
EXECUTIVE COMPENSATION
LITERATURE REVIEW
Attempting to explain from an ex post
perspective the compensation levels that
executives in the United States receive has
been a very popular subject, especially since
the dramatic increase in executive pay during
the 1990s and the corporate scandals of 2001
and 2002. It will no doubt continue to be a
heavily researched and debated topic after the
fallout of the most recent financial crisis,
especially where CEOs were paid large sums
at firms after strong annual performance but
whose risk exposure during those boom times
likely helped foster the losses they booked in
later fiscal years. This has popularized the
notion of “claw-back” provisions on
previously paid bonuses and in issuing
compensation in the form of restricted stock.
Although interest in this subject area has
remained high, the degree of certainty with
which current models can understand past
compensation still leaves room for future
discovery.
Within the framework of trying to
understand the current factors affecting
executive compensation, one of the central
ideas behind the modern understanding is that
of agency theory, whereby a principal
(shareholder) hires an agent (executive) to
perform tasks in the principal’s best interest.
The goal is to create a compensation program
that encourages the agent to act in the best
interest of the principal, since in the absence
of this the agent might pursue objectives more
related to his or her own personal enrichment.
Murphy, Jensen, Gibbons,
Zimmerman and Baker (1998) identify
agency theory as the prominent idea
governing current executive compensation
thought and provide the most comprehensive
overview of executive compensation study for
the years leading up to the publication of their
paper. Jensen et al. note the positive
correlation between company size and
executive pay but also note that this
connection has weakened over time. The
authors also note a “US premium” paid to
executives in the United States, where even
after adjusting for public benefits and
purchasing power parity executives in the
United States are still more highly paid than
their international counterparts.
Expanding beyond the aforementioned
correlation between firm size and
compensation, Aggarwal and Samwick (1999)
suggest the significance of accounting for
stock price volatility when trying to explain
executive compensation in an ex post manner.
The authors find that when some parameter
explaining risk (i.e. dollar return variance) is
not included in the model that the connection
between pay and performance is biased
towards zero.
This study was refuted, however, by
Core and Guay (2002) who determined that
the dollar return variance variable utilized by
Aggarwal and Samwick to stand in for firm
performance volatility was actually in fact a
noisy proxy for firm size. Core et. al. argue
that “because dollar return is nearly perfectly
correlated with firm size, this evidence is also
consistent with a richer agency model in
which firm size is a proxy for agent wealth
6
constraints and a number of additional factors
determine CEO incentives”(3). Because of
the findings of Core and Guay, dollar return
variance will not be examined in this study.
In terms of trying to classify executive
specific attributes, Belliveau, O’Reilly and
Wade (1996) looked at social capital and its
effects on executive compensation. Belliveau
et al. came to the conclusion that CEOs with
relatively more social capital (i.e. higher
quality of networking, prestige, and
“célébrité”) compared to their compensation
chairs were able to exact more compensation.
While their most explanatory regression
achieved an adjusted R2 of 0.64, the only
determinant variables used by the authors and
cited frequently in the literature on executive
compensation were executive tenure, sales
and return on equity (ROE) (the authors did
not specify whether this was book value ROE
or market value ROE). The authors did not
note from what period these explanatory
variables were from, which a priori would be
extremely important towards explaining
certain levels of executive compensation.
In addition, the authors did not include
explanatory variables for return on assets
(ROA), book to market or an S&P 500
dummy variable, which were all shown in the
research by Core, Guay and Larcker (2008) to
be extremely powerful in explaining
executive compensation. Thus, while
suggesting some interesting ideas, the study
by Belliveau et. al. would need to be
reworked with the inclusion of additional
explanatory variables to confirm the
legitimacy of their assertions.
Although controversial, Bebchuk and
Fried (2005) note that there is a significant
discrepancy between what executives are paid
now and what they would be paid in an arm’s-
length transaction whereby contracting
between the board and the executive is merely
the intersection of the personal interest of
both parties. The debate over whether
executive compensation is arrived at by
arm’s-length contracting or through what is
called the executive power model, whereby
executives are able to strong arm
compensation boards in to getting oversized
payouts, has yet to be settled. Much of the
research currently being done on executive
compensation in one way or another is geared
towards trying to determine which model best
explains executive compensation as it
currently exists.
There have also been many studies
that have examined alternative explanations
for varying levels of executive pay outside of
the above mentioned studies, which mainly
focus on straight forward and expected
determinants. Wade, Porac, Pollock and
