Wahba b found that firm s

Wahba (2008b) found that firm׳s environmental policy has exerted a positive and significant coefficient on institutional ownership. However, when an interaction term between environmental policy and financial performance is included, the results verified that environmental policy has a neutral impact on the preferences of institutional investors. Moreover, by classifying firms into two subgroups, according to their financial performance, environmental policy was found to have a positive and significant impact on institutional ownership only when financial performance is high. In addition, the findings of Wahba (2010) revealed that Egyptian institutional investors are more likely to use environmental policy to offset their inability to confront managerial discretionary power. The study concludes that not only different types of stakeholders will ask for different levels of environmental orientation, but also the same type of stakeholder may ask for different levels of environmental orientation in different contexts.
Hypothesis development The key argument in this paper is that corporate social responsibility is expected to affect financial performance positively (negatively), which, in turn, attracts (repels) institutional investors. The positive effect of social responsibility, in fact, on financial performance is based on two premises. First, there is a trade-off relationship between the firm׳s explicit costs (e.g., payments to bondholders) and the firm׳s implicit costs to other stakeholders (e.g., pollution control cost) (Wood, 1991; Wood & Jones, 1995). Thus, if the firm decides to lower its implicit cost by behaving in a socially irresponsible way, it mglur will incur higher explicit costs, which will result in a competitive disadvantage (Waddock & Graves, 1997). As a result, the expected payoff of corporate social responsibility may outweigh the initial cost. Second, firms, according to the raising rivals׳ costs theory, have different strategies to increase the cost of their competitors. One of these strategies is to use differentiation to create unique reputation that cannot be easily imitated (McWilliams, Van Fleet, & Cory, 2002). Put simply, corporate social responsibility creates some organizational capabilities that enable firms to achieve competitive advantages, such as being the first mover in the industry (Preston and O׳Bannon, 1997; Russo & Fouts, 1997; Waddock & Graves, 1997). Thus, by investing in superior social responsibility, a firm builds up a stock of reputational capital, and hence boosts its financial performance. On the other hand, the premise of the negative effect of social responsibility on financial performance is that the expected cost of social responsibility is likely to outweigh the resulting benefits (Friedman, 1970). Put simply, firms that invest in social activities and programs will incur costs that can be easily avoided and hence they will incur competitive disadvantage. For instance, those firms that spend money on some pollution control instruments will incur costs that may affect their price and thus profitability, whilst other competitors did not do that on the basis that pesticides is the government׳s responsibility (Aupperle, Carroll, & Hatfield, 1985). Better (or worse) financial performance, and rather social responsibility, may, in turn, be the reference guide for institutional investors when they make their investment decision. We draw this proposition from existing evidence in literature that verifies, first, that managers of these institutions are evaluated and compensated for their short-term results (Cox et al., 2004; Graves & Waddock, 1994), whereas investing in social responsibility programs and initiatives is likely to lead to considerable costs in the short term (Hart & Ahuja, 1996), and the market often values social responsibility characteristics in the long-term (Shank et al., 2005). Second, a very few institutional investors take social and environmental information into account when making their investment decisions (Hummels & Timmer, 2004). For instance, Matterson (2000) revealed that although many investors have valued social and environmental responsibility, financial performance was still their main concern. A finding that is consistent with not only the work of Sparkes (1998) who pointed out that financial returns are important for ethical investors, but also the conclusion of Teoh and Shiu (1990) who revealed that available data on social responsibility in company reports have no impact on decisions of institutional investors unless they are presented in a “financial form”.