Imitate or Differentiate ?

Although there is $2 trillion in portfolios using socially responsible investing (SRI) criteria, it remains unclear how to measure “social responsibility.” We explore competing theoretical perspectives that explain the level of convergent and predictive validity across SRI ratings produced by competing social raters. While some prior literature predicts low convergent validity due to desire for differentiation, other work predicts high convergent validity driven by high true validity or by neo-institutionalist forces that reward imitation. We find that these ratings have low correlations and that firms with high and low social ratings are equally likely to be later embroiled in scandals. * We appreciate research assistance from Abbot Sim, Uyen Nguyen, Regine Harr, and Sarah Misherghi. We are also grateful to Orice M Williams at the GAO and Peter Kinder at KLD for allowing access to their data. Comments from Jason Snyder, Michael Toffel, David Vogel and from the OBIR seminar at UC Berkeley were very helpful as well. They have no responsibility for our results, interpretation or any errors. In 2005, professional fund managers invested at least $2 trillion with some consideration of “corporate social responsibility” in mind. The huge amount of capital under the banner of socially responsible investing (SRI) has drawn considerable attention from scholars, activists, managers, and policymakers. Some advocates of corporate social responsibility praise SRI, believing that it can direct capital towards the most responsible firms while penalizing firms with poor social performance. At the same time, skeptics argue that the organizations that rate the social performance of enterprises, referred to as “raters” in our study, cannot truly discern which firms are socially responsible, resulting in metrics that are often invalid and can be misleading to stakeholders (Entine, 2003). For their part, academics have produced dozens of articles on SRI (see recent review by Orlitsky, Schmidt, and Rynes, 2003). Most recent research has examined whether SRI affects returns for investors and the cost of capital for managers (see Waddock, 2003 for a review). A more fundamental question is whether commonly used indicators of social responsibility are valid measures of the social, environmental and ethical performance of enterprises. If these metrics are invalid, none of the hypothesized benefits of socially responsible investing can occur. In the worst-case scenario, if firms expend resources to achieve high scores on invalid metrics, then social welfare can decline when managers pay more attention to scoring highly on social ratings. Thus, it is crucial to understand the validity of the metrics used by SRI raters. Unfortunately, almost no careful validations of competing SRI metrics have been conducted. (For one example,