Graffin (2006) look at CEO certification
contests and their impact on executive
compensation. Their findings principally
conclude that CEOs that have been certified
(what they refer to as “star CEOs”) from the
onset of this award receive higher
compensation. Their certification does not
lead to higher or lower one-year accounting
profits when compared to firms with non-
award winning CEOs. While the higher
compensation is true from the onset, star
CEOs that underperform are typically
compensated less than those non-certified
CEOs performing at a comparable level. This
leads to what Wade et al. refer to as a “double
edged sword”.
Work has also been done trying to
examine the effect of corporate governance
on executive compensation.
Bebchuk and Fried (2003) identify the
following as indications of poor corporate
governance and factors leading to higher
excess compensation:
i) The board is relatively weak or
ineffectual;
7
ii) there is no large outside
shareholder;
iii) there are fewer institutional
shareholders;
- or -
iv) managers are protected by anti-
takeover arrangements (78)
While Bebchuk and Fried tend to write
controversial pieces regarding executive
compensation, their findings on the positive
correlation between weak corporate
governance and excess compensation (i.e. that
not explained by conventional performance or
company identifier variables) is echoed by
others.
In a paper addressing this same topic,
Core, Holthausen and Larcker (1999) find
similar results as those suggested by Bebchuk
and Fried (2003) in that CEO compensation is
influenced by board-of-director characteristics
and ownership structure, even after
accounting for the typical determinants of
executive pay. Indicators of poor governance
include the CEO also serving as the board
chair, the board being larger, board members
who are older and serving on multiple boards,
the board being made up by a larger
percentage of outside directors and when
these outside directors are appointed by the
CEO. Based on their study, Core et. al. state:
…our results suggest that firms with
weaker governance structures have
greater agency problems; that CEOs at
firms with greater agency problems
extract greater compensation; and that
firms with greater agency problems
perform worse (372-373).
This study unequivocally demonstrates that
CEOs operating at firms designated as having
poor corporate governance receive higher
excess compensation than those working at
firms which are not.
 Core (2000) builds on studies
suggesting poor corporate governance
influences excess CEO compensation
positively by looking at Director and Officer
(D & O) insurance premiums in Canada as a
proxy for poor corporate governance. Core
finds this to be the case, noting:
D & O premiums are significantly
higher when inside control of share
votes is greater, when inside
ownership is lower, when the board is
comprised of fewer outside directors,
when the CEO has appointed more of
the outside directors, and when inside
officers have employment contracts
(451)
Furthermore, Core notes that excess CEO
compensation is notably higher in firms with
high D & O premiums, further suggesting that
D & O insurance premiums can serve as an
effective proxy for poor corporate governance.
Identifying in the literature on
executive compensation a common regression
model from which one could begin to add in
additional explanatory variables was an
important component of this study. This
model would ideally generate what one would
expect an executive to be paid given
explanatory performance and identification
variables for the firm and executive. Getting
to this model that for all intents and purposes
explained the most variance in executive
compensation would make determining the
causes for firm specific deviations easier.
For all practical purposes, Core, Guay
and Larcker (2008) have provided such a
combination of variables in identifying their
formula for calculating the expected level of
compensation for executives. Core et al.
suggest that the natural logarithm of executive
compensation should follow the following
formula:
8
Log(Compensationit) = α + xitβ + uit
With factors that hold as proxies for the
economic determinants serving as
determinant variables. These determinant
variables, as identified by the authors, include
the logarithm of sales from the year prior, the
logarithm of executive tenure from the current
year, whether or not the firm is in the S&P
500 in the current year, book value to market
from the prior period, market return for the
given year, market return from the prior year
and return on assets for the given year and
prior year.
HYPOTHESIS
This study posits that classification as
a socially responsible firm will have a
statistically significant, negative effect on
total compensation. As a secondary
hypothesis, this study posits that being
classified as a socially irresponsible firm will
have a statistically significant, positive effect
on total compensation.
The reasoning behind the statistical
significance of the first and second hypothesis
finds its roots in the literature cited in the
introduction of this paper, demonstrating that
non-monetary rewards can have an impact on
job choice and on monetary compensation.
Within the introduction of this paper,
it was theorized that a researcher might not
observe significance in the level of social
responsibility of a firm in terms of affecting
executive compensation if the executive were
to have such control over the firm’s culture
and practices so as to implement his or her
own desired level of social responsibility. If
