This study reviews the impact of corporate social responsibility (CSR) and corporate governance on its credit rating. The result of regression analysis to credit ratings with relevant primary independent variables shows that both factors have significant effects on it. As we have predicted, the signs of both regression coefficients have a positive sign (+) proving that corporates with excellent CSR and governance index (CGI) scores have higher credit ratings and vice versa. The results show nonfinancial information also may have effects on corporate credit rating. The investment on personal data protection could be an example of CSR/CGI activities which have positive effects on corporate credit ratings.
Credit rating represents the credit rating agency’s evaluation of qualitative and quantitative information on the credit worthiness of a company or government based on their ability to pay back the debt and the likelihood of default. Credit rating agencies disclose their evaluation results for investors to reflect them in their decision-making. Considering that it is not easy to evaluate all credit risks of corporate bond issuers, the evaluation results from credit rating agencies provide an investment guideline to market participants.
Even though agency may reflect additional nonpublic information in the evaluation, its credit rating is primarily based on the announced financial reports. It means that the reliability of accounting information is a critical factor to protect investors from credit risks. There were many efforts to improve the reliability of accounting information. After the experience of accounting frauds such as Enron case, US enacted the Sarbanes-Oxley Act to ensure the financial soundness of listed companies. Korean stock market also has experienced several accounting fraud cases, which were considered as the primary cause of “Korea Discount” phenomenon during last few decades and brought in many policies to verify corporates’ accounting information including external audit requirements.
Although company’s financial record is a primary factor to evaluate its credit rating, we can think of additional nonfinancial factors that have effects on company’s credit rating. One of them is corporate social responsibility (CSR), a form of corporate self-regulation integrated into a business model. It embraces all business management activities beyond legal compliance based on ethics and morality of managers and stakeholders. In addition to the internal benefits of CSR activities such as better corporate image or sustainable management, CSR activities alleviate the risk of information asymmetry between investors by announcing reliable information. CSR activities also may reduce the company’s ethical responsibility on its bankruptcy risks by providing investors with proper information on it.
Another example of nonfinancial information affecting the credit ratings is corporate governance. It refers to the mechanisms, processes, and relations by which corporations are controlled and directed. Corporate governance index (CGI) is the evaluation result of the company’s internal environment and control system. Proper corporate governance enables reducing corporate’s bankruptcy risks and providing useful, timely, and reliable information to the public.
In developed countries, CSR and corporate governance information are assumed as an important part of financial information because they enable investor to estimate the sternness of company’s internal control system and the accuracy of company’s bankruptcy risk.
The purpose of this study is to verify if the evaluation on CSR and corporate governance is reflected into agencies’ credit ratings in Korean money market and to review the correlations between them. This study can be differentiated from previous researches by the fact that we analyze effects on credit rating system of corporate aspects including both financial and nonfinancial information. In addition, the results verify that nonfinancial information such as CSR or corporate governance can be a proxy for credit rating based on the financial efficiency.
Credit ratings are usually attached to debt security such as a bond. Ratings are assigned by credit rating agencies using letter designations such as A, B, and C. Higher grades are intended to represent a lower probability of default. Related researches tried to identify corporate’s components or elements which can affect its credit rating.
Standard & Poor’s [
Moody’s [
Bhojraj and Sengupta [
Dillenburg et al. [
CSR-related studies have been done in the various fields of sociology, ethics, or economics. In the field of Business Administration, it was approached as a topic of human resource management and marketing instead of accounting field.
Carroll [
Wood and Jones [
International Standards Organization announced ISO 26000 as an international standard of corporate’s social responsibility in November 1, 2010. It is the final output of efforts to integrate diverse aspects of organizations including ethics, management, and environment.
According to the research of Anderson and Cunningham [
Governance structures identify the distribution of rights and responsibilities among different participants. It also includes the rules and procedures for making decisions in corporate affairs. There has been renewed interest in the corporate governance practices since the several stock market collapses during 2001-2002, most of which involved accounting fraud.
Cohen and Hanno [
Kim [
If a company actively pursues corporate social responsibility, many researchers expect that its business healthiness and fairness also improve. In addition, the advanced social services and excellent employees’ satisfaction by contributing to economic development will lead the company to higher firm value in market. Also the mechanism of corporate governance protects the rights of shareholders and reduces the risk of bankruptcy by resolving the concerns of agency costs and asymmetric information.
