Purpose: This study examines the link between corporate social performance (CSP) and the cost of capital of Japanese firms in 2008–۲۰۱۳, considering the influences of banking relationships and ownership structure. Design/methodology/approach: It examines the relation between CSP and the cost of capital in terms of the cost of debt, cost of equity, and weighted average cost of capital, using a composite CSP measure based on stakeholder relationships. A regression model is adopted, controlling for bank dependency, ownership structure, and firm-specific attributes. Findings: Institutional ownership influences the CSP–cost of equity relation and reduces the cost of equity, while CSP is perceived by debtors as not information-mitigating for the observed period. For 2008–۲۰۱۰, the relation between CSP and bank dependency increases the cost of debt; however, the positive influence of bank dependency on the cost of debt dilutes during 2010–۲۰۱۳ as the shift to a more market-oriented financial market in Japan occurs. Practical implications: Although bank borrowing is important, especially for small firms, non-financial disclosure makes external financing more flexible. Institutional investors concerned about the non-financial aspects of business therefore play an important role in mitigating the information asymmetry that exists in the capital market. Originality/value: This study extends research on the CSP–cost of capital link by considering structural changes in financial systems (e.g., capital market perception of CSP and banks as delegated monitors).

Introduction

Since the 1970s, numerous studies have investigated the link between corporate social responsibility (CSR) and financial performance. A firm’s CSR strategy is recognized as a determinant of its long-term success in terms of competitive advantage, risk management, and sustainability. Through financial liberalization and globalization, the relationship between the financial market’s perception of CSR and corporate managers’ decisions on financing has become increasingly important for the future development and sustainability of business. The extent to which CSR affects the cost of capital has become a dominant theme in CSR research over the past decade. From a theoretical perspective, a corporate strategy that sufficiently considers the non-financial aspects of the business as well as conflicts among stakeholders reduces business risk and mitigates the information asymmetry faced by lenders and investors in the financial market (Perrini et al., 2011). Thus, high corporate social performance (CSP) could reduce the agency costs faced by a company that pursues external financing. From a practical perspective, the market perception of CSP may incentivize the company to initiate CSR in order to distinguish effective CSR practices from formative CSR practices and to promote non-financial disclosure (Carroll and Shabana, 2010). From the viewpoint of information asymmetry, institutional investors may prefer high CSP firms to reduce information costs, while banks may accumulate firm-specific information based on relationship lending rather than select high CSP borrowers. Further, ownership structure and the banking relationship (dependency on bank borrowing or bank dependency hereafter) could influence the link between CSP and the firm’s cost of capital differently (Roberts and Yuan, 2010; Goss and Roberts, 2011). Based on the foregoing, this study explores how CSP in terms of CSR-related non-financial information affects the cost of capital, explicitly considering the influence of bank dependency and ownership structure, in a bank-centered financial market shifting to a more market-oriented system. Specifically, this study examines the relation between CSP and the cost of capital in terms of the cost of debt capital (cost of debt hereafter), the cost of equity capital (cost of equity hereafter), and the weighted average cost of capital (WACC) as a comprehensive cost of capital. The contributions of this study to the body of knowledge on this topic are threefold.