csr, audit quality and firm performance during covid-19: an
TRANSCRIPT
Munich Personal RePEc Archive
CSR, audit quality and firm performance
during COVID-19: an organizational
legitimacy perspective
Yadav, Sandeep and Srivastava, Jagriti
Indian Institute of Management Kozhikode, Kerala, India, Indian
Institute of Management Kozhikode, Kerala, India
June 2021
Online at https://mpra.ub.uni-muenchen.de/108967/
MPRA Paper No. 108967, posted 04 Aug 2021 14:43 UTC
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CSR, audit quality and firm performance during COVID-19: an organizational legitimacy
perspective
Abstract
Purpose - COVID-19 induced uncertainty in the firms’ business transactions, product-market
competition and financial market cause severe organizational legitimacy crisis. Using the
organizational legitimacy perspective, we study the relationship between corporate social
responsibility (CSR) activities, audit quality, and firm performance.
Design/methodology/approach – We use a quarterly panel of 89,185 firm observations (15,955
unique firms) from 131 countries from July 2018 to December 2020 for 10 quarters. We use a
Difference-in-Difference (DiD) method to estimate the effect of CSR activities and audit quality
on firm performance during the COVID-19 period.
Findings - We find a U-shaped relationship between CSR and firm performance. This relationship
is strengthened during COVID-19. In contrast, we find an inverted U-shaped relationship between
firm audit quality (audit fee) and firm performance. However, this relationship is weakened during
the pandemic.
Originality/value – Our study makes important contributions to theory and practice on
maintaining organizational legitimacy during the pandemic. During the crisis, managers need to
focus on strategies increasing firm value for the time period. This study shows that firms’ temporal
legitimacy gaining practices such as CSR activities and audit quality provides an opportunity to
increase firm value. Firm managers also need to identify the optimal level of CSR activities and
audit fees to balance the cost of agency and the benefits of legitimacy.
Keywords CSR, audit quality, COVID-19, firm performance, organizational legitimacy
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1. Introduction
COVID-19 led to unprecedented uncertainty in the economy (Altig et al., 2020). It resulted in a
global economic crisis and a sharp decline in stock markets worldwide (Szczygielski et al., 2021).
On one hand, social distancing norms and strict lockdowns were imposed to reduce the spread of
the virus (Caulkins et al., 2020). On the other hand, these stringent measures resulted in reduced
economic activity for the firms. Many firms followed a simple strategy of cutting down the
expenses and crouch it till the storm passes in response to the declining sales and uncertainty over
this period (Boissay et al., 2020). The pandemic has resulted in increased attention to corporate
social responsibility (CSR) activities (Bae et al., 2021). The firms are involved in creating and
increasing shareholder value by repeating their commitments to stakeholder interests. Any failure
in responding to such commitments would adversely impact the business environment for firms
(Manuel and Herron, 2020). Moreover, it can adversely impact investors' confidence that can result
in financial distress. Furthermore, given the high risk of distress during COVID-19, it is likely that
the firms violate the debt contracts (Albitar et al., 2020), and follow earning smoothing practices.
This increased demands in assurance for investors to increase their confidence through audit
quality (Arthur et al., 2015) as well as increased CSR activities. In light of the risk caused by the
pandemic, we study the impact of CSR activities and audit quality on firm performance during
COVID-19.
We integrate the institutional (DiMaggio & Powell, 1983; Scott, 1987) and strategic
(Ashforth and Gibbs, 1990; Suchman, 1995) theories of organizational legitimacy to propose a
theoretical model. First, we argue that up to an extent, the shareholders perceive CSR efforts as
firms’ conformity to societal norms at their cost. The firms merely engage in CSR practices to
show a certain level of compliance with social and environmental outcomes (Deegan, 2002;
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Waddock, 2004). We further argue that beyond an extent, the CSR decisions are based on an
organizational strategic legitimacy perspective rather than complying with institutional norms. The
rational firm managers take these extensive CSR decisions to increase form profit or increase the
firm value. Hence, we hypothesize a U-shaped relationship between CSR activities and firm
performance. Furthermore, the COVID-19 pandemic is a truly exogenous event that led to a high
level of uncertainty and an unprecedented stock market crash within a relatively short period. The
firms are under the spotlight due to the sudden increase in market participants and the increased
focus of government bodies on CSR activities during the pandemic. The firms with higher CSR
activities with limited financial and human resources during the pandemic are perceived more
legitimate and valued higher by shareholders. Hence, we hypothesize that the U-shaped
relationship between CSR activities and firm performance is strengthened during COVID-19.
Second, audit fees show the firms’ audit quality and audit cost. Firms use higher audit fees
as a strategic instrument to reflect audit quality by using specialized audit staff and more audit
hours (O’Sullivan and Diacon, 2002), and signals that firms have hired big auditors with more
skill, expertise, and experience. This enhances the legitimacy of a firm's disclosure and reporting
to increase firm value. Further, we argue that audit fees beyond a level may negatively influence
firm value. As per auditing pricing theory and literature on abnormally high audit fees, a very high
audit fee reflects firm business risks (Asthana & Boone, 2012; Choi et al., 2010). A very high audit
fee also shows agency relationship between firm’s managers and auditing firm, which, in turn,
reduces auditor independence. Hence, we hypothesize an inverted U-shaped relationship between
audit quality (or audit fee) and firm performance. Prior literature suggests that economic crises
negatively impact firm accounting management and reporting practices (Huizinga and Laeven,
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2012, 2012; Peterson and Arun, 2018). This makes the role of firm audit efforts more important
and weakens the inverted U-shaped relationship between audit quality, and firm performance.
In this study, we use a quarterly panel of 89,185 firm observations (15,955 unique firms)
from 131 countries from July 2018 to December 2020 for 10 quarters. We use a Difference-in-
Difference (DiD) method to estimate the effect of CSR activities and audit quality on firm
performance during the COVID-19 period. Our findings support the U-shaped relationship
between CSR activities and firm performance. This relationship is strengthened during COVID-
19. In contrast, we find an inverted U-shaped relationship between firm audit quality (audit fee)
and firm performance. This relationship is weakened during COVID-19.
We make a significant contribution to the theory and practice of maintaining organizational
legitimacy during the pandemic. First, we add to the strategic legitimacy perspective by showing
that firms can adopt strategies like CSR activities and high audit quality to gain legitimacy and
increase firm value during the COVID-19 period. Second, we add to mixed literature on the
relationship between CSR activities and firm performance. We show that the relationship between
CSR activities and firm performance is non-linear. Third, we contribute to the literature on the
relationship between audit quality and firm performance. Our findings show that up to an extent
audit fees improve firm performance by increasing high-quality disclosure and reducing
information between the firm and shareholders. A very higher level of audit fee indicates high firm
risk, an agency relationship between firm and auditors, and compromise auditors independence.
This reduces firm legitimacy and subsequently firm value.
2. Theory and hypotheses development
2.1 Organizational legitimacy perspective
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Extant literature has used institutional theory (DiMaggio & Powell, 1983; Scott, 1987), and
strategic theories (Ashforth and Gibbs, 1990; Suchman, 1995) to explain an organization's
legitimacy management. Institutional theory predicts organizational legitimacy as an outcome of
following widely maintained firm characteristics and normative assumptions of institutions
(DiMaggio and Powell, 1983; Scott, 1987). Under the logic of institutional legitimacy firms have
limited capability to manage the institutional legitimacy (Suchman, 1995), because firms follow
"a continuous and often unconscious adaptation process in which the organization reacts to
external expectations" (Palazzo and Scherer, 2006). In contrast, the strategic approach assumes
that organizational legitimacy treat is directly influenced and managed by firms (Ashforth and
Gibbs, 1990) as an operational resource (Suchman, 1995). Firms get institutional support by
instrumentally deploying and manipulating the redolent symbols (Suchman, 1995). The current
COVID-19 pandemic situation as a worldwide crisis provides firms with the opportunity to
purposively maintain organizational legitimacy. Firms take purposive legitimization actions based
on managerial calculations (Ashforth and Gibbs, 1990).
The COVID-19 pandemic context may cause stakeholders to reject firm practices such as
lower level of CSR practices and audit quality, if they perceive these practices as merely
reputational gaining stunts to increase firms value. In the current COVID-19 pandemic context,
firms deliberately communicate their rational argument about specific practices to gain legitimacy.
Based on the above discussed theoretical argument, we examine whether firms' practices of high
CSR activities and audit quality increase firms' legitimacy to gain organizational value during the
COVID-19 pandemic.
2.2 CSR and firm performance
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Firms are always under pressure to maximize shareholders' wealth as well as stakeholder's welfare.
Firms’ concern for institutional legitimacy forces to adopt CSR practices (Bansal and Clelland,
2004; Berrone and Gomez-Mejia, 2009) to improve firm reputation and access to resources
(Christmann and Taylor, 2001). Existing literature is not able to resolve the relationship between
CSR activities and firm performance. Some of the studies find CSR as a value-enhancing activity
for the firm (e.g., Cao et al., 2019; Dai et al., 2020; Deng et al., 2013; Flammer, 2015, 2020; Gao
et al., 2020), while other studies document that it CSR activities can reduce the firm value or even
not related to firm value (e.g., Bénabou & Tirole, 2010; Cheng et al., 2014; Di Giuli &
Kostovetsky, 2014; Masulis & Reza, 2015). The conflict resolution view suggests that CSR
activities enhance firm reputation and value by resolving the conflicts between managers and non-
investing firm stakeholders (Jo and Harjoto, 2011; Servaes and Tamayo, 2013). The
overinvestment view suggests that CSR practices are costly to shareholders and managers as agent
overinvestment shareholders money to gain corporate reputation (e.g., Brammer et al., 2006;
Crisóstomo et al., 2011; Harjoto & Jo, 2015; Hillman & Keim, 2001; Jo & Harjoto, 2011; Nelling
& Webb, 2009). These studies mostly assume a linear relationship between CSR activities and
firm performance. We argue that this relationship varies with the level of firm CSR activities and
have different implication in the crisis such as COVID-19.
We use institutional legitimacy and organizational legitimacy perspective to establish a
non-linear relationship between CSR initiatives and firm performance. The current debate on the
relation between CSR activities and firm strategies to enhance value is based on organizational
legitimacy which does not adequately define the boundaries in globalized societies (Palazzo and
Scherer, 2006). The conceptual basis of these arguments is based on getting societal acceptance
with minimum required efforts (Deegan, 2002; Waddock, 2004). In line with agency arguments in
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the existing literature (Masulis and Reza, 2015), we argue that shareholders perceive these initial
lower CSR efforts as firm conformity to societal norms at their cost. The managers take these
decisions to enhance the firm's reputation rather than increasing firm value. The firms merely
engage in CSR practices to show a certain level of compliance with social and environmental
outcomes. Shareholders see these compliance activities as costly affairs. We argue that up to an
extent firm CSR activities cost shareholders and reduce firm value.
We further argue that after an extent firm manager CSR decisions are based on
organizational strategic legitimacy perspective rather than complying with institutional norms. The
rational managers' CSR decisions are based on the assumption that firms have strategic capabilities
to influence and manipulate stakeholders to gain pragmatic legitimacy. The firms seek new forms
of legitimacy rather than doing taken for granted social and environmentally friendly activities
(Palazzo and Scherer, 2006). These firms at higher CSR levels even introduce the new domains
which are traditionally considered state actors responsibilities (Matten and Crane, 2005; Palazzo
and Scherer, 2006). The rational firm manager takes these extensive CSR decisions to increase
firm profit or increase the firm value. Based on this discussion, we argue that up to an extent CSR
activities reduce firms' value but managers' rational decisions of CSR after a level are focused on
increasing firm value or performance. Hence, we hypothesize:
H1a. Firm-level of CSR activities have a U-shaped relationship with firm performance.
COVID-19 pandemic has challenged the corporate practices and assumptions related to
CSR activities. Business is seen both as a source as well as an active actor to mitigate societal risk
during the crisis (Crane and Matten, 2020). Firms are taking heterogeneous responses to the
COVID-19 crisis. For example, Costco helping employees by increasing the hourly rate by $2,
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Vodafone helping the customer by providing unlimited mobile data, L'Or ́al supporting suppliers
by accelerating payments, and LVMH producing hand sanitisers for general community support
(Bae et al., 2021). In contrast, firms like Marriott International laying off the workforce and
jeoparding the employee healthcare benefits in the needing hours (Bae et al., 2021). This evidence
shows that firms follow different approaches to gain legitimacy and survive during COVID-19.
COVID-19 pandemic is a truly exogenous event that led to a high level of uncertainty and
an unprecedented stock market crash within a relatively short period. This exogenous shock results
from a public health crisis rather than an economic crisis. The subsequent lockdown to protect
public health caused the stock market crash in the affected regions (Albuquerque et al., 2020).
This sudden unexpected shock challenged firms' ability to respond on short notice. Firms are under
the spotlight due to the sudden increase in market participants and government bodies focus on
CSR activities during the pandemic. We argue that firm initial CSR stunts to overcome legitimacy
barriers increase agency cost and reduce shareholders returns (Buchanan et al., 2018). The firm
with higher CSR activities with limited financial and human resources during a pandemic is
perceived more legitimate and valued higher by shareholders. Firms with higher CSR efforts also
attract socially responsible investors(SRIs). SRIs are more resilient to COVID-19 shock compared
to other investors (Albuquerque et al., 2020). SRIs are also less sensitive to short-term firm
performance losses (Bollen, 2007; Renneboog et al., 2011), and hold stable firm value during
COVID-19. Therefore, we hypothesize:
H1b. The U-shaped relationship between CSR activities and firm performance is strengthened
during COVID-19.
2.3 Audit quality and firm performance
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The Enron bankruptcy in 2001 and Arthur Andersen collapsed in 2002 questioned the auditing
quality of firms. The role of external auditors becomes important in a public firm with separation
of ownership and control (Francis, 2004). In this study, we focus on the audit fee as a measure of
audit quality effort by firms. The relationship between audit fee and firm performance is also
puzzled. The audit fee reflects both the cost of auditing and audit quality. Some studies find that
higher audit fees improve firm performance as it is considered as a signal of audit quality (Bell et
al., 2008; Martinez and da Jesus Moraes, 2014; Stanley, 2011). Others find that higher audit fees
is a signal of firm risk and it reduces firm performance (Moutinho et al., 2012). We propose a
contextual non-linear relationship between audit fees and firm performance.
Firms' actual audit fees consist of normal fees and abnormal fees due to the idiosyncratic
relationship between firm and auditor. Normal audit fee reflects auditors effort (Choi et al., 2008,
2009; Simunic, 1980), but above a level, normal audit fee also reflects auditor-client specific
relations (Higgs and Skantz, 2006). Audit fees as a proxy of audit quality reflect more audit efforts
in a closely regulated market with the limited opportunity of earning rents (Hoitash, 2011;
Kanagaretnam et al., 2011; Yuniarti, 2011). Audit fee shows audit process efforts with specialized
staff and more audit hours (O’Sullivan and Diacon, 2002). Higher audit fees also signal that firms
have hired big auditors with more skill, expertise, and experience. This enhances the legitimacy of
a firm's disclosure and reporting to increase firm value.
Further, we argue that audit fees beyond a level may negatively influence firm value. As
per auditing pricing theory and literature on abnormally high audit fees (Asthana & Boone, 2012;
Choi et al., 2010) a very high audit fee reflects firm business risk. Abnormally high audit fee
indicates financial reporting problems (Hribar et al., 2014), and reduce firm performance (Picconi
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and Reynolds, 2013; Stanley, 2011). A very high audit fee also shows agency relationship between
firm manager and auditing firm and reduce auditor independence. A very high audit fee benefits
are surpassed by the cost of substandard reporting due to idiosyncratic relationships. A very high
audit fee also shows agency relationship between firm manager and auditing firm and reduce
auditor independence. This reduces firm auditing process legitimacy and subsequently reduces
firm value. Therefore, we hypothesize:
H2a. Audit fee has an inverted U-shaped relationship with firm performance.
The firms’ performance is negatively impacted by COVID-19 due to high uncertainty in
financial and economic conditions, supply and demand shock due to lockdown imposed by various
country governments (Ozili and Arun, 2020). Prior literature suggests that economic crises
negatively impact firm accounting management and reporting practices (Huizinga and Laeven,
2012, 2012; Peterson and Arun, 2018). Firms engage in malpractices of miscommunicating with
shareholders to gain legitimacy during the crisis. Firms follow earnings smoothing practices
(Peterson and Arun, 2018), and distort financial reporting during the crises (Huizinga and Laeven,
2012). This makes the role of audit quality more important and firms with higher audit fees are
perceived to be more legitimate. We argue that during the COVID-19 crisis the firm with lower
audit fees is perceived less legitimate compared to firms with high audit fees. Therefore, we
hypothesize:
H2b. The inverted U-shaped relationship between audit fee and firm performance is weakened
during COVID-19.
3. Data and methodology
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3.1 Analytical method
We use a DiD method to examine the proposed hypotheses (Goodman-Bacon and Marcus, 2020).
We employ the following equation in our study: Yj,t = β0 + β1Xj ∗ COVID − 19t + Zj,t−1 + Countryc,q + γi,q + εj + ϵj,t where Y represents Tobin’s Q as a measure of firm performance. Our main independent variables
are Xj* COVID-19 where X equals CSR activities score and audit quality of the firm along with
their squared terms. COVID-19 was declared as a pandemic by World Health Organisation in
March 2020. We refer to April 2020- December 2020 as the post-COVID-19 period. Accordingly,
COVID-19 equals 1 for the post-pandemic declaration period and 0 otherwise. Z represents a
vector of firm-level control variables which includes size, sales growth, liquidity, leverage,
profitability, and age (log age) of the firm. Country represents a vector of country-specific control
variables that includes export GDP per capita and GDP growth. We winsorize all these variables
at the 1st and 95th percentile to remove possible outliers in the sample. We take the lagged value
by one-quarter of all the variables to control for the potential endogeneity concerns. The primary
independent variables (CSR activities and audit quality) are available annually, we use one year
lag of these variables for respective quarters.
γi,q represents industry-quarter fixed effects to control for any time-variant industry-
specific variations. εj represents firm-fixed effects that control for any firm-specific heterogeneity.
As an alternative measure, we also include country-quarter interactive fixed effects. This dummy
controls for any time-variant country-specific changes. These interactive fixed-effects help in
controlling any unobserved heterogeneity in the market performance of the firms (Gormley and
Matsa, 2014). These fixed effects also minimize the issues related to omitted variables and
endogeneity.
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3.2 Data description
We employ a quarterly panel of 89,185 firm-quarter observations (15,955 unique firms) from 131
countries from July 2018 to December 2020 for 10 quarters. We use the Refinitiv Eikon database
for obtaining all the firm-level variables used in our study. Country-level variables are obtained
from the world bank database. The dependent variable of our study is firm performance, which is
being measured by Tobin's Q. It is defined as the ratio of the sum of equity and total liability to
the total assets of the firm. Tobin’s Q is used as a market-based performance measure of the firm
(Kao et al., 2018; Ting, 2021).
Our main independent variables are CSR activities and the audit quality of the firm. CSR
activities are measured using the ESG score of the firm. Here, the ESG score is based on the firm's
environmental (impact on living and non-living natural systems), social (capacity to generate
loyalty and trust) and governance pillar (activities to act in the best interest of shareholders) (Ding
et al., 2016). The higher the ESG score of the firm, the higher the firm is involved in CSR activities.
The other independent variable, audit quality, is measured using the logarithm of audit fees paid
by a firm (Saeed et al., 2020). It is used as a proxy for demand for high-quality audits.
We control for various firm-level variables. Firm size is measured using the logarithm of
total assets. Sales growth is defined as the change in sales. We use the quick ratio of the firm as a
proxy for liquidity in our sample. Leverage is measured as the ratio of debt to equity. Profitability
equals the return on assets (ROA) and age equals the logarithm of the age of the firm in years.
Table I describes the measurement or variables with appropriate references and data sources.
---------------------------------------------
Insert Table I about here
---------------------------------------------
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4. Results
Table II shows the summary statistics of the key variables used in our study. The mean value of
Tobin's Q per cent is 99.57 which shows that most of the firms in our sample have the market
value that reflects the recorded assets of the firm. The minimum value of Audit quality is 7.91 and
the maximum value is 15.19 which shows that firms are paying both low and high audit fees in the
sample. The average size of firms in our sample is 11.84. ESG score of firms included in the
sample has a high standard deviation of 20.17. Our sample is dominated by firms with low
liquidity as the 75th percentile value of the Quick ratio is 2.22 and the maximum value is 8.75. The
average profitability of firms is -0.13. The average change in the age of the firms is 2.82. Export
GDP has a high standard deviation of 26.07. GDP growth of countries included in the sample
ranges from 0.15 to 7.02. Table III shows the correlation matrix of the variables used in the study.
---------------------------------------------
Insert Table II and Table III about here
---------------------------------------------
Table IV shows regression results of CSR activities impact on firm performance. Model-1
is the null model with all the control variables. Model-2 shows that CSR activities have a
significant negative ( = -0.019 , p-value < 0.05) effect on firm performance and squared term of
CSR activities has a significant positive ( = 0.001 , p-value <0.05 ) effect on firm performance.
This supports our hypothesis 1a, which predicts a U-shaped relationship between CSR activities
and firm performance. The results of Model-3 show that interaction between CSR activities and
COVID-19 has significant positive ( = -0.017, p-value < 0.05) impact on firm performance.
Model-3 also shows that the interaction between the squared term of CSR activities and COVID-
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19 has a significant negative ( = 0.001, p-value <0.05) impact on firm performance. These results
support our hypothesis 1b, which predicts the positive moderating effect of COVID-19 on the
relationship between CSR activities and firm performance.
---------------------------------------------
Insert Table IV about here
---------------------------------------------
Table V shows regression results of audit quality impact on firm performance. The results
in Model-1 show that audit quality has a significant positive ( = 0.212, p-value <0.05 ) impact on
firm performance, and squared of audit quality has a significant negative ( = -0.009 , p-value <
0.05) impact on firm performance. This supports our hypothesis 2a, which predicts an inverted U-
shaped relationship between audit quality and firm performance. The results of Model-2 show that
the interaction between audit quality and COVID-19 has a significant negative ( = -0.251, p-value
< 0.10) impact on firm performance. Model-2 also shows that the interaction between the squared
term of audit quality and COVID-19 have a significant positive ( = 0.011, p-value < 0.10) impact
on firm performance. These results support our hypothesis 1b, which predicts the negative
moderating effect of COVID-19 on the relationship between CSR activities and firm performance.
---------------------------------------------
Insert Table V about here
---------------------------------------------
5. Discussion
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This study shows that firms use CSR activities and audit quality as a resource of legitimacy. These
strategies have become more important during the COVID-19 crisis. Prior studies on the
relationship between CSR activities and firm performance during COVID-19 show mixed
evidence. Some of the studies find a positive impact of firm CSR orientation on a stock return
during COVID-19, while others reported no significant impact (Bae et al., 2021; Demers et al.,
2021). These studies are limited to firm stock return during the COVID-19 period only and assume
a linear relationship between CSR activities and firm value. Our study provides evidence that CSR
activities and firm value do not have a linear relationship. We find that CSR activities have a U-
shaped relationship with firm market-based performance. The initial level of firms’ CSR activities
efforts is the effort to confirm with institutional norms and cost the shareholder. Beyond a level,
the CSR activities are undertaken by the firms’ managers to gain strategic legitimacy and improve
firms’ performance. Firms showing higher commitment to CSR activities with limited financial
and human resources during COVID-19 are perceived more legitimate by the shareholders. The
COVID-19 crisis strengthens the relationship between CSR activities and firm performance.
Audit quality measured using audit fee shows firm effort to produce quality reports and
communication to stakeholders with lower malpractices. We find that up to a level audit fee reflects
firm auditing efforts of hiring experienced, qualified, and reputed auditors and improves firm
performance. Audit fee beyond a level reflects an idiosyncratic firm-auditor relationship with
compromised audit quality and shows high firm risk. We find support for an inverted U-shaped
relationship between audit quality and firm performance. Furthermore, given the high risk of
distress during COVID-19, it is likely that the firms violate the debt contracts (Albitar et al., 2020),
and follow earning smoothing practices. This demands increased assurance for investors to
increase their confidence through audit quality (Arthur et al., 2015). Our results show that an
16
inverted U-shaped relationship between audit quality and firm performance is weakened during
COVID-19. This shows that during a crisis high audit efforts are valued more compared to lower
audit efforts.
5.1 Theoretical and managerial implications
First, we add to the strategic legitimacy perspective by showing that firms can adopt strategies like
CSR activities and high audit quality to gain legitimacy and increase firm value during a crisis
such as the COVID-19 pandemic. Second, we add to mixed literature on the relationship between
CSR activities and firm performance. We show that the relationship between CSR activities and
firm performance is non-linear. Beyond an optimal level, the CSR decisions are focused on
increasing firm strategic capabilities to influence and manipulate stakeholders to gain pragmatic
legitimacy (Suchman, 1995). Third, we contribute to the literature on the relationship between
audit quality and firm performance. Our findings show that up to an extent audit fees improve firm
performance by increasing high-quality disclosure and reducing information between the firm and
shareholders. A very higher level of audit fee indicates high firm risk, an agency relationship
between firm and auditors, and compromise auditors independence. This reduces firm legitimacy
and subsequently firm value.
Finally, we suggest managers focus on firm temporal strategies to overcome the challenges
from the COVID-19 pandemic (Shi and Prescott, 2012). The manager needs to shift their focus
from cost to time orientation. During the crisis, managers need to focus on strategies increasing
firm value for the time period. This study shows that firm temporal legitimacy gaining practices
such as CSR activities and audit quality provides an opportunity to increase firm value. The firm
17
manager also needs to identify the optimal level of CSR activities and audit fees to balance the
cost of agency and the benefits of legitimacy.
This study is limited to CSR activities and audit quality as legitimacy maintaining strategies
during COVID-19. Future studies can explore other strategies such as earnings management and
corporate investment decisions. Future studies can extend this study by taking institutional context
as a moderating factor on the relationship between CSR activities, audit quality, and firm
performance. The country-specific formal institution's development and informal institutions may
significantly vary our findings.
6. Conclusion
We use a quarterly panel of 89,185 firm-quarter observations from 131 countries to estimate the
impact of CSR activities and audit quality on firm performance during the COVID-19 period. We
find a U-shaped relationship between CSR activities and firm performance during COVID-19. The
higher CSR activities are undertaken by the firms’ managers to gain strategic legitimacy and
improve firms’ performance. In contrast, we find an inverted U-shaped relationship between firm
audit quality and firm performance after the declaration of COVID-19 as the pandemic. The high
audit efforts are valued more compared to lower audit efforts during the COVID-19 period. Our
study makes significant contributions to theory and practice on maintaining organizational
legitimacy during the pandemic. The managers need to focus on strategies increasing firm value
during the crisis period.
18
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Table I. Variable definitions and data sources Variable Description Data Source Reference
Tobin’s Q Equals ratio of the sum of equity and total liability to total assets of the firm
Refinitiv Eikon Kao et al., (2018)
CSR Equals the ESG score of a company based on the environmental(E), social(S), and governance(G) scores in the previous year
Refinitiv Eikon Ding et al. (2016)
Audit Quality Equals logarithm of audit fees paid by a firm in the previous year
Refinitiv Eikon Saeed et al. (2020)
Size Equals the logarithm of total assets of the firm
Refinitiv Eikon Saeed et al. (2020)
Sales growth Equals the change in sales of the firm
Refinitiv Eikon Ding et al. (2016)
Liquidity Equals quick ratio of the firm Refinitiv Eikon Boodoo, (2016)
Leverage Equals debt-to-equity ratio of the firm
Refinitiv Eikon Suto & Takehara, (2017)
Profitability Equals return on assets of the firm Refinitiv Eikon Saeed et al. (2020)
Log age Equals the logarithm of the age of the firm in years
Refinitiv Eikon Saeidi et al. (2015)
Export GDP Equals ratio of export to GDP of a country
World Bank Maksimovic, (2001)
GDP growth Equals growth in GDP of a country relative to the previous year
World Bank Maksimovic, (2001)
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Table II. Summary statistics of key variables used in the study
Variable N Mean SD Min P25 P50 P75 Max
Tobin’s Q 255444 99.57 3.32 69.78 100.00 100.00 100.00 100.00
Audit Quality 165794 12.32 1.56 7.91 10.42 11.40 12.28 13.33
Audit Quality2 165794 154.32 38.09 62.56 108.52 130.05 150.68 177.66
CSR 49530 42.06 20.18 5.22 16.40 25.51 40.30 58.09
CSR2 49530 2176.23 1813.99 27.26 268.87 650.51 1624.44 3374.63
COVID-19 437580 0.30 0.46 0.00 0.00 0.00 0.00 1.00
Size 230861 11.85 2.51 4.36 8.60 10.26 12.00 13.64
Sales growth 183999 0.04 0.40 -0.99 -0.39 -0.14 0.00 0.16
Liquidity 222927 1.94 2.18 0.00 0.24 0.63 1.17 2.22
Leverage 230031 0.36 1.49 -10.13 0.00 0.00 0.23 0.82
Profitability 211662 -0.14 0.70 -5.89 -0.17 -0.02 0.00 0.02
Log age 348886 2.82 0.83 0.00 1.79 2.48 2.94 3.40
Export GDP 418080 33.52 26.07 10.12 12.17 18.41 21.21 38.44
GDP growth 435678 3.42 2.13 0.15 0.73 1.93 2.93 5.56 Notes: The description of all the variables in given in Table I. N represents the number of observations. Min and Max represent the minimum and maximum observations respectively. SD and P denote standard deviation and percentile respectively.
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Table III. Correlation table
Variables 1 2 3 4 5 6 7 8 9 10 11 12
1 Tobin's Q 1
2 Audit quality -0.12*** 1
3 CSR -0.17*** 0.38*** 1
4 COVID-19 0.01 0.02* 0.03*** 1
5 Size -0.15*** 0.46*** 0.51*** -0.03*** 1
6 Sales growth 0.01 -0.04*** -0.04*** -0.02** -0.03*** 1
7 Liquidity 0.04*** -0.21*** -0.27*** 0.05*** -0.42*** 0.06*** 1
8 Leverage -0.02* 0.01 0.02 0.03 0.10*** -0.01 -0.06*** 1
9 Profitability -0.04*** 0.09*** 0.17*** -0.11*** 0.35*** 0.07*** -0.21*** 0.03*** 1
10 Log age 0.04*** 0.01 0.14*** -0.03*** 0.09*** -0.01 -0.06*** 0.03*** 0.13*** 1
11 Export GDP -0.04*** -0.13*** 0.24*** -0.02 0.14*** -0.02* -0.11*** 0.02*** 0.06*** -0.04*** 1
12 GDP growth -0.01 -0.22*** -0.14*** -0.17*** 0.10*** 0.02* -0.03*** 0.01 0.06*** 0.01 0.01 1
Notes: *, **, *** represent significance level at 10%, 5% and 1% respectively.
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Table IV. Regression results of CSR and firm performance Variables (1) (2) (3) (4) (5) (6)
CSR -0.019** -0.008 -0.017** -0.006
(0.008) (0.008) (0.007) (0.008)
CSR2 0.001** 0.001 0.001* 0.001
(0.000) (0.000) (0.000) (0.000)
COVID-19 0.219** 0.205**
(0.088) (0.087)
CSR x COVID-19 -0.017** -0.016**
(0.007) (0.007)
CSR2 x COVID-19 0.001** 0.002**
(0.000) (0.000)
Size 0.001 0.020 0.053*** 0.003 0.023 0.055***
(0.007) (0.017) (0.019) (0.007) (0.018) (0.019)
Sales growth -0.007* -0.018 -0.016 -0.006 -0.015 -0.015
(0.004) (0.016) (0.015) (0.004) (0.016) (0.016)
Liquidity -0.001 -0.014 -0.014 -0.001 -0.014 -0.015
(0.002) (0.010) (0.011) (0.002) (0.010) (0.011)
Leverage 0.002 0.006 0.004 0.002 0.006 0.004
(0.002) (0.005) (0.005) (0.002) (0.005) (0.005)
Profitability -0.063 -0.616** -0.619** -0.063 -0.625** -0.628**
(0.072) (0.299) (0.299) (0.072) (0.301) (0.300)
Log Age 0.026 0.173 0.199 0.022 0.163 0.189
(0.144) (0.448) (0.457) (0.127) (0.416) (0.423)
Export GDP 0.000 0.003 -0.001
(0.002) (0.023) (0.023) GDP growth 0.002 0.022 0.026
(0.004) (0.044) (0.044) Constant 99.782*** 99.025*** 98.394*** 99.786*** 99.075*** 98.359***
(0.373) (1.153) (1.315) (0.342) (1.123) (1.283)
Observations 89,185 19,922 19,922 94,371 20,292 20,292
Industry-Quarter fixed effects Yes Yes Yes Yes Yes Yes
Country-Quarter fixed effects No No No Yes Yes Yes
R-squared 0.001 0.003 0.008 0.003 0.008 0.013
N 15,955 2,986 2,986 16,112 3,008 3,008 Notes: The description of all the variables in given in Table I. The dependent variable in all the models is the percentage of Tobin’s Q. Standard errors are clustered at firm level. Model (1) -(3) show the results with country-level variables and model (4)-(6) show the results with Country-quarter fixed effects. The standard errors are reported in parentheses. *, **, *** represent significance level at 10%, 5% and 1% respectively.
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Table V. Regression results of Audit Quality and firm performance
Variables (1) (2) (3) (4)
Audit Quality 0.212** 0.326** 0.184* 0.302**
(0.108) (0.133) (0.095) (0.121)
Audit Quality2 -0.009** -0.014** -0.008** -0.013**
(0.005) (0.006) (0.004) (0.005)
COVID-19 1.474 1.387
(0.897) (0.845)
Audit Quality x COVID-19 -0.251* -0.237*
(0.152) (0.143)
Audit Quality2 x COVID-19 0.011* 0.010*
(0.006) (0.006)
Size -0.010 -0.004 -0.011 -0.004
(0.013) (0.010) (0.012) (0.009)
Sales growth -0.005 -0.005 -0.004 -0.004
(0.004) (0.004) (0.004) (0.004)
Liquidity -0.007** -0.008** -0.007** -0.008**
(0.003) (0.004) (0.003) (0.003)
Leverage 0.001 0.001 0.001 0.001
(0.003) (0.003) (0.003) (0.003)
Profitability -0.030 -0.028 -0.030 -0.029
(0.019) (0.018) (0.019) (0.018)
Log Age 0.106 0.085 0.097 0.070
(0.272) (0.268) (0.226) (0.221)
Export GDP 0.014 0.012
(0.011) (0.012) GDP growth -0.003 0.001
(0.007) (0.007) Constant 98.210*** 97.551*** 98.716*** 97.991***
(0.907) (1.041) (0.809) (0.990)
Observations 46,183 46,183 50,236 50,236
Industry-Quarter fixed effects Yes Yes Yes Yes
Country-Quarter fixed effects No No Yes Yes
R-squared 0.001 0.002 0.006 0.007
N 8,754 8,754 9,180 9,180 Notes: The description of all the variables is given in Table I. The dependent variable in all the models is the percentage of Tobin's Q. Standard errors are clustered at the firm level. Model (1) -(2) show the results with country-level variables and model (3)-(4) show the results with Country-quarter fixed effects. The standard errors are reported in parentheses. *, **, *** represent significance level at 10%, 5% and 1% respectively.