The reported cases from other countries verify that CSR activities and corporate governance both should be considered to improve corporate’s financial outcome. Many investors concern the risk of bankruptcy, which is related to financial reporting and internal control systems [
Many studies provide verification of their relationships. It would be clear that companies with excellent financial performance would have a higher credit rating. However, the relations between credit rating and nonfinancial information such as CSR and corporate governance are depending on market participants. Capital markets in developed countries are sensitive to the nonfinancial information in addition to the financial results.
The purpose of this study is to analyze the effects on credit rating system of nonfinancial information, CSR, and corporate governance, focusing on the Korean capital market. We set the following hypotheses on the effects of them on corporate credit ratings.
CSR score has a significant positive (+) impact on the corporate’s financial credit rating.
Corporate governance score has a significant positive (+) impact on the corporate’s financial credit rating.
To verify the effects of CSR and corporate governance on corporate credit rating, we first identify corporate’s financial aspects having an effect on its credit rating evaluation. Previous researches suggested that financial variables having impacts on the credit rating are assets, inventory change, accounts receivable change, return over asset rate change, and debt ratio change. Adding a variable for CSR and corporate governance each, we can get (
(Cf)
ID: dummy variable for company group; YR: dummy variable for year;
As described before, we identified corporate aspects including both financial and nonfinancial information as independent variables affecting its credit rating, which can be a differentiation from other related researches. We can clearly identify the effects of nonfinancial information on corporate’s credit ratings compared to that of financial information.
For the data analysis, we use the credit rating scores published by NICE, a credit rating agency in Korea (
The financial rating is scored out of 100 points based on the financial statements of the company and additional nonfinancial items. Table
Criteria of credit rating.
Items | Variables | Assigned scores |
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Stability | Ratio of net worth to total capital | 10 |
Debt/sale | 10 | |
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Liquidity | Sale/NCR (net capital ratio) | 10 |
Current ratio | 10 | |
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Profitability | Ratio of net income to total capital | 10 |
Financial cost burden | 10 | |
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Growth | Sales growth | 5 |
Total assets growth | 5 | |
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Activity | Total assets turnover ratio | 5 |
Accounts receivable turnover ratio | 5 | |
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Size | Total assets | 7.5 |
Sales | 7.5 | |
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Nonfinancial | Corporate type | 3 |
Others | 2 | |
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Total | 100 |
As a proxy of CSR evaluation, we used KEJI Index published by Citizen’s Coalition for Economic Justice (CCEJ,
Evaluation item for CSR.
Items | Evaluation criteria |
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Healthiness | Shareholder composition, soundness of spending/investment and capital raise |
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Fairness | Fairness, transparency, relationship subcontract |
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Public contribution | Underprivileged protection, social welfare support |
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Consumer protection | Consumer rights protection, quality, advertising |
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Environmental protection | Environmental improvements result, violations, and pollution performance |
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Employee welfare | Industrial accidents, human resource investment, wage benefits, labor relations, equal employment |
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Economic development | Research and development efforts, financial performance, and economic contribution |
As a proxy of corporate governance, we used the evaluated scores on it during 2007–2009 provided by “Corporate Governance Service” (
Criteria for corporate governance.
Items | Description |
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Rights of |
Introduction of the corporate governance charter and code of ethics |
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Board of directors | Outside directors and attendance ratio |
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Disclosure |
IR performance |
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Audit committee | Organization of the audit committee, the configuration, and operating |
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Reward management | Dividend yield, share buyback |
Among the listed companies, we select candidates whose accounting period is January to December. Empirical data set is the annual financial report during 2007–2009 from selected nonfinancial company. Among 612 companies, we could review financial reports for the period, and we selected 440 companies of which CSR and CGI data were available from the data providers. After removing 1% outliers, we had total 436 data for regression analysis. Table
Data group categorised by industry.
Industry | 2007 | 2008 | 2009 | Total |
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Food/drug, textile, paper | 31 | 30 | 34 | 95 |
Metal/nonmetal, chemistry | 32 | 31 | 35 | 98 |
Electronics, machinery | 43 | 45 | 43 | 131 |
Service | 37 | 36 | 39 | 112 |
All |
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The descriptive statistics of the variables are shown in Table
Statistics of variables.
Min. | Max. | Average | SD | Count | |
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CFR | 30 | 95 | 68.128 | 11.415 | 436 |
CSR | 0 | 74.35 | 21.493 | 29.965 | 436 |
CGI | 20 | 100 | 41.589 | 11.809 | 436 |
ΔASST | −0.89 | 0.869 | 0.006 | 0.172 | 436 |
ΔREC | −0.803 | 1.96 | 0.113 | 0.353 | 436 |
ΔINV | −0.945 | 1.986 | −0.393 | 0.339 | 436 |
ΔROA | −6.928 | 7.502 | −0.135 | 1.47 | 436 |
ΔDEBT | −0.467 | 0.954 | 0.025 | 0.184 | 436 |
Table
Pearson correlation between variables.
CFR | CSR | CGI | ΔASST | ΔREC | ΔINV | ΔROA | ΔDEBT | |
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CFR | 1 | |||||||
CSR | 0.060*** | 1 | ||||||
CGI | 0.180*** | 0.195*** | 1 | |||||
ΔASST | 0.074*** | −0.017 | 0.007 | 1 | ||||
ΔREC | −0.003 | −0.023 | 0.069*** | −0.008 | 1 | |||
ΔINV | −0.009 | −0.015 | 0.038 | 0.02 | 0.053 | 1 | ||
ΔROA | 0.016 | 0.036* | 0.024 | −0.004 | 0.016 | 0.012 | 1 | |
ΔDEBT | −0.007** | −0.012 | −0.006 | 0.01 | 0.05 | 0.024 | −0.014 | 1 |
Those results show credit rating values increases according to the company’s asset increase or debt decrease. However, the rate changes of inventory, accounts receivable, and return on asset do not have any significant correlation with corporate credit rating.
The results of regression analysis with (
Results of regression analysis with equations.
Equation ( |
Equation ( | |
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CSR | 0.294 (6.638***) | |
CGI | 0.093 (2.013**) | |
ΔASST | −0.013 (−0.228) | 0.005 (0.118) |
ΔREC | 0.106 (2.285**) | 0.097 (2.007**) |
ΔINV | 0.209 (4.594***) | 0.230 (4.840***) |
ΔROA | 0.145 (3.265***) | 0.161 (3.465***) |
ΔDEBT | 0.294 (−2.709***) | −0.123 (−2.550**) |
ID | Included | Included |
YR | Included | Included |
|
16.149*** | 8.722*** |
Adj |
0.176 | 0.098 |
Cf:
Result for (
This study verifies the relationship between credit rating and nonfinancial information such as CSR and corporate governance. CSR activities have effects of reducing agency costs by eliminating the information asymmetry between internal and external stakeholders. Companies can fundamentally improve their social responsibilities with public announcement of proper financial reports and investment risks. Corporate governance is a key element of the internal control system, which is also critical to provide timely and reliable corporate financial information for outside investors to accurately judge the bankruptcy risk of the company. Both of them help to reduce agency costs and minimize the unfavorable side effect of information asymmetry.
Traditionally, corporate’s financial information and credit rating are intimately related. The suggested nonfinancial information has an effect on corporate credit rating individually, but integrated verification also considering the financial information is not provided for Korea market yet.
To prove our assumptions of nonfinancial information on the relationship, we provided empirical analysis with data from selected companies. The results of the analysis showed a significant correlation between credit rating and CSR and corporate governance. In the regression analysis between related variables, coefficients had positive (+) sign for both of them. Also the
We interpret the analysis results as follows. Credit rating system in Korea market is mutualized as in other developed countries. The agents’ index calculation methods are stabilized and we can predict the reaction of investors in stock markets according to the credit rating disclosure. The coherence between corresponding CSR/CGI variables and credit ratings has been increased during few decades and the results of data analysis between those variables prove their relationships.
The higher the credit rating has a corporate, the better the scores of corporate governance and corporate social responsibility are expected. Additional analysis for the refined metrics of CSR and corporate governance could provide investors with specific insights into the proxy of their market value. For the further research of CSR, we could consider wider nonfinancial area such as data security on personal information.
Dong-young Kim is the first author.
The authors declare that they have no conflict of interests regarding the publication of this paper.
This research was supported by the MSIP (Ministry of Science, ICT & Future Planning), Korea, under the ITRC (Information Technology Research Center) support program (NIPA-2014-H0301-14-1044) supervised by the NIPA (National ICT Industry Promotion Agency).