this were to be the case, an executive would
demand no less amount of compensation to
work at a historically or currently socially
responsible or irresponsible firm because he
or she could change this. The argument
suggested with the two hypotheses for this
study is that CEOs do not have full control
over the level of social responsibility at their
firms. Rather, that they see the socially
responsible environment in which they get to
work at those companies that have been
included in an index such as the KLD 400 as
a non-monetary compensatory item.
The negative impact suggested by the
first hypothesis of social responsibility on
executive compensation can be explained
using either executive power or arms-length
contracting models of executive
compensation arrangement. This allows the
findings of this paper to stand true regardless
of the direction of the debate on executive
contracting, presuming that the hypotheses
are found to be correct.
Under an executive power model, the
negative sign on the social responsibility
variable can be explained by the executive
simply demanding less compensation because
of the outside non-monetary pay she receives
in the pride or social recognition from being
associated with a socially responsible firm.
Under an arms-length contracting model, both
the compensation committee and the
executive will agree upon a lower
compensation package because they will both
recognize the positive value of being
associated with a socially responsible firm.
The positive effect on executive
compensation expected from being a socially
irresponsible from the second hypothesis was
expected for the same reasons as social
responsibility was expected to have a negative
impact. This would be that managers
working at firms classified as socially
irresponsible would be incurring a cost by
being associated with the irresponsibility of
the firms they work for. Thus, their monetary
9
compensation would have to be higher to
compensate for the non-monetary cost they
incurred to work for such firms.
The “sin” or social irresponsibility
variable is also added in to verify that the
social responsibility dummy variable is not
simply a noisy proxy for lack of involvement
in questionable industries. In other words, to
verify that the value to executives of social
responsibility is not about the absence of “bad”
practices but rather the presence of “good”
practices. If the sin variable is found to take
away statistical significance from the social
responsibility variable or serves as a better
explanatory variable of executive
compensation, it can be concluded that social
responsibility is merely a proxy for the
absence of “sin” or social irresponsibility in a
company.
DATA
The goal of this study is to provide
insight in to the effect of company
characteristics, such as social responsibility,
on CEO compensation. The proxy for the
social responsibility indicator is inclusion in
the FTSE KLD 400 Social Index (previously
known as KLD’s Domini 400 Social Index).
Started in 1990, the index attempts to provide
a benchmark by taking in to account
environmental, social and governance (ESG)
factors. The index seeks “90% large cap
companies, 9% mid cap companies chosen for
sector diversification, and 1% small cap
companies with exemplary social and
environmental records” 2 . More specifically
beyond ESG factors, the index breaks down
2
“FTSE KLD 400 SOCIAL INDEX Fact Sheet”
http://www.kld.com/indexes/data/fact_sheet/DS400_Fa
ct_Sheet.pdf
their qualitative criteria for companies in to
the topics and criteria3 identified in Table I.
Beyond the company size factors
identified earlier, the qualitative criteria in the
form of ESG factors is scrutinized on a more
subjective basis by analysts working for the
index, with there being an index committee
whose approval is required before any
company may be added or subtracted from the
index. There are also several areas of
involvement for which companies are
immediately removed from consideration for
the index if they have engagement beyond a
specified threshold. These questionable areas,
as identified by KLD, include: abortion (i.e.
the service of abortions), adult entertainment,
alcohol, contraceptives (i.e. the distribution of
contraceptives), firearms, gambling, military,
nuclear power and tobacco4.
An employee at RiskMetrics, which
runs KLD, was kind enough to provide me
with the index constituents as of every
December for 2002 to 2008. This data, which
includes company name and stock ticker,
serves as the foundation for the socially
responsible dummy variable to be utilized in
the regression analysis.
The next step is to identify the sample
space from which KLD is likely drawing their
index constituents. After testing the KLD
index for inclusion in various forms of the
S&P 500, the most effective group was
determined to be the combined constituents of
the S&P 500 Large-Cap and S&P 400 Mid-
Cap indices, from here on referred to as the
S&P 900. The S&P 600 Small-Cap was not
used due to the exceptionally small amount
(1%) of the KLD index that could be drawn
from this group.
The yearly constituents for the S&P
900 for the time period considered, 2002 to
2008, is drawn from the Index Constituents
section of the COMPUSTAT database. Since
this information is organized by date added to
a particular index and the date removed from
a particular index, a cutoff is needed to
determine the fiscal year for which a company
was a member of a particular index. If a
company is added to the S&P 500 prior to
December of any given year (i.e. November
31st or earlier), the company is counted as

Table I
Community & Employees & Governance &
Environment Customers
Society Supply Chain Ethics
1. Labor-
1. Marketing & 1. Reporting &
1. Climate Change 1. Philanthropy Management
Advertising Engagement
Relations
2. Non-Carbon 2. Impact on 2. Product/Service 2. Governance
2. Employee Safety
Releases Community Quality & Safety Structures
3. Impact of 3. Civil Rights: Civil 3. Anti-Competitive 3. Workforce
3. Business Ethics
Products & Services & Political Practices Diversity
4. Resource 4. Customer 4. Supply Chain 4. Political
Management & Use Relations Labor Accountability

3
“KLD ESG Ratings & Involvement Criteria” KLD
Research & Analytics, Inc., 2009
4
“KLD ESG Ratings & Involvement Criteria” KLD
Research & Analytics, Inc., 2009

10
 being a member of the index for that entire
fiscal year including any subsequent years. If
a company is delisted from an exchange after
November 31st of any given year (i.e.
December 1st and onward), it is considered to
have been a member of the index for that full
fiscal year. In both instances if this case is
not met for a company changing indices
during a particular year, the year is not
counted for either the index being left or the
index being entered.
Explanatory variables, including
revenue, stockholders equity, market value of
equity, total assets and total compensation is
drawn from the COMPUSTAT database for
Executive Compensation and Annual
Fundamentals. Total monthly returns (to
calculate market return) is obtained from the
CRSP/COMPUSTAT merged database. For
all of these variables, data is matched with the
respective company based on year and gvkey
or the matched PermNo associated with the
gvkey. Regrettably, since the ticker symbol is
the only matching data provided by KLD, a
combination of this and the year is used to
determine KLD index membership in the
sample space of companies.
In terms of cleaning the data, the
primary concern is the identifier for whether
or not the company was part of the KLD
index for a given year. Stock tickers are at
best unreliable since tickers can be reassigned
to other companies or an individual company
may change their stock ticker. This is why
the company specific gvkey used in
COMPUSTAT, which is unique to each
individual company and is never reassigned,
is used for matching all other data outside of
the KLD index variable.
Because the social responsibility
effect is the primary issue to be studied, it is
paramount to ensure that there are no false
negatives (false positives are less of a concern,
because it is inconceivable that in a particular
11
year if the COMPUSTAT database has a
particular stock ticker for a company and the
KLD index data has that same ticker that they
are not indeed referring to the same company).
Out of the 3,200 entries within the KLD index
data provided, spanning from 2002-2009, 250
companies comprising 757 entries could not
be located within the sample space of the
S&P 900 from the same time period.
For any company not found in the
sample space of companies studied, there are
two possible explanations. The first is that
the company simply is not in the S&P 900
studied, which is not altogether unlikely. This
is because FTSE mentions in their
methodology of assembling the KLD index
that certain small caps are selected and some
of the midcaps that are selected possibly do
not fall in the S&P 400 midcap index
considered for this study. The second
possibility is that either the ticker entered in
the S&P 900 data is incorrect or the ticker in
the KLD 400 data is incorrect.
Before beginning any substantial data
processing, there was one ticker that was
obviously a mistake from the KLD index in
2002. This was AOL Time Warner, which
had been ascribed the “AOL” ticker rather
than the acquirer, Time Warner’s, “TWX”.
This was obviously simply a data entry
oversight, easily explained by the acquisition
of AOL by Time Warner in 2000.
Beyond this easy catch, the first step is
to identify out of the “not found” companies
within the KLD data those that indeed have
correct tickers, but simply do not appear in
the sample space of companies because they
are not included in the S&P 900 for the year
examined. To determine this list, the now
249 (minus AOL Time Warner) companies is
pulled through the CRSP/COMPUSTAT
Merged Linking Table, which would also
ascribe gvkeys to those companies that are
included.
 Of the companies pulled through the
table, there are a total of 73 companies
comprising 104 entries that did in fact have
correct tickers but are simply not found in the
sample space of the S&P 900. The next step
is to see if there are indeed entries in the S&P
900 sample that match the gvkey and year of
any of the 104 entries, but simply have
“wrong” tickers in place. For five companies
comprising 26 entries this is the case,
subsequently the tickers in the S&P 900 space
are changed to agree.
This leaves 68 companies comprising
78 entries that are simply not in the sample
space of companies. The remaining 176
companies comprising 661 entries needs to be
checked by hand based on the full company
name. After performing this check, 105
entries are found to actually be within the
sample space, whereas the remaining 556
entries are confirmed to have not been
contained in S&P 900 for the specified year.
Additionally, it is necessary to
associate the company SIC codes with the
written industry description such that I could
associate the companies involved in industries
that are automatically disqualified from KLD
analysis. The list of paired SIC codes and
written industry description is obtained from
the SEC website 5 , however the actual
assignment of SIC codes to each particular
company is obtained from the COMPUSTAT
database.
The dataset is then checked to assure
that for each company their SIC code
corresponds with a written description
provided by the SEC. There are found to be
413 entries whose SIC code does not match
with a subsequent description from the SEC.
The vast majority of these entries are regional
or national banks (coded: “6021” instead of
the SEC’s “6020”), followed by several
5
http://www.sec.gov/info/edgar/siccodes.htm
12
conglomerates and at least two alcohol
manufacturers. In the instance of Leucadia
National (a conglomerate with no matchup for
SIC), the company is assigned the tag of an
alcohol distributor for its holding of winerys6,
which according to the KLD Ratings and
Involvement Criteria for 2009 disqualified the
company from inclusion 7 . While this
certainly does not represent a majority of the
company’s business, given the emphasis of
this study and Leucadia’s absence of a
previously assigned code, it is felt to be
prudent to match the KLD standards of
screening and ascribe Leucadia the alcohol
marker.
In terms of the robustness of using
SIC codes to code for industry, as is
witnessed above there is no perfect overlap
for standard usage of any given SIC code. At
times assignment can be subjective and
different providers of classifications will at
times be in disagreement. Several studies
have been done regarding the use of SIC
codes, including that by Guenther and
Rosman (1994). As cited by the authors,
differences between different SIC code
providers has been witnessed in the 20%
range. In addition, the SEC, as cited by the
authors, acknowledges that when one single
product line or business for a given company
is difficult to determine, the resulting SIC
assignment will appear subjective.
Because the SIC codes utilized are
those provided by COMPUSTAT, it is of the
utmost importance to identify the
methodology for SIC assignment and whether
or not this is in fact robust. As identified by
Guenther and Rosman, the methodology for
SIC code assignment (as of the time of their
paper) includes the following:
6
Leucadia National Corp. Form 10-K for FY 2009.
http://www.sec.gov/Archives/edgar/data/96223/000009
622310000004/leucadia200910k.htm
7
“KLD ESG Ratings & Involvement Criteria” KLD
Research & Analytics, Inc., 2009
 1. Group SIC codes together by
major groups (e.g., all codes from
2801 to 2899) based on the business
segment breakout given by the
company, or the principal products for
a single segment company.
2. Compare related SICs within major
groups to see if one specific SIC
within a major group accounts for 50
percent or more of group sales; if so,
choose that specific SIC.
3. Choose a more general code if a
more specific is not applicable or
available (e.g., Office of Management
and Budget guidelines require there to
be at least six companies in an
industry) ( 117-118).
The SIC codes used to identify
companies in industries who would receive
immediate disqualification from further
consideration can be seen in Table II.
This yielded 101 entries that would be
assigned the “Socially Irresponsible” binary
variable.
Because the values for total
compensation that are found in the
COMPUSTAT database are determined to be
in thousands of dollars while the entries for
revenue, book value of shareholder equity,
market value of shareholder equity, net assets
Table II
2082 MALT BEVERAGES
2100 TOBACCO PRODUCTS
2111 CIGARETTES
3760 GUIDED MISSILES & SPACE VEHICLES & PARTS
5180 WHOLESALE-BEER, WINE & DISTILLED ALCOHOLIC BEVERAGES
13
and net income are determined to be in
millions of dollars, a change was made to put
total compensation in millions of dollars.
Entries are dropped from
consideration when data is missing for one of
the statistically significant explanatory
variables as identified by the model of
expected executive compensation from Core
et. al. (i.e. logarithm of sales, book to market,
RETt, RETt-1, ROAt and ROAt-1). The only
explanatory variable in their expected
executive compensation model for which
entries are not dropped in their entirety for
missing values is for executive tenure. This is
because there are several missing entries for
“date became” CEO as obtained from
COMPUSTAT, and given executive tenure’s
relatively low significance in the predicted
compensation model, it is determined that
executive tenure can simply be omitted for
entries for which it cannot be correctly
calculated. This is done in the interest of
protecting a large number of otherwise
complete entries.
This left 5,913 entries for the time
period 2002 to 2008 used in this study
(however when executive tenure is included
in regressions this drops to 5,751
observations). Table III provides a
correlation table between the social
responsibility dummy variable (social binary),
the social irresponsibility dummy variable
(Sin Binary) and the S&P 500 dummy
 variable (S&P 500 binary), followed by the
mean value for each one of these variables in
the dataset. Table IV provides the mean value
for the Social, Sin and S&P 500 binary by
year.
Additionally, Table V provides
summary statistics for all of the explanatory
variables used in this study, excluding the
social, sin and S&P 500 binary variables.
Table VI lists the mean for the same
explanatory variables broken out by year.
Table VII breaks out the summary statistics
provided in Table V for the same explanatory
variables by whether the firm is socially
responsible or not. Finally, Table VIII
provides a correlation table between total
compensation, book to market, revenue from
the prior period, executive tenure, the S&P
500 binary variable, the social binary variable
and the sin binary variable. Of notable
interest in this correlation table is the strong
positive correlation between being an S&P
500 company and total compensation and
lagged revenues. In addition, there is also a
strong positive correlation between being an
S&P 500 company and being a socially
responsible company.
METHODOLOGY
The goal for this study is to imitate the
expected executive total compensation model
utilized by Core, Guay and Larcker (2008)
while adding a socially responsible and
irresponsible dummy variable. As identified
earlier, this model used the logarithm of sales,
the logarithm of executive tenure, whether or
not the firm was in the S&P 500, book value
to market from the prior period, market return
for the given year, market return from the
prior year and return on assets for the given
year and prior year.
14
In their 2008 study, Core et. Al. were
primarily concerned with excess
compensation, identified as:
Excess Compensation = (Total Received
Compensation) – (Expected Compensation)
Whereby expected compensation was simply
that which could be predicted utilizing
commonly accepted firm performance and
identifier variables and executive identifier
variables (i.e. logarithm of executive tenure).
This relatively simple regression
model would serve as the baseline test for the
explanatory power of a social or sin dummy
variable on compensation. Only after either
of these indicators was proven statistically
significant at this baseline level could one
begin to start adding in additional elements
for which the academic community studying
executive compensation has deemed to be
significant.
To run the expected compensation
regression model as identified by Core et. al.,
it is necessary to calculate values for market
return for the given year and prior year and
the same for return on assets.
Part of the concern when calculating
the market return (RET) values was up to
what point this should be calculated. For
example, while company performance
information can be found on an annual fiscal
year basis, because this information is not
released to the market until typically three
months after the end of the fiscal year, the
question would be whether the stock price
performance solely from the start to finish of
the fiscal year is an adequate snapshot of the
company’s market performance. This is
because if this is the only time period
considered, the market technically may not be
fully aware of the operating data from the
prior year.
 Table III

Social Sin S&P 500

Correlation Table Binary Binary Binary
Social Binary 1
Sin Binary -0.08 1
S&P 500 Binary 0.31 0.06 1
Variable Mean
Value 0.35 0.01 0.56

Table IV

Mean Value By Social S&P 500

Sin Binary
Year Binary Binary

2002 0.34 0.01 0.56

2003 0.33 0.01 0.56
2004 0.34 0.01 0.56
2005 0.35 0.01 0.55
2006 0.36 0.01 0.55
2007 0.35 0.01 0.56
2008 0.37 0.01 0.57
Total 0.35 0.01 0.56

Table V

Standard 25th 50th 75th

Mean Minimum Maximum
Deviation Percentile Percentile Percentile
Total
Compensationt 7.31 7.15 0.29 40.57 2.80 5.08 9.11
Book/Markett-1 0.43 0.26 -0.01 1.34 0.25 0.39 0.57
Revenuet-1 8493.70 14877.97 215.30 94713.00 1311.74 3055.42 8679.31
Executive Tenuret 7.15 6.71 0.50 35.02 2.56 5.00 9.22
RETt-1 0.13 0.35 -0.67 1.37 -0.07 0.10 0.30
RETt 0.06 0.36 -0.76 1.24 -0.15 0.06 0.26
ROAt 0.03 0.04 -0.14 0.14 0.01 0.03 0.05
ROAt-1 0.03 0.04 -0.13 0.14 0.01 0.03 0.05

15
 Table VI

Mean
Total Executive
Value By Book/Markett-1 Revenuet-1 RETt-1 RETt ROAt ROAt-1
Compensationt Tenuret
Year
2002 6.88 0.43 7609.76 6.96 0.06 -0.14 0.01 0.02
2003 6.49 0.53 7191.95 7.08 -0.12 0.37 0.02 0.02
2004 7.19 0.43 7733.56 7.31 0.40 0.17 0.03 0.02
2005 7.54 0.42 8259.48 7.17 0.19 0.12 0.03 0.03
2006 7.93 0.41 9199.70 7.37 0.13 0.14 0.03 0.03
2007 7.80 0.40 9813.80 7.02 0.15 0.05 0.03 0.04
2008 7.43 0.42 9894.75 7.15 0.10 -0.32 0.02 0.04
Total 7.31 0.43 8493.70 7.15 0.13 0.06 0.03 0.03

Table VII

Not Socially Standard 25th 50th 75th

Mean Minimum Maximum
Responsible Deviation Percentile Percentile Percentile
Total Compensationt 6.97 7.14 0.29 40.57 2.62 4.67 8.42
Book/Markett-1 0.45 0.26 -0.01 1.34 0.26 0.41 0.59
Revenuet-1 7646.76 14946.80 215.30 94713.00 1079.80 2497.00 7316.22
Executive Tenuret 7.26 6.75 0.50 35.02 2.58 5.17 9.45
RETt-1 0.14 0.37 -0.67 1.37 -0.07 0.11 0.32
RETt 0.07 0.37 -0.76 1.24 -0.15 0.07 0.27
ROAt 0.02 0.04 -0.14 0.14 0.01 0.02 0.04
ROAt-1 0.02 0.04 -0.13 0.14 0.01 0.02 0.04

Socially Responsible

Total Compensationt 7.97 7.14 0.29 40.57 3.14 5.87 10.28

Book/Markett-1 0.40 0.24 -0.01 1.34 0.22 0.35 0.54
Revenuet-1 10082.53 14619.79 215.30 94713.00 1915.20 4577.23 10792.59
Executive Tenuret 6.95 6.62 0.50 35.02 2.50 4.77 8.93
RETt-1 0.11 0.31 -0.67 1.37 -0.08 0.09 0.26
RETt 0.05 0.33 -0.76 1.24 -0.16 0.05 0.24
ROAt 0.03 0.04 -0.14 0.14 0.01 0.03 0.05
ROAt-1 0.03 0.04 -0.13 0.14 0.01 0.03 0.05

16
 This is also dependent upon
perceptions of efficient market hypothesis
(EMH). If one were presuming that markets
function in a very strong manner of EMH,
then there would be no need to calibrate for
the delay in release of the annual performance
of the company to the market, since market
prices would already reflect this.
If one were presuming that markets
operate in a very weak version of EMH,
however, this would suggest that RET need
be calculated for the year ended the date that
the company’s annual performance
information (i.e. 10-K) was released to the
market. Rather than speculate on the type of
EMH that is most realistic, RET for the
trailing twelve months (TTM) as of the fiscal
year end date and the fiscal year end date plus
three months is calculated.
Obtained through CRSP, the total
monthly return is used to calculated trailing
twelve month (TTM) RET in the normal and
plus three month scenario. This is done by
compounding the returns in the following
manner:
(1 + monthly RET1) * (1 + monthly RET2)
* … (1 + monthly RET12) – 1
Using fiscal year end date data obtained
through COMPUSTAT for any given
company on any given year in the S&P 900
data set, TTM RET was calculated for the
given year, prior year, given year starting
three months after fiscal year end date and
prior year starting three months after fiscal
year end date.
Although both versions of RET are
tested in the model, the simple TTM RET (i.e.
TTM from fiscal year end date) possessed
more explanatory power. Because of this, the
simple RET is the one utilized in the final
model.
Return on assets (ROA) was
calculated for the given and prior year for any
given entry in the S&P 900 database based on
the following formula:
Net Incomet / [(Total Assetst-1 + Total Assetst)
/ 2]
Where t equals the year for which ROA was
to be calculated. To assure that this was the
most explanatory methodology of calculating
ROA, an alternate form of ROA was also

Table VIII
S&P
Total Executive Social Sin
Book/Markett-1 Revenuet-1 500
Compensationt Tenuret Binaryt Binaryt
Binaryt
Total
Compensationt 1
Book/Markett-1 -0.08 1
Revenuet-1 0.43 0.00 1
Executive Tenuret 0.02 -0.05 -0.06 1
S&P 500 Binaryt 0.37 -0.12 0.37 -0.09 1
Social Binaryt 0.06 -0.10 0.07 -0.02 0.31 1
Sin Binaryt 0.04 -0.03 0.05 -0.03 0.08 -0.07 1

17
tested:
Net Incomet / Total Assetst
Because the original (i.e. net income divided
by average assets of the period) was
determined to have more explanatory power,
this was the ROA used in the final model.
Within the model for expected
executive compensation as specified by Core
et. al. is a value for executive tenure. This is
calculated by number of years passed from
the date the executive became CEO to the end
of the current fiscal year being examined.
The date that the executive became CEO is
found through COMPUSTAT.
Prior to performing the regression
analysis, dummy variables for year and two
digit SIC code are created. These variables
are found to be significant and thus are
included in the final regression analysis. In
addition, because Core et. al. did not account
for firm fixed effects in their study, this will
not be done in this study.
In addition, although Core et. Al. did
not winsorize their data, this is done in this
study at the one percent level to eliminate
irregularities presented in the data. Several of
the companies in the company set analyzed
included compensation levels far outside of
the observed distribution, for which
winsorizing the data helped to correct.
Finally, the logarithm is taken of
revenue from the prior year, executive tenure
from the current year and total compensation
from the prior year to agree with the model as

Table IX

VARIABLES Logarithm of Total Compensationt

Logarithm of Revenuet-1 0.32***

(0.02)
Logarithm of Executive Tenuret 0.02
(0.02)
Book/markett-1 -0.35***
(0.08)
RETt 0.29***
(0.05)
RETt-1 0.23***
(0.05)
ROAt -0.23
(0.47)
ROAt-1 -0.70*
(0.41)
S&P 500 Binary 0.30***
(0.04)
Constant -1.30***
(0.17)
Observations 5,751
R-squared 0.346
Robust standard errors in parentheses
Year and SIC dummies included in regression
but not shown above.
*** p<0.01, ** p<0.05, * p<0.1

18
 specified by Core et. al. Regression analysis
was also performed by accounting for
clustering around each firm specific gvkey.
While this was not performed in the Core et.
al. methodology, it is utilized in this test to
identify persistence in values connected to
each firm specific gvkey.
When adding in the social binary
variable to the expected compensation model
outlined by Core et. al., the variable is found
to have a statistically negative effect at the 5%
level. This regression generated an R2 value
of 0.348. The results from this regression can
be seen in Table X.

RESULTS The dollar effect of this variable can

be backed out of the current regression model
explaining the logarithm of total
compensation where:
First, the Core et. al. expected
compensation regression is performed on the Log(R) = a + bv1 + cv2 + … zvn
dataset. This generates an R2 value of 0.346.
The results of this can be seen in Table IX. The formula can be rewritten as:
R = (10a)*(10bv )*(10cv )*…(10zv )
1 2 n

Table X

VARIABLES Logarithm of Total Compensationt

Logarithm of Revenuet-1 0.32***

(0.02)
Logarithm of Executive Tenuret 0.02
(0.02)
Book/markett-1 -0.35***
(0.08)
RETt 0.28***
(0.05)
RETt-1 0.22***
(0.05)
ROAt -0.16
(0.47)
ROAt-1 -0.64
(0.42)
S&P 500 Binary 0.33***
(0.05)
Social Binary -0.09**
(0.04)
Constant -1.30***
(0.16)
Observations 5,751
R-squared 0.348
Robust standard errors in parentheses
Year and SIC dummies included in regression
but not shown above.
*** p<0.01, ** p<0.05, * p<0.1

19

If we let b be the coefficient on the social
binary variable (denoted v1), then total
compensation R when v1 = 0 will be:
R(v1=0) = (10a)*(10cv )*…(10zv )
2 n
Thus for v1=1, the equation can be rewritten
as:
R(v1=1) = R(v1=0)*(10bv )1
If we use the mean of total
compensation for all firms of $7.31 million
(Table V) and the coefficient on the social
binary variable of -0.09 (Table X), then this
would generate an expected value of total
compensation when v1=1 of $5.94 million, a
difference of $1.37 million. This is clearly a
very economically significant amount.
To check that the sign on the social
binary variable is correct, only the social
binary variable, year and industry dummy
variables are regressed on the logarithm of
total compensation. This is also done for the
social binary variable and S&P 500 binary
variable and the social, sin and S&P 500
binary variables (always including industry
and year dummy variables). These results can
be seen in Tables XI and XII.
When only the social binary is
regressed on the logarithm of total
compensation, the sign on the coefficient is
positive. This can however be explained by
the significant correlation between being
categorized as a socially responsible firm and
being in the S&P 500. When the S&P 500
binary variable is added in, the coefficient
once again returns to a negative value and
some statistical significance is stripped away.
As can be seen by the regression involving
the sin, social and S&P 500 binary variable,
the sin binary did not add any explanatory
power to the model. This persisted at the
20
level where all explanatory variables are
included, so it is dropped from the final
regression model.
Perhaps the lack of significance of the
sin binary can be explained by the
exceptionally small number of observations
recorded for this variable, for which even if it
were extremely significant would have
prevented it from having an impact in the
model. Perhaps this is why the test to
determine whether the social and sin binary
variables are statistically significantly
different fails to be true at any commonly
accepted level of significance.
DISCUSSION
This study determined that the
inclusion of a dummy variable corresponding
with the KLD 400 Social Index added
statistically significant explanatory power to
the expected executive compensation model
outlined by Core, Guay and Larcker (2008).
However, the social responsibility dummy
variable failed to be significantly different
from a dummy variable representing social
irresponsibility, composed of all companies
with SIC codes matching industries for which
the KLD 400 immediately excludes from
consideration.
The reason for the KLD 400 Index’s
explanatory power in executive compensation
is somewhat debatable. Besides potentially
being a proxy for some other element that all
socially responsible firms share but those that
are not in the list do not, the question would
also be whether the variable’s significance
comes by way of being a indicator or as a
defining element.
 For example, if executives look to the
KLD 400 Index to extract the social
responsibility level of various firms, inclusion
on this list is going to be very important.
However, it might be that the KLD index
simply serves as an indicator for whether
others are also likely to view the firm as
socially responsible.
If the KLD index is merely a proxy for
some other variable or indicator that is a
better predictor of social responsibility, then
the variable or indicator would serve as a
better explanatory variable in understanding
executive compensation from an ex post
manner than the KLD index.
As identified in the literature review
of current work on executive compensation, it
has also been determined that poor corporate
governance has a statistically significant
positive impact on excess executive
compensation. It is possible that social
responsibility is simply a noisy proxy for
strong corporate governance. Although
including explanatory variables representing
corporate governance was outside the scope
of this study, interacting a variable such as
inclusion in the KLD index with a proxy for
corporate responsibility would be necessary to
Table XI
21
conclude that social responsibility is
separately explanatory.
Presuming social responsibility was
not a proxy for strong corporate governance,
identifying causality would be the next step.
This could be done by finding a real-world
situation where the effect of social
responsibility on executive compensation was
observable. An example of such a situation
would be one where social moors changed
dramatically (i.e. companies were assigned
different social responsibility rankings very
quickly) and then studying what impact (if
any) this had on executive compensation.
In addition, other methodologies such
as a paired study (i.e. company X which has
been deemed socially responsible with
company Y of similar size/industry etc. which
has not been deemed socially responsible)
would be important in further documenting
the effect of social responsibility. This would
be an element that would need to be included
in additional study.
Moreover, attempting to develop a
more sophisticated portfolio of socially
irresponsible companies or “sin” companies
would be helpful. This study simply
employed five SIC codes that unequivocally
can be associated with companies screened
out immediately by SRI indices such as the
KLD 400. However, this does not include
companies with “irresponsible” revenue
streams (such as ones supporting abortion,
involved in nuclear power, or the production
of firearms) since specific SIC code
designations do not exist for these industries.
In addition, companies that derive a
significant amount of their revenue from
socially irresponsible business lines will not
be captured in the simple “sin” portfolio
identified in this study.

Table XII

22
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