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Titre: Corporate social responsibility and financial performance in Islamic banks
Auteur: Hisham Farag

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Journal of Economic Behavior & Organization xxx (2014) xxx–xxx

Contents lists available at ScienceDirect

Journal of Economic Behavior & Organization
journal homepage: www.elsevier.com/locate/jebo

Corporate social responsibility and financial performance
in Islamic banks
Hisham Farag a , Christine Mallin b,∗ , Kean Ow-Yong a
a
b

Birmingham Business School, University of Birmingham, Birmingham B15 2TT, UK
Norwich Business School, University of East Anglia, Norwich NR4 7TJ, UK

a r t i c l e

i n f o

Article history:
Received 17 November 2012
Received in revised form 28 February 2014
Accepted 3 March 2014
Available online xxx

JEL classification:
G21
Keywords:
Corporate social responsibility (CSR)
Islamic banks
Social reporting
Shari’ah Supervisory Board

a b s t r a c t
This paper examines the relationship between corporate social responsibility (CSR) and
financial performance in Islamic banks. Using a comprehensive CSR index covering ten
dimensions, we analyse the CSR disclosures in a sample of 90 Islamic banks across 13
countries. The CSR disclosure index shows that Islamic banks engage across the range of
social activities, both as individual banks and as countries. However Islamic banks seem to
show more commitment to the vision and mission, the board and top management, and
the financial product/services dimensions, whilst least attention is paid to the environment
dimension. Islamic banks also show a considerable awareness of the mandatory disclosure
recommendations of the Accounting and Auditing Organisation for Islamic Financial Institutions (AAOIFI) however, they pay less attention to the voluntary CSR disclosure. Moreover,
we find a pronounced emphasis in Islamic banks strategy towards more universal disclosures, suggesting the legitimacy of these banks is reinforced through disclosure to the wider
stakeholder community. The empirical analysis highlights a positive association between
CSR disclosure and financial performance. We also find a positive and highly significant association between the Shari’ah supervisory board (SSB) size and CSR disclosure index. Finally,
the results of the three-stage least squares estimation show that the causality between
the two endogenous variables runs from financial performance to CSR disclosure. Thus CSR
disclosure is determined by financial performance.
© 2014 Elsevier B.V. All rights reserved.

1. Introduction
Islamic banking has grown unabated since its inception in the mid-1970s. The industry has increasingly carved out a
significant slice of the global financial market. According to figures released by the Banker,1 global Islamic assets held by
commercial banks exceeded US $1.8 trillion in 2013. All financial institutions, both conventional and Islamic, play a central
role in society. Hence they are expected to be responsive to the different needs of stakeholders. Due to their religious
identity, Islamic banks are expected to be more socially responsible than their conventional counterparts whose operations
and functions are primarily based on profit maximisation.
Islamic banking, from a theoretical perspective, is based on the principle of profit and loss sharing in place of the interest
based deposit/lending found in conventional banks. Two conflicting juristic views have emerged in contemporary Islamic

∗ Corresponding author. Tel.: +44 01603597240.
E-mail addresses: h.farag@bham.ac.uk (H. Farag), c.mallin@uea.ac.uk (C. Mallin), k.h.ow-yong@bham.ac.uk (K. Ow-Yong).
1
The Banker, March 2013.
http://dx.doi.org/10.1016/j.jebo.2014.03.001
0167-2681/© 2014 Elsevier B.V. All rights reserved.

Please cite this article in press as: Farag, H., et al., Corporate social responsibility and financial performance in Islamic
banks. J. Econ. Behav. Organ. (2014), http://dx.doi.org/10.1016/j.jebo.2014.03.001

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banking. Progressive Islamic scholars argue that there is no need to reinvent products offered by conventional banks in a
globally competitive banking industry. Instead, Islamic banks should adopt the minimal necessary modifications to these
conventional products to ensure Shari’ah compliance. This tendency to emphasise ‘form over substance’ (Warde, 2013 cited
in Belal et al., 2014) is symptomatic of ‘big businesses’ driven by the profit making maxim. In contrast, those scholars who
oppose conventional financial practice feel that the Islamic banking system needs to reconstruct pre-modern contracts by
strictly embedding Shari’ah and social responsibility into the banks’ business practices (El-Gamal, 2006). According to this
view, Islamic banks are expected to perform the role of redistributing wealth (through profit and loss sharing) to selective
investments that contribute to the improvement and well-being of society (Farook, 2008). These Islamic banks practice
the ‘moral economy’ philosophy expounded for religious or secular ethical reasons and support the inclusion of social and
environmental aims in their investment policies (Belal et al., 2014). Islamic banks, according to this view, should strive
to achieve a balance between providing sufficient returns to their shareholders and depositors while at the same time not
neglecting their social responsibilities and commitments to their various stakeholders (Ahmad, 2000). Recent studies suggest
that Islamic banks have failed to put the profit-loss principle into practice (Dar and Presley, 2000; Chong and Liu, 2009).
Thus their findings point to the close similarity between Islamic and conventional banking practices and suggest that the
alleged benefits of Islamic banking exist only in theory.
Concerning their social role, Islamic banks are expected to bring about economic and social benefits to their stakeholders;
and to fulfil their Corporate Social Responsibility (CSR) including its disclosure. Farook (2008) argues that disclosure provides
evidence of the Islamic banks involvement in social activities and hence earns legitimacy for their existence.
Islamic Financial Institutions (IFIs) may not be disclosing their social responsibility publicly, even though they are carrying
out these activities. Therefore, to encourage disclosure, the international regulatory authorities such as the Accounting
and Auditing Organisation for Islamic Financial Institutions (AAOIFI) developed reporting standards for Islamic banks. In
particular, it issued Standard No.7 on Governance Standards for Islamic banks in relation to Corporate Social Responsibility
(CSR) conduct and disclosure in 2010.2 In the Standard, CSR for (IFIs) is defined as ‘all activities carried out by an IFI to fulfil
its religious, economic, legal, ethical and discretionary responsibilities as financial intermediaries for individuals and institutions.’
Therefore, in complying with these standards, Islamic banks report aspects of their business activities and results differently
from those of their conventional bank counterparts.3
The existing body of the literature on CSR in Islamic banks can be grouped into two broad strands. The first strand
uses content analysis to explore the disclosure of CSR as described in the Islamic banks’ annual reports (Maali et al., 2006;
Haniffa and Hudaib, 2007; Abdul Rahman et al., 2010; Hassan and Harahap, 2010; Aribi and Gao, 2012). The second strand
investigates the determinants of CSR disclosure (e.g., Farook et al., 2011). This second strand is in the early research stage
as – to the best of our knowledge – there is only one empirical study namely Farook et al. (2011). However, other possible
determinants of CSR like financial performance (FP) have not yet been investigated empirically in Islamic banks.
Our paper is motivated to bridge a perceived gap between the two broad strands on CSR disclosure. We integrate Maali et al.
(2006) and Haniffa and Hudaib (2007) benchmark CSR indices with AAOIFI Standard No.7 recommendations on mandatory
and voluntary CSR disclosure to produce a more comprehensive index covering ten dimensions to identify the type and
the extent of CSR disclosure for a sample of Islamic banks over the period 2010–2011. Furthermore, motivated by the
study of Belal et al. (2014), we split the CSR index into two strands namely; ‘Particular’ reporting practices relating to
Shari’ah compliance issues and ‘Universal’ reporting practices which are more relevant to conventional banks and the
wider stakeholder groups such as community, employees and customers. Secondly, we investigate the impact of financial
performance on CSR disclosure in Islamic banks which has not been empirically researched before; and finally, the paper
investigates the direction of causality between financial performance and the CSR disclosure. Our data set covers a large
sample of Islamic banks (90 Islamic banks4 ) and the CSR disclosure data is collected not only from the annual reports but
also from the information posted on the Islamic banks’ websites.5
This paper makes two incremental contributions to the literature on CSR and Islamic banks. First, although there have
been a few empirical studies investigating the link between CSR and financial performance in the banking sector, as far as we
are aware, this is the first study to empirically investigate this relationship in Islamic banks using a more comprehensive CSR
disclosure index which distinguishes between mandatory and voluntary disclosures as recommended in AAOIFI Standard
No.7. Secondly, we also classify the CSR index items into two main categories. The first includes items expected to be found
in Islamic banks and the second category includes those expected to be found in banks in general.
The paper is structured as follows. Section 2 discusses the literature review and hypotheses development. The sample
selection and research methodology are presented in Sections 3 and 4 respectively. Section 5 presents the results and
discussion of the findings, whilst section 6 summarises and concludes.

2
This Standard provides both mandatory and recommended guidelines on CSR disclosure by Islamic banks. AAOIFI standards are compulsory for IBs
operating in Bahrain and Qatar but voluntarily applied to IBs in other countries.
3
For example, Islamic banks might be expected to include within their annual reports or within a separate report of the SSB, a section about the role
and function of their Shari’ah Supervisory Board (SSB), the sources and uses of zakah and charity funds and the unrestricted investment accounts held.
Disclosing these activities will reveal the extent to which Islamic banks fulfil their socio-economic objectives for the benefit of the Islamic community.
4
Maali et al. (2006) and Farook et al. (2011) pointed out that further research with a larger sample of Islamic banks may be worthwhile.
5
Previous studies covered a much smaller sample and collected data only from annual reports.

Please cite this article in press as: Farag, H., et al., Corporate social responsibility and financial performance in Islamic
banks. J. Econ. Behav. Organ. (2014), http://dx.doi.org/10.1016/j.jebo.2014.03.001

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3

2. Literature review and hypotheses development
2.1. Previous research on CSR disclosure
A number of studies have investigated the level of CSR disclosure in IFIs. Maali et al. (2006) investigated the extent of
social activities disclosed by Islamic banks. They compared the disclosures of such activities with social practices that Islamic
banks are expected to adopt that are particularly relevant to society. The expected social practices were then combined into
a benchmark for social reporting by Islamic banks.6 Using content analysis, they found that the level of social disclosure by
the sample banks was well below their benchmark index. They concluded that banks complying with mandated matters
such as paying Zakah and adopting AAOIFI standards tend to provide more disclosures than non-compliant banks. Also,
Islamic banks tend to accentuate disclosures that construct a positive Islamic image such as charitable activities. Haniffa
and Hudaib (2007) investigated the disclosure of information deemed crucial to Islamic ethics in business. They designed
an ideal ethical disclosure benchmark based on the five features7 that distinguish Islamic banks from conventional banks.
Using content analysis of annual reports to determine the extent of CSR disclosure, they found a significant gap between the
communicated and ideal ethical disclosure in the annual reports of a sample of seven Islamic banks over a 3-year period.
They surmised that this expectations gap could arise from an indifferent attitude by stakeholders or an underlying secretive
culture in the Arabian Gulf region where the sample banks were based. They concluded that for Islamic banks to remain
competitive, they need to communicate more effectively to enhance their image and reputation in society.
Using a longitudinal case study approach, Abdul Rahman et al. (2010) examined the CSR disclosure of a Malaysian Islamic
bank. They found that the volume and quality of CSR disclosure improved over the 14-year study period. Belal et al. (2014)
also adopted a longitudinal study but with two notably significant exceptions. First, using a longer time frame of 28 years,
they noted trends in CSR disclosure of a Bangladeshi Islamic bank over three distinguishing phases of the Islamic banking
industry: pre 1990, 1990–2001 and post 2001. Secondly, they split ethical reporting requirements into two strands; ‘Particular’ reporting practices relating to the nature of Islamic banks and especially to Shari’ah compliance issues and ‘Universal’
reporting practices which are more relevant to the wider stakeholder groups such as community, employees and customers.
They found an overall increase in both ‘Particular’ and ‘Universal’ disclosures over the study period with a shift towards more
‘Universal’ disclosures after 2006. They interpret their findings as being the bank’s adherence to the minimalist approach
without explicitly contravening the wider perspective of Shari’ah.
Hassan and Harahap (2010) carried out a similar study to Haniffa and Hudaib (2007) focussing on the disclosure of social
activities in the annual reports of seven Islamic banks. They found a significant expectations gap in all but one of the seven
Islamic banks, and surmised that CSR issues are not the main concern for most Islamic banks. They concluded that some
Islamic banks pay scant attention to disclosing their social activities and thus argued for a standard on CSR disclosure relevant
to IFIs. Farook et al. (2011) provided an a priori basis for CSR disclosure in Islamic banks. They empirically analysed the level of
social disclosure in forty-seven Islamic banks’ annual reports based on a CSR benchmark derived from the Maali et al. (2006)
index. They found substantial variation in CSR disclosures and this variation is best explained by the presence of Shari’ah
supervisory board (SSB) governance and the preponderance of Muslims in their sample countries. They concluded that the
regulatory bodies in Islamic banking should consider the SSB as being compulsory for all Islamic banks.
Aribi and Gao (2012) analysed the narrative disclosures of CSR in 21 IFIs operating in the Gulf countries. They found that
the main CSR disclosures were contained in the SSB reports with less disclosure in the annual reports on other Islamic based
information such as Zakah, interest free loans and charitable donations. Table 1 presents the main studies on CSR disclosure
in Islamic banks.
The CSR literature on Islamic banks is largely qualitative based studies that measure the volume of narrative CSR disclosures against an ideal benchmark drawn from Shari’ah based CSR objectives and AAOIFI standards. They generally find an
expectations gap between actual/communicated disclosures and ideal disclosures. However, the main limitations of these
studies are their reliance on data collected from the annual reports to infer CSR disclosure. The annual report itself will
not provide the true picture of CSR disclosure as Islamic banks may disclose some of their CSR separately in other reports,
e.g., SSB report, corporate governance report and on their websites. We collect data from the annual reports and all the
other available reports as well as the Islamic banks websites. Secondly, the number of sample banks used in the literature
was limited as acknowledged by Maali et al. (2006) and Haniffa and Hudaib (2007). Our sample of Islamic banks is not
only relatively large (90) compared to the largest study so far (47 in Farook et al., 2011) but also more recent data in 2011.
The most recent year investigated was 2007 (Farook et al., 2011). Thirdly, although a number of studies referred to AAOIFI
standards (Hassan and Harahap, 2010), none of them included AAOIFI Standard No.7 on CSR conduct in which CSR disclosure
classification distinguishes mandatory from voluntary CSR disclosure requirements.

6
Their social disclosure benchmark index, containing thirty items, covered the reporting of Shari’ah Supervisory Board opinion; unlawful transactions;
the payment of Zakah; payment for Quad Hassan, charity and other social activities; policies on employees; policies on late repayment and insolvent clients;
protecting the environment; and other aspects of community involvement.
7
These five features, discussed in detail in their paper, are the bank’s underlying philosophy and values; provision of interest-free products and services;
restriction to Islamic acceptable deals; focus on development and social goals; and reviews by the Shari’ah Supervisory Board.

Please cite this article in press as: Farag, H., et al., Corporate social responsibility and financial performance in Islamic
banks. J. Econ. Behav. Organ. (2014), http://dx.doi.org/10.1016/j.jebo.2014.03.001

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Table 1
Overview of corporate social responsibility disclosure studies in Islamic banks.
Authors

Year

Institution type and countries in
sample

Sample size and year

Measure of CSR

Maali et al.
Haniffa and Hudaib

(2006)
(2007)

Islamic banks around the world
Islamic banks in Gulf countries

29 (2000)
7 (2002–2004)

Abdul Rahman et al.
Hassan and Harahap

(2010)
(2010)

Farook et al.
Aribi and Gao
Belal et al.

(2011)
(2012)
(2014)

Islamic banks in Malaysia
Islamic banks in Bahrain, Bangladesh,
Indonesia, Malaysia, Saudi Arabia,
Kuwait, UAE
Islamic banks around the world
Islamic banks in Gulf countries
Islamic banks in Bangladesh

Disclosure index containing 30 items
Ethical Identity Index containing 78
items
Adapted Maali index
Adapted Haniffa and Hudaib index

1 (1992–2005)
7 (2006)

47 (2007)
21 (2004)
1 (1983–2010)

Adapted Maali index
Narrative disclosures
Disclosure index containing 149 items
across 16 categories

2.2. Corporate social responsibility (CSR) and financial performance (FP)
Numerous theoretical and empirical studies have long investigated CSR impact measured by social performance and its
relationship to FP. However there is a controversy in the results due to the discrepancies in the theoretical and methodological
frameworks (see for instance, Preston and O’Bannon, 1997; Griffin and Mahon, 1997; and Waddock and Graves, 1997). A
limited number of studies focussed on the banking industry (Simpson and Kohers, 2002; Soana, 2011, Ahmed et al., 2012).
However, there is no previous study that examines empirically the CSR-FP relationship specifically in the Islamic banking
industry. Therefore a better understanding of this link would be invaluable, directly or indirectly, to all stakeholders including
management, shareholders and the Islamic community. Various hypotheses sought to explain the link between CSR and
FP. The main findings of these studies are controversial as they offer conceptual interpretations for a positive, neutral and
negative relationship between social and financial performance. See for example Preston and O’Bannon (1997) and Waddock
and Graves (1997).
Neoclassical economists are the proponents of the negative association between social and financial performance (e.g.,
Simpson and Kohers, 2002). They argue that firms which meet the social needs of their stakeholders will incur a competitive
disadvantage resulting in reduced profits because such social costs could be avoided or borne by others (e.g., the government).
It could be argued from an Islamic bank perspective, that assisting to develop large scale environmental and community
projects may have an adverse impact on its profitability.
Stakeholder theory assumes that there might be a positive relationship between social and financial performance. Waddock
and Graves (1997) argue that the benefits from CSR are greater in comparison with its costs. Therefore, there should be a
positive association between CSR and FP. Preston and O’Bannon (1997) argue that meeting the needs of various corporate
stakeholders enhances a firm’s reputation in a way that will have a positive impact on its FP. The empirical findings of
Simpson and Kohers (2002), based on data from a sample of US commercial banks, support the notion of a positive social –
financial performance link.
The central role played by Islamic banks within their communities suggest that being actively engaged in social and ethical
activities enhances their reputation leading to an expected higher FP. Finally, the empirical finding of a simply neutral (nonexistent) relationship between social and financial performance might be due to the complex relationship between society
and the firm which cannot be captured through a simple direct relationship. Islamic banks following Shari’ah principles are
expected to offer profit and loss sharing schemes for Investment Account Holders and depending on their policies may pay
Zakah on behalf of their customers as well as dispensing discretionary benevolent loans (Qard Hassan) to the community.
The effect of such business activities could be varied and complex resulting in a neutral relationship between CSR and FP.
Based on the above discussion, we formulate our first hypothesis as follows:
H1.

There is a relationship between an Islamic bank’s CSR activities disclosure and its financial performance.

2.3. The direction of causality between CSR and FP
Two perspectives can be contrasted and tested empirically. Waddock and Graves (1997) coined the first as the ‘slack
resources theory’ and the second ‘good management theory’. Firms which have superior FP will then have slack resources
available to spend on investing in socially responsible activities such as improving employee and community relations.
Investing in these social domains would result in better social performance. It suggests that the surpluses generated by
Islamic banks from strong FP will be invested in Shari’ah compliant socially responsible activities. As Shari’ah objectives
place emphasis on promoting justice and welfare in society, Islamic banks which perform well financially are expected to do
good through undertaking socially responsible activities which benefit all stakeholders including the community. To sum
up, under the “slack resources theory”, the CSR-FP relationship runs from FP to CSR. This suggests that CSR is determined by
FP (Waddock and Graves, 1997).
Please cite this article in press as: Farag, H., et al., Corporate social responsibility and financial performance in Islamic
banks. J. Econ. Behav. Organ. (2014), http://dx.doi.org/10.1016/j.jebo.2014.03.001

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Conversely, Waddock and Graves (1997) surmise that firms with good management who pay attention to socially responsible activities such as employee training and relations may expect to reap better FP later. So, publicity through disclosure
by Islamic banks of their investment in activities that comply with Shari’ah such as sponsoring Islamic educational events
and supporting employees fulfilling their Haj may lead to more growth and profitability. The “social impact hypothesis” of
Cornell and Shapiro (1987) provides a consistent view with the good management theory as it suggests that satisfying the
different needs of stakeholders will improve the reputation of the company and lead to better FP. However, the trade-off
hypothesis of Vance (1975) provides a consistent interpretation with the views of the neoclassical economists.8 Under good
management theory, social impact and the trade-off hypotheses, CSR would be a predictor of FP. Therefore we formulate our
second hypothesis as follows:
H2.

The relationship between CSR and financial performance of Islamic banks is bi-directional.

3. The sample and data
Our dataset is a cross-sectional analysis of the relationship between CSR disclosure and Islamic banks financial performance over the period 2010–2011.9 We use Bankscope and the Bankers databases for the sample selection. The Bankers
magazine published a survey in November 2011 of the top Islamic financial institutions by country. There are 160 Islamic
banks with 100% Shari’ah compliant assets listed in this study. For the sake of consistency in our sample, we excluded Islamic
banks in both Iran (18 Islamic banks) and Turkey (4 Islamic banks) as they do not have the SSB. We also excluded Islamic
banks which provide only financial statements (37 banks). In addition, we excluded subsidiaries from our sample (11 Islamic
banks). Therefore, we collect data for 90 Islamic banks from 13 countries namely Bahrain, Bangladesh, Indonesia, Jordan,
Kuwait, Malaysia, Pakistan, Qatar, Saudi Arabia, Sudan, Syria, United Arab Emirates (UAE), and United Kingdom (UK). The
dataset is hand collected from the annual reports and the websites of the respective banks. Data were collected from several
sources including Bankscope, the Banker database, Perfect Information Navigator, and Companies House,10 in addition to
the annual reports and websites. Financial information was collected from Thomson One Banker and Bankscope in addition
to the annual reports.
3.1. Dependent variable
Our dependent variable is the CSR index. The CSR disclosure index incorporates items from the Maali et al. (2006) and
Haniffa and Hudaib (2007) studies. In addition, we reclassify the index items into two main categories namely mandatory
and voluntary aspects based on AAOIFI Standard No. 7.11 As a further study, and following Belal et al. (2014) we reclassify
the index items into two categories namely particular and universal, the first category consisting of CSR items relating
purely to Shari’ah principles and the second category consists of CSR items generally expected in conventional banks. Our
CSR disclosure index covers a broad range of activities (e.g., compliance with Shari’ah principles, provision of interest free
products, treatment of Zakah, maintaining good relations with employees and involvement in charity, social activities and
protecting the environment). The index consists of 10 dimensions. Our checklist consisting of 84 items12 also includes items
from AAOFI Standard No.7.13 We checked each item across the 90 annual reports and then we dealt with each item as a
dummy variable which takes the value of one if the item was found in the annual reports/websites and zero otherwise. Our
index is equally weighted to avoid any potential scoring and scaling biases following Haniffa and Hudaib (2007) and Maali
et al. (2006) as shown in Eq. (1).

n

CSRIi =

X
t=1 i
n

(1)

where CSRIi is corporate social disclosure index 0 ≤ CSRIi ≤ 1,ni is the number of items expected for bank i n ≤ 84 and Xi is
a dummy variable which takes the value of 1 if the item is disclosed and 0 otherwise. We took precautionary measures to
enhance the validity and the reliability of our analysis. We checked that the index items generated from the classification

8
The trade-off hypothesis of Vance (1975) implies that companies engaging in CSR activities unnecessarily incur costs that may reduce their profitability
measured by earnings per share (EPS). Therefore, the trade-off hypothesis supports the negative association between CSR and FP.
9
We use cross –section regression rather than panel data analysis as the vast majority of Islamic banks disclosed CSR in their annual reports in both
2010 and 2011. We could not find enough data on IBs pre 2010.
10
This source is used to collect data on Islamic banks in the UK.
11
We thank our anonymous referee for the comments and suggestions regarding the classification of the index based on AAOIFI Standard No.7.
12
For a full exposition of the 84 items please refer to Haniffa and Hudaib (2007) and Maali et al. (2006).
13
The CSR responsibilities expected from IFIs fall into two categories, namely mandatory and voluntary. The mandatory category relates to IFI activities
that are imperatives and bound by the command of God. These mandatory activities relate to screening and dealing responsibly with clients; action
on earnings and expenditure prohibited by Shar’iah; paying due attention to employees welfare and establishing terms and conditions for Zakah. The
recommended category relates to desirable activities that IFIs are encouraged to pursue and support from an Islamic perspective. These are policies
relating to implementing Qard Hasan, reduction of adverse impact on the environment; investing in social, development and environment based projects;
commitment to par excellence customer service; assisting micro and small businesses; establishing and supporting charitable activities; and managing
properties dedicated to Muslim societies (Waqf).

Please cite this article in press as: Farag, H., et al., Corporate social responsibility and financial performance in Islamic
banks. J. Econ. Behav. Organ. (2014), http://dx.doi.org/10.1016/j.jebo.2014.03.001

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procedures represented what we intended to represent. The authors examined the items of the index and decided what
that specific item was intended to measure (Beattie et al., 2004). In addition, we made sure that each item and the overall
index are closely related to CSR in Islamic banks as we carefully chose and developed the 10 dimensions of our CSR index
based on the previous literature and the CSR Conduct and Disclosure for IFIs issued by AAOIFI. To enhance the reliability,
the index items are coded and checked twice and we discussed any potential discrepancies. It is worth mentioning that
each bank is coded by two different authors to ensure consistency. We made sure that the same coder is consistent over
time when coding the same item of the index (stability), the coders produce the same results when coding the same item
(reproducibility) and accuracy as well (Beattie et al., 2004). We then rank each bank based on its CSR index score. In addition
we rank each country based on the weighted average dimensions of the CSR index.

3.2. Independent variables
Return on assets and return on equity are widely used measures of bank performance and sustainable growth. However,
during a period of financial uncertainty and low profitability, discretionary social responsibility expenditure has less priority
compared to economic demands. Roberts (1992) argues that a satisfactory level of FP has a direct impact on the decisions by
the board of directors and their commitment to future CSR activities and expenditures. Based on the theoretical framework
and the discussion presented in the hypotheses development section, we expect an association between CSR and FP. A
considerable strand of the CSR literature uses either the contemporaneous or 1-year lagged return on equity (ROE) and/or
return on assets (ROA) as a measure of bank performance (for example, Mallin and Michelon, 2011; McWilliams and Siegel,
2001; Balabanis et al., 1998; Waddock and Graves, 1997). Therefore, to avoid any endogeneity problems we use lagged in
addition to contemporaneous measures of performance. On the other hand, we argue that using a 1-year lagged ROE/ROA
might not be the optimal choice. This may lay the estimation open to performance bias in a particular year (2009 and 2010
in our case). Following the seminal paper of Roberts (1992), we use the average annual change in ROE/ROA over the period
2006–201014 as a measure of bank performance.15
The SSB has social influence and authority in monitoring the IB’s compliance with Shari’ah principles, and provides the
confidence to stakeholders about the legitimacy of the business transactions. Disclosure by the SSB may be seen as a key
aspect of accountability by the IB to its stakeholders. However, the degree to which social activities are disclosed depends
on the underlying rationale of the SSB monitoring role on behalf of the Islamic bank’s investors. Moreover, the degree to
which the SSB influences the level of CSR disclosure may depend on characteristics such as its board size. Therefore, SSB size
is expected to have a positive impact on CSR disclosure16 (Farook et al., 2011). The governance literature indicates the level
of disclosures could increase or decrease depending on whether mechanisms substitute or complement each other (Ho and
Wong, 2001). When governance mechanisms substitute each other, firms may not provide additional disclosures since the
multiple governance mechanisms should have increased the level of monitoring. Therefore, the SSB may see no need to urge
for additional CSR disclosure if investors are already assured of the Islamic bank’s compliance in the Shari’ah compliance
report (Maali et al., 2006). Alternatively, if the governance mechanisms are complementary, agency theory suggests that a
higher level of disclosures is expected as more governance mechanisms will strengthen the monitoring aspect leading to
a reduction in information asymmetry and opportunistic behaviour. The SSB in its role as an additional governance body
would pressure Islamic bank to disclose more CSR activities in order to assure its investors that it is following Shari’ah
laws and principles. Notwithstanding the ambiguity raised, it is expected that the SSB acts as a complementary mechanism
because compliance with Islamic laws and principles should not only be generally inferred within the Shari’ah report but
also reinforced with disclosures of specific CSR activities. Hence, it is generally expected that the SSB in an IB would lead to
higher disclosure levels of CSR activities.
We also control for board size and the proportion of non-executive directors (NEDs) to capture the effect of board structure
and board independence on CSR disclosure.17 Pfeffer (1973) and Pfeffer and Salancik (1978) highlight the role of board size
as an important indicator of a company’s need to link itself with the external environment. They argue that larger boards
may form a greater number of committees, e.g., governance and CSR committees. In terms of resource dependence theory,
outside shareholders may bring managerial know-how and hence help improve banks disclosure. Zahra et al. (1993) find
that the proportion of NEDs leads to racial, ethnic and gender diversity of the board and this in turn results in better impact
on CSR disclosure. Pfeffer and Salancik (1978) and Johnson and Greening (1999) argue that NEDs may enhance the reputation
and credibility of the company and help to establish and maintain its legitimacy. Therefore, we may expect that there is a
positive relationship between CSR and both board size and SSB size in addition to the proportion of NEDs.

14

We also used average annual change on ROE and ROA over the period 2006–2009 as a measure of lagged bank performance and obtained similar results.
As not all the IBs in our sample are listed in the stock exchanges we could not use Tobin’s Q ratio as a measure of bank performance.
The minimum number of any SSB is three according to AAOIFI standards (2008) and this is a common requirement in many Islamic banks. AAOIFI
recommends professionals other than religious scholars to sit on the SSB. These other professionals include bankers and economists. For this to happen,
the size of the SSB would have to be large to accommodate the diversity of its members. The inclusion of business professionals with less religious standing
may increase the need for more CSR activities disclosure to convince the investors that the Islamic bank’s adherence to Shari’ah principles has not been
compromised.
17
Chair/CEO role duality is included in the CSR index.
15
16

Please cite this article in press as: Farag, H., et al., Corporate social responsibility and financial performance in Islamic
banks. J. Econ. Behav. Organ. (2014), http://dx.doi.org/10.1016/j.jebo.2014.03.001

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Moreover, we use other control variables namely the natural logarithm of total assets as a proxy for bank size and bank
age; it is argued that bank size has an impact on the level of corporate social activities. Big banks, we believe, being more
in the public eye, are highly likely to monitor their activities towards wider society. A large strand of the literature on CSR
finds an association between size and CSR activities (see for example, Mallin and Michelon, 2011; Al-Tuwaijri et al., 2004;
Brammer et al., 2006; McWilliams and Siegel, 2001; Roberts, 1992). Roberts (1992) finds a positive relationship between age
and CSR; she argues that the older the company the more involvement there will be in CSR activities which have a positive
impact on its reputation. We also control for the macro-economic factors by using the natural logarithm of country’s GDP.18
In addition we use the ratio of total finances/total assets to control for the differences in IBs operating business efficiency19
(Andres and Vallelado, 2008). Different stock exchanges impose constraints on listed companies with regard to disclosure,
therefore we control for whether the bank is private or listed on a stock exchange. Finally, country dummies are used to
capture country heterogeneity and to control for country specific effects.
4. Research methodology
To empirically investigate the relationship between CSR and FP in Islamic banks, we use the following OLS regression as
in Eq. (2):
CSRIi = ˛i + ˇ1 FPi + ˇ2 SSB.Sizei + ˇ3 B.Sizei + ˇ4 NEDi + ˇ5 lnAgei + ˇ6 lnTAi + ˇ7 Fin/TAi + ˇ8 privatei
+ ˇ9 LnGDPi +i

n


ˇ10 Di + εi

(2)

C=1

where CSRIi : is corporate social responsibility
disclosure index for bank i. FPi is the average annual change in ROE/ROA over
2006–2010 determined as follows: FPi =

N

n=1

(FPt − FPt−1 )/N . . .N : 2006 − 2010, SSB.Size is the number of Shari’ah

supervisory board members for bank i, B.Size is the number of board members for bank i,NED: is the percentage of nonexecutive directors in the board for bank i, lnAge is the natural logarithm of bank age since foundation, lnTA is the natural
logarithm of bank’s total assets in US$ as a proxy for bank size, Fin/TA is the ratio of total bank finances/total assets20 for bank
i, Private is a dummy variable which takes the value of 1 if the bank is listed in a stock exchange of the respective country and 0
21
otherwise,
n lnGDP is the natural logarithm of the gross domestic product of country i as a proxy for country macroeconomic
D are country dummy variables take the value of 1 for the respective country and zero otherwise and εi is
factors,
C=1 i
the white noise error term. We use the first-order Taylor-series linearisation method to control for heteroskedasticity and
to produce robust standard errors. In addition we use both lagged and contemporaneous independent variables in Eq. (2).
Finally we use the Ramsey RESET test for omitted variables and model mis-specification, we also use the variance inflation
factors (VIF) to examine whether the independent variables are perfectly collinear.
To explore the interrelationship between CSR and FP, we formulate the following system of simultaneous equations that
address the potential endogeneity issues in the estimation.
CSR = f1 (FP, Z1 , ε1 )

(3a)

FP = f1 (CSR, Z2 , ε2 )

(3b)

where Zi are the vector of control variables and instruments influencing the dependent variables; and εi are the white
noise error terms associated with the unobservable effects resulting from firm heterogeneity i.e. unobservable features of
managerial behaviour that explain heterogeneity in CSR and FP.
Two concerns may arise regarding endogeneity when examining the relationship between CSR and financial performance.
First, our findings may simply reflect some underlying omitted variable that influences both endogenous variable (CSR and
FP) (Nikolaev and Van Lent, 2005). The second concern is the potential reverse causality between the two endogenous
variables. We estimate the instrumental variable two-stage least squares (2SLS) and the three-stage least squares (3SLS)22
using a system of two simultaneous equations to investigate this bi-directional relationship using the pooled sample over
2010–2011 as in Eqs. (3a) and (3b). Eq. (3a) estimates the impact of bank financial performance measured by both ROA and
ROE on the CSR disclosure index while Eq. (3b) estimates the influence of CSR on the bank financial performance.
The choice of instrumental variables is critical to a consistent estimation. The choice of our instruments is motivated by
the extant literature. A valid instrument should reasonably predict the endogenous variable and not be correlated with error

18

We also used the ratio of deposits/GDP following Andres and Vallelado (2008) and obtained similar results.
We also used three other control variables namely the cross directorship in SSB, the proportion of Muslim population following Farook et al. (2011)
and Tier 1 capital expressed as a percentage of total risk weighted assets to control for IBs risk. However the results show that these three variables are
highly insignificant and correlate with the other independent variables. Results are not presented but available from the authors upon request.
20
Includes all IBs’ financing activities.
21
We also use bank visibility defined as a dummy variable that takes the value of 1 if the bank is one of the main index constituents for the respective
stock exchange and 0 otherwise. We will discuss this variable in the next section as a valid instrument.
22
The essential advantage of 3SLS estimation techniques is that it allows, not only for simultaneity among the CSR and FP, but also for correlations among
the error components. Thus, it is believed that 3SLS estimators are asymptotically more efficient than two-stage least square (2SLS) estimators.
19

Please cite this article in press as: Farag, H., et al., Corporate social responsibility and financial performance in Islamic
banks. J. Econ. Behav. Organ. (2014), http://dx.doi.org/10.1016/j.jebo.2014.03.001

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Table 2
Descriptive statistics of the CSR Index by country.

Aggregate CSR Index
Bahrain
Bangladesh
Indonesia
Jordan
Kuwait
Malaysia
Pakistan
Qatar
Saudi Arabia
Sudan
Syria
UAE
UK

Year

Mean

SD

Min

Max

Obs

2010
2011
2010
2011
2010
2011
2010
2011
2010
2011
2010
2011
2010
2011
2010
2011
2010
2011
2010
2011
2010
2011
2010
2011
2010
2011
2010
2011

0.4356
0.4439
0.5054
0.5125
0.4246
0.4345
0.5387
0.5387
0.3929
0.4008
0.3929
0.3952
0.5082
0.5156
0.3000
0.3048
0.3738
0.3738
0.4762
0.4960
0.3146
0.3146
0.3333
0.3571
0.3027
0.3486
0.4256
0.4464

0.1263
0.1248
0.0893
0.0860
0.0975
0.1090
0.0393
0.0393
0.0000
0.0137
0.0491
0.0515
0.0982
0.0934
0.1089
0.1125
0.1367
0.1367
0.1124
0.1129
0.0356
0.0394
0.2862
0.2525
0.2166
0.1818
0.0791
0.0731

0.1309
0.1310
0.2857
0.3095
0.2500
0.2500
0.4881
0.4881
0.3929
0.3929
0.3333
0.3333
0.3571
0.4048
0.1667
0.1667
0.2381
0.2381
0.3571
0.3574
0.2738
0.2738
0.1310
0.1786
0.1309
0.1310
0.3571
0.3810

0.7024
0.7024
0.6190
0.6429
0.5238
0.5595
0.5833
0.5833
0.3929
0.4167
0.4286
0.4405
0.7024
0.7024
0.4167
0.4167
0.5714
0.5714
0.6190
0.6190
0.3690
0.3810
0.5357
0.5357
0.6190
0.6190
0.5357
0.5357

90
90
20
20
6
6
4
4
3
3
5
5
16
16
5
5
5
5
6
6
7
7
2
2
7
7
4
4

terms. Previous studies have used stakeholders’ characteristics (power and legitimacy), corporate governance characteristics
(board structure and independence) and company visibility as valid instruments for CSR; see for example Brammer and
Millington (2006); Eesley and Lenox (2006); Mitchell et al. (1997); Rehbein et al. (2004) and Garcia-Castro et al. (2010).
Garcia-Castro et al. (2010) define company visibility as whether the company is listed in the Standard & Poor’s 500 (S&P 500)
or not. They argue that listed companies in the S&P 500 have more exposure to investors, media, and thus higher visibility.
Due to the data limitations, we are unable to use the stakeholders’ characteristics as an instrumental variable for the CSR.
Moreover, although corporate governance characteristics may have an influence on CSR (Brammer and Millington, 2006),
they are likely to be correlated with financial performance (Bhagat and Bolton, 2008). Therefore we use, following GarciaCastro et al. (2010), bank visibility as our instrument for CSR. However, we redefine bank visibility as a dummy variable that
takes the value of 1 if the bank is listed in the main market index (constituent) of the respective country and 0 otherwise.
We assume that index constituents are more visible to investors and media and are likely to adopt consistent policies with
stakeholders such as engaging in CSR. Therefore, we expect that our instrumental variable is likely to be correlated with CSR
and not with financial performance. We believe that this variable satisfies the necessary conditions for valid instruments
assuming that the disturbance is not autocorrelated23 (Kennedy, 2003). Furthermore, we use the Breusch and Pagan (1980)
test of independence to investigate whether cross-equation disturbances are indeed correlated and if the equations need
to be estimated simultaneously. Beiner et al. (2006) argue that the advantages of 3SLS depend on instrument validity and
the correct specification of the system. To test the instrument validity, we use the Sargan (1964) mis-specification test
with the null hypothesis of “No mis-specification”. If the null hypothesis is rejected then the model is likely to be either
incorrectly specified and/or some of the instruments are invalid. In addition, to test for the correct specification of the
system of simultaneous equations, we apply the Hausman specification test (Hausman, 1978) to compare between 2SLS
and 3SLS estimates. The null hypothesis of the Hausman test is “the 3SLS results are consistent and efficient while the 2SLS
results are also consistent but inefficient”.
5. Results and discussion
In this section, we analyse the results of the CSR disclosure index of the 90 Islamic banks over the period 2010–2011.
Table 2 presents the descriptive statistics of the CSR Index scores across counties. The results show that the average CSR
index increases from 43.5% in 2010 to 44.3% in 2011 with standard deviation 12% on average. Thus, there is no significant
annual variation in CSR index scores between 2010 and 2011; however, the index scores show that the extent of disclosure

23
We test for the serial correlation in residuals using both the Breusch–Godfrey–Lagrange Multiplier and Durbin–Watson tests. The results of the two
tests show that the residuals are not serially correlated.

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Fig. 1. CSR Index across countries in 2011.
Table 3
Weighted average CSR Index by dimension in 2011.

Average Dimension
Bahrain
Bangladesh
Indonesia
Jordan
Kuwait
Malaysia
Pakistan
Qatar
Saudi Arabia
Sudan
Syria
UAE
UK

D1

D2

D3

D4

D5

D6

D7

D8

D9

D10

Weighted
Index (%)

69.75
83.33
70.37
69.44
33.33
55.56
79.86
33.33
80.00
83.33
47.62
50.00
66.67
72.22

62.82
76.15
64.10
67.31
84.62
55.38
66.83
56.92
43.08
66.67
46.15
53.85
39.56
67.31

60.44
75.00
58.33
57.50
36.67
50.00
78.13
44.00
52.00
63.33
40.00
40.00
42.86
57.50

17.41
18.00
11.11
31.67
8.89
16.00
24.17
5.33
1.33
22.22
17.14
16.67
15.24
23.33

43.21
37.78
68.52
63.89
37.04
48.89
53.47
22.22
31.11
57.41
22.22
38.89
38.10
36.11

39.17
31.25
50.00
62.50
50.00
50.00
29.69
40.00
40.00
45.83
50.00
37.50
42.86
18.75

23.17
33.57
11.90
50.00
19.05
5.71
22.32
11.43
34.29
40.48
4.08
0.00
16.33
21.43

45.09
53.33
33.33
47.92
50.00
48.33
53.13
35.00
35.00
31.94
41.67
50.00
34.52
45.83

3.33
0.00
0.00
0.00
0.00
0.00
9.38
0.00
20.00
8.33
0.00
0.00
0.00
0.00

54.44
68.33
44.44
75.00
66.67
33.33
62.50
46.67
60.00
66.67
9.52
33.33
38.10
66.67

41.88
56.74
48.11
59.64
44.37
43.76
57.09
33.74
41.39
54.92
34.83
39.54
38.60
49.43

D1, . . ., D10 are vision and mission statement; board of directors and top management; product/services; zakah, and benevolent loans; employees; debtors;
community; shari’ah supervisory board (SSB); environment and charitable and social activities dimensions respectively.

across countries varies considerably. Indonesia has the highest CSR index score of 53.8%, followed by Malaysia at 51.5% and
Bahrain at 51.2% in 2011. The lowest scores are achieved by Pakistan and the Sudan, 30.4% and 31.4% in 2011 respectively.
Fig. 1 shows the CSR Index scores by country in 2011.
Table 3 presents the weighted average24 CSR index scores in 2011. As reflected in the analysis of the country’s CSR
disclosures, we find that the vision and mission statement dimension generally scores highly across all countries whilst the
environment generally scores the lowest. The highest disclosure score relates to the vision and mission statement dimension
(D1) which is 69.75% followed by the scores of board of directors (D2) and financial products/services (D3) dimensions (62.82%
and 60.44% respectively). On the other hand, the lowest disclosure score relates to environment (D9) which has a weighted
average score of 3.33%. This finding is consistent with the perception that Islamic banks pay relatively little attention to CSR
activities relating to the environment whereas the board and top management are areas that successful banks which want
to comply with best practice corporate governance would place significant emphasis on. Our findings are also consistent
with those of Kamla (2007) who found very low levels of environmental related disclosures by Arab companies including
Islamic banks. We notice that the weighted average index scores indicate that Indonesia has the highest score of 59.64%
followed by Malaysia and Bahrain 57.09% and 56.74% in 2011 respectively. Fig. 2 presents the weighted average CSR index
scores by country and dimension in 2011.25
We also reclassify the CSR index into two main categories namely mandatory and voluntary disclosure based on the
Standard No. 7 on CSR issued by AAOIFI in 2010. Table 4 presents the CSR index scores classified by mandatory versus
voluntary disclosures in 2011. The results show that the average mandatory CSR index increased from 60.27% in 201026
to 61.2% in 2011, however the average voluntary disclosure index increased from 34.3% in 2010 to 35.4% in 2011. Fig. 3
presents the weighted average CSR mandatory and voluntary disclosure index by country in 2011. It is clear from Fig. 3
that Malaysia has the highest mandatory CSR index scores in 2011 (76%) followed by Bahrain, UK and Indonesia (70%, 68%

24
We are grateful to our anonymous referees; we weight the CSR index by the number of items within each dimension and the number of banks within
each country. For more details on the number of items included in each dimension see Haniffa and Hudaib (2007) and Maali et al. (2006).
25
There is no significant annual change in the weighted average index scores between 2010 and 2011. The results of 2010 are not presented but available
from the authors upon request.
26
2010 figures are not presented in Table 4.

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Fig. 2. CSR Index by dimension.
Table 4
Classifications of the CSR Index by country in 2011.

Aggregate CSR Index
Bahrain
Bangladesh
Indonesia
Jordan
Kuwait
Malaysia
Pakistan
Qatar
Saudi Arabia
Sudan
Syria
UAE
UK

Aggregate Index

Particular

Universal

Mandatory

Voluntary

0.4439
0.5125
0.4345
0.5387
0.4008
0.3952
0.5156
0.3048
0.3738
0.496
0.3146
0.3571
0.3486
0.4464

0.4062
0.4805
0.3211
0.4451
0.2764
0.3659
0.4959
0.2293
0.3073
0.4146
0.2962
0.3902
0.3275
0.4634

0.4798
0.5430
0.5426
0.6279
0.5194
0.4233
0.5058
0.3767
0.4372
0.5736
0.3322
0.3256
0.3688
0.4902

0.6127
0.6982
0.5595
0.6429
0.4762
0.5786
0.7589
0.4214
0.4643
0.5893
0.5051
0.5714
0.4898
0.6786

0.3542
0.4116
0.3690
0.4821
0.3631
0.3036
0.3884
0.2464
0.3214
0.4315
0.2194
0.2500
0.2730
0.3259

The table presents the classifications of the CSR Index into two main classifications namely particular and universal, and mandatory and voluntary CSR
disclosures. The first classification consists of CSR items relating purely to Shari’ah principles (particular) and the items generally expected in conventional
banks (universal). The second classification is based on the Standard No. 7 on CSR issued by AAOIFI.

Fig. 3. Weighted Average CSR Index by disclosure requirements of AAIOFI in 2011.

and 64% respectively). However, Pakistan has the lowest mandatory CSR index scores in 2011 (42%) followed by Qatar and
Jordan (46 and 48% respectively). On the other hand, Indonesia has the highest voluntary CSR disclosure index in 2011 (48%)
followed by Saudi Arabia (43%); whereas the Sudan has the lowest voluntary CSR index score of 22% in 2011 followed by
Pakistan and Syria (24.6% and 25% respectively).
To summarise, the results of the CSR disclosure index show that Islamic banks engage across the range of CSR activities,
both as individual banks and as countries. However Islamic banks seem to show more commitment to the vision and mission
statement, the board and top management, and the financial product/services dimensions, whilst least attention is paid to
the environment dimension. Islamic banks also show a considerable awareness of the mandatory disclosures stated by
the AAOIFI however, they pay less attention to the voluntary CSR disclosures. We interpret these results empirically in the
following section.
Following Belal et al., 2014 we reclassify our CSR index into two main categories namely particular and universal, the
first category consists of CSR items relating purely to the nature of Islamic banks and in particular Shari’ah principles and
the second category consists of CSR items generally expected in conventional banks. Fig. 4 presents the average CSR index
classified into “Particular” and “Universal” disclosures by country in 2011. It is clear from Fig. 4 that the average “Particular”
CSR index (40.62%) is lower than the average “Universal” CSR index (47.98%). This result is consistent with Belal et al. (2014).
Please cite this article in press as: Farag, H., et al., Corporate social responsibility and financial performance in Islamic
banks. J. Econ. Behav. Organ. (2014), http://dx.doi.org/10.1016/j.jebo.2014.03.001

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Fig. 4. Average CSR index classified into “Particular” and “Universal” disclosures by country.

They argue that there is a shift towards more universal disclosures over time especially after 2006. This shift is more relevant
to the wider stakeholder groups such as community, employees and customers. They also argue that Islamic banks adhere
to the minimalist approach without explicitly contravening Shari’ah principles. The CSR index scores are further analysed
by country, the results show that the average “Universal” CSR index scores are higher compared to “Particular” CSR index
scores in all countries except for Syria. We agree with Belal et al. (2014) that Islamic banks firstly established their reputation
based on Shari’ah compliance that distinguished them from the conventional banks; however, there is a remarkable shift
in Islamic banks strategy towards more universal disclosures which are more relevant to the wider stakeholder groups.
Table 4 presents the CSR index scores classified by Particular versus Universal disclosures and mandatory versus voluntary
disclosures in 2011.
In this section we present the empirical findings of the econometrics modelling. Table 5 presents the descriptive statistics
of the covariates in 2011. The sample size is 90 Islamic banks and the average CSR disclosure index ranges from 13.1% to
70.2% with an average of 44.3%. The average return on equity (ROE) ranges from −52.7% to 39.3% with a mean of 5.71%,
whereas, the average return on assets (ROA) ranges from −29.5% to 21.8% with an average of 0.47%. Table 5 also reports
that SSB size ranges from 2 to 9 members with mean value of 4.17, whereas the average board size is 9.03 members with
standard deviation 3.31, in addition the proportion of NEDs is 65.2% on average. The average age of Islamic banks included
in our sample ranges from 6 to 36 years with an average age of 12.3 years. The average finance to total assets ratio and the
percentage of private Islamic banks are 42.6% and 44.4% respectively. Finally, the average natural logarithm of bank size is
15.32 (US$ 4.5 million) whereas the average natural logarithm of GDP is 25.67. Table 6 reports the outputs of the correlation
matrix of the covariates used in the analysis. It is clear that there are no significant correlation coefficients greater than 50%,
therefore our estimation is not subject to multicollinearity problem.
Table 7 presents the outputs of Eq. (2) in which we investigate the main determinants of CSR disclosure in particular
financial performance using cross sectional analysis in both 2010 and 2011 in addition to the pooled sample over the period
2010–2011. Panels A and B report the estimation outputs using the average annual change in ROA and ROE respectively over
the previous 5 years as a proxy for Islamic banks financial performance. Results show that there is a positive and highly
significant relationship between FP and CSR disclosure index in both 2010 and 2011 in addition to the pooled sample in
Panels A and B. This result supports the slack resources theory as better financial performance encourages banks to engage
more in social activities. This result is consistent with Mallin and Michelon (2011), McWilliams and Siegel (2001), Balabanis
et al. (1998), Waddock and Graves (1997) and Roberts (1992). However, this result does not confirm the direction of causality
and any potential endogeneity between CSR disclosure and FP. We investigate that using the 3SLS estimation.

Table 5
Descriptive statistics.

CSR Index
ROE
ROA
SSB. size
B. size
NED
ln TA
Age
Fin./TA
lnGDP
Private

Mean

S.D

Min

Max

0.4439
0.0571
0.0047
4.1666
9.0333
0.6519
15.3196
12.3222
0.4265
25.6743
0.4444

0.1248
0.1369
0.0541
1.3759
3.3198
0.2800
1.6635
11.3848
0.2289
1.2658
0.4997

0.1310
−0.5271
−0. 2955
2.0000
5.0000
0.0935
9.6881
6.0000
0.3358
23.9813
0.0000

0.7024
0.3927
0.2178
9.0000
23.000
0.7125
17.9035
36.000
0.9632
28.5185
1.0000

Skewness
−0.4025
−1.3026
− 1.8238
1.1812
1.9569
−0.8411
−0.2772
1.4990
−0.2631
0.1667
0.2236

kurtosis

Obs.

2.7585
6.3265
9.2167
4.0995
7.4666
2.1695
2.7799
4.9247
2.2159
2.3172
2.0500

90
90
90
90
90
90
90
90
90
90
90

The table presents the descriptive statistics of the sample in 2011. CSR Index: corporate social responsibility index; ROE: return on equity before tax; ROA:
return on assets before tax; SSB.size: the number of Shari’ah supervisory board members; B.Size the number of board members; NED: the percentage of
non-executive directors in the board of directors; lnTA: the natural logarithm of bank’s total assets in US$ as a proxy for bank size; Age: bank age since
foundation; Fin./TA: the ratio of total bank finances/total assets; private: dummy variable takes the value of 1 if the bank is listed in a stock exchange of the
respective country and 0 otherwise; lnGDP: natural logarithm of the gross domestic product of country i as a proxy for country macroeconomic factors;
Private: dummy variable takes the value of 1 if the bank is listed in a stock exchange of the respective country and 0 otherwise.

Please cite this article in press as: Farag, H., et al., Corporate social responsibility and financial performance in Islamic
banks. J. Econ. Behav. Organ. (2014), http://dx.doi.org/10.1016/j.jebo.2014.03.001

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12
Table 6
Correlation matrix.
CSR Index
CSR Index
1.0000
0.0481
ROA
0.0391
ROE
0.2725***
lnTA
0.2114**
lnAge
SSB. size
0.2402**
B. size
0.0485
NED
0.2246**
Fin./TA
−0.1754*
lnGDP
−0.0079
Private
−0.0612

ROA

ROE

lnTA

lnAge

SSB. size

B. size

NED

Fin./TA

lnGDP

Private

1.0000
0.9531
−0.2285**
0.0614
−0.0763
−0.0975
−0.0576
−0.0253
−0.1430
−0.0950

1.0000
−0.2285**
0.0614
−0.0763
−0.0975
−0.0576
−0.0253
−0.1430
−0.0950

1.0000
0.1775*
0.2986***
0.1530
0.1524
0.1468
0.3522***
0.1009

1.0000
0.1808*
0.2505**
−0.2854***
−0.0401
−0.1559
0.1105

1.0000
0.4617***
−0.1592
0.3054***
0.0106
0.2369**

1.0000
−0.4471***
0.0693
−0.2278**
0.3499***

1.0000
−0.2534**
0.0134
−0.2319**

1.0000
0.3742***
0.0806

1.0000
−0.1233

1.0000

The table presents the correlation matrix for the covariates in 2011. CSR Index: corporate social responsibility index; AROA: average annual change in ROA
over 2006–2010; AROE: average annual change in ROE over 2006–2010; lnTA: natural logarithm of bank’s total assets in US$ as a proxy for bank size;
lnAge: the natural logarithm of bank age since foundation; SSB.size: number of Shari’ah supervisory board members; B.Size: number of board members;
NED: percentage of non-executive directors in the board of directors;, Fin./TA: ratio of total bank finances/total assets; Private: dummy variable takes the
value of 1 if the bank is listed in a stock exchange of the respective country and 0 otherwise; lnGDP: natural logarithm of the gross domestic product of
country i as a proxy for country macroeconomic factors.

Interestingly, we find a positive and highly significant association between the SSB size and CSR disclosure index in Panels
A and B. However, board size is found to be insignificantly related to the CSR disclosure index. This implies the essential role
of the SSB in supporting Islamic banks social activities. This result is consistent with Farook et al. (2011) as they argue that
larger SSB size may lead to higher levels of CSR disclosure as the capacity of the monitoring role of the SSB increases. As a
result the SSB may efficiently allocate the designated tasks amongst larger group of members and hence achieve a greater
level of compliance. Moreover, the proportion of NEDs is positive in sign and marginally significant implying a positive
association with the CSR disclosure index. This suggests the positive impact of board independence on CSR disclosure and, in
Table 7
Determinants of CSR disclosure.
Panel A
CSR Index
ROA

2010
0.0003***
(0.0001)

Panel B
2011
0.0004***
(0.0001)

Pooled
0.0002**
(0.0001)

ROE
SSB.size
B.size
NED
lnTA
lnAge
Fin./TA
LnGDP
Private
Cons
Country Dummy
Ramsey RESET test (p value)
Mean VIF
F stat.
R2
Obs.

0.0275***
(0.0099)
0.0006
(0.0047)
0.1085*
(0.0615)
0.0148*
(0.0083)
0.0274*
(0.0161)
−0.0901
(0.0736)
−0.0048
(0.0126)
−0.0390
(0.0312)
0.2141
(0.3283)
No
0.157
1.48
6.85***
(0.0000)
0.3601
90

0.0235**
(0.0103)
0.0008
(0.0051)
0.1057*
(0.0588)
0.0121*
(0.0069)
0.0272*
(0.0161)
−0.1249
(0.0923)
0.0054
(0.0113)
−0.0205
(0.0283)
−0.0323
(0.2985)
No
0.257
1.61
5.78***
(0.0000)
0.4075
90

0.0256***
(0.0064)
0.0013
(0.0031)
0.1249**
(0.0637)
0.0065*
(0.0038)
0.0241**
(0.0121)
−0.1197
(0.0820)
0.0089
(0.0079)
−0.0236
(0.0203)
−0.0551
(0.2051)
No
0.324
1.59
11.21***
(0.0000)
0.3934
180

2010

2011

Pooled

0.0004***
(0.0001)
0.0298***
(0.0096)
0.0003
(0.0073)
0.1184**
(0.0542)
0.0149*
(0.0081)
0.0269*
(0.0159)
−0.0907
(0.0731)
−0.0034
(0.0145)
−0.0399
(0.0335)
0.2136
(0.3283)
No
0.168
1.53
6.91***
(0.0000)
0.3902
90

0.0002**
(0.0001)
0.0249**
(0.0101)
0.0006
(0.0051)
0.1066*
(0.0588)
0.0127*
(0.0071)
0.0275*
(0.0157)
−0.1254
(0.0924)
0.0067
(0.0122)
−0.0207
(0.0298)
−0.0328
(0.2986)
No
0.213
1.52
5.83***
(0.0000)
0.4276
90

0.0003***
(0.0001)
0.0277***
(0.0072)
0.0011
(0.0054)
0.1141**
(0.0589)
0.0061*
(0.0035)
0.0239**
(0.0118)
−0.1196
(0.0967)
0.0081
(0.0086)
−0.0241
(0.0216)
−0.0556
(0.2051)
No
0.297
1.36
11.31***
(0.0000)
0.3839
180

CSR Index: corporate social responsibility index; ROA: average annual change in ROA over 2006–2010; ROE: average annual change in ROE over
2006–2010 SSB. size: number of Shari’ah supervisory board members; B.Size: number of board members; NED: percentage of non-executive directors in
the board of directors; lnAge: natural logarithm of bank age since foundation; lnTA natural logarithm of bank’s total assets in US$ as a proxy for bank size;
Fin./TA: ratio of total bank finances/total assets; lnGDP: natural logarithm of the gross domestic product of country i as a proxy for country macroeconomic
factors; Private: dummy variable takes the value of 1 if the bank is listed in a stock exchange and 0 otherwise.***, **, * indicates significance at the 1%, 5%
and 10% levels. Robust standard error between parentheses.

Please cite this article in press as: Farag, H., et al., Corporate social responsibility and financial performance in Islamic
banks. J. Econ. Behav. Organ. (2014), http://dx.doi.org/10.1016/j.jebo.2014.03.001

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13

Table 8
CSR disclosure dimensions and financial performance of Islamic banks.

ROA
SSB.size
B.size
NED
lnTA
lnAge
Fin./TA
lnGDP
Private
Cons
F stat.(p value)
R2
Obs.

D1

D2

D3

D4

D5

D6

D7

D8

D9

D10

0.0010***
(0.0000)
0.0126
(0.0163)
0.0558***
(0.0112)
0.2746**
(0.1355)
0.0246*
(0.0142)
0.0079
(0.0325)
0.1313
(0.1109)
0.0260
(0.0249)
0.0732
(0.0505)
−0.2637
(0.6816)
23.44***
(0.0000)
0.1670
90

0.0006***
(0.0001)
0.0043
(0.0170)
0.0247***
(0.0085)
0.2901***
(0.0923)
0.0038
(0.0144)
0.0440*
(0.0258)
0.0466
(0.1132)
0.0161
(0.0199)
0.0430
(0.0462)
−0.0814
(0.4813)
17.01***
(0.0000)
0.1379
90

0.0003*
(0.0002)
0.0283**
(0.0118)
−0.0016
(0.0112)
0.2877**
(0.1261)
0.0366**
(0.0172)
0.0588*
(0.0358)
0.2182*
(0.1123)
0.0228
(0.0242)
0.0376
(0.0529)
−0.1419
(0.6526)
3.51***
(0.0011)
0.1419
90

0.0003***
(0.0001)
0.0184*
(0.0101)
−0.0052
(0.0055)
0.0061
(0.0663)
0.0073
(0.0118)
0.0060
(0.0176)
0.0694
(0.0796)
−0.0090
(0.0164)
−0.0189
(0.0302)
0.4058
(0.4062)
24.82***
(0.0000)
0.1352
90

0.0009***
(0.0002)
0.0217
(0.0228)
0.0293**
(0.0114)
0.5013***
(0.1246)
0.0532**
(0.0227)
0.0647*
(0.0349)
0.1973
(0.1188)
−0.0024
(0.0347)
0.0612
(0.0677)
0.4517
(0.7919)
36.65***
(0.0000)
0.1881
90

0.0004***
(0.0001)
0.0016
(0.0135)
−0.0008
(0.0060)
−0.0559
(0.0760)
0.0282**
(0.0140)
−0.0174
(0.0195)
0.0784
(0.1017)
0.0554***
(0.0204)
0.0098
(0.0349)
1.7492***
(0.5116)
13.61***
(0.0000)
0.1541
90

0.0008***
(0.0002)
0.0483**
(0.0205)
−0.0039
(0.0123)
0.1878
(0.1262)
0.0086
(0.0244)
−0.0328
(0.0351)
0.0058
(0.1261)
0.0156
(0.0281)
−0.0418
(0.0613)
−0.2076
(0.6941)
27.65***
(0.0000)
0.1279
90

0.0002*
(0.0001)
0.0030
(0.0134)
0.0016
(0.0097)
0.0369
(0.0844)
−0.0019
(0.0098)
0.0146
(0.0242)
0.0699
(0.0884)
0.0047
(0.0130)
−0.0008
(0.0378)
0.2466
(0.3614)
6.12***
(0.0000)
0.0255
90

−0.0002*
(0.0001)
0.0033
(0.0101)
0.0003
(0.0069)
−0.0520
(0.0770)
0.0147*
(0.0085)
0.0376**
(0.0172)
0.0229
(0.0339)
−0.0017
(0.0143)
−0.0453**
(0.0205)
0.0956
(0.4004)
1.7900*
(0.098)
0.0670
90

0.0012***
(0.0003)
0.0675**
(0.0336)
0.0035
(0.0196)
0.2943
(0.2339)
−0.0302
(0.0330)
−0.0301
(0.0550)
−0.0523
(0.2386)
0.0753*
(0.0421)
−0.0235
(0.0992)
−1.2451
(1.1143)
12.23***
(0.0000)
0.1010
90

D1, . . ., D10 are vision and mission statement; board of directors and top management; product/services; zakah, and benevolent loans; employees; debtors;
community; shari’ah supervisory board (SSB); environment and charitable and social activities dimensions respectively. ROA: average annual change
in ROA over 2006–2010; SSB.size: number of Shari’ah supervisory board members; B.Size: number of board members; NED: percentage of non-executive
directors in the board of directors; LnTA natural logarithm of bank’s total assets in US$ as a proxy for bank size; lnAge: natural logarithm of bank age since
foundation; Fin./TA: ratio of total bank finances/total assets; lnGDP: natural logarithm of the gross domestic product of country i as a proxy for country
macroeconomic factors; Private: dummy variable takes the value of 1 if the bank is listed in a stock exchange of the respective country and 0 otherwise.***,
**, * indicates significance at the 1%, 5% and 10% levels. Robust standard error between parentheses.

terms of resource dependence theory, NEDs may bring managerial know-how and hence help improve firm disclosure. This
result is consistent with Pfeffer and Salancik (1978) and Johnson and Greening (1999) as they argue that NEDs may enhance
the reputation and credibility of the company and help to establish and maintain its legitimacy.
Table 7 also reports – as expected- that lnTA (our proxy for bank size) and bank age are positive in sign and marginally
significant; this suggests that there is a positive relationship between both bank size and bank age, and their CSR disclosure. This result is consistent with Roberts (1992) as she argues that the older the company the more involvement in CSR
activities as these relate to its reputation. This result is also consistent with Mallin and Michelon (2011), Al-Tuwaijri et al.
(2004), Brammer et al. (2006) and McWilliams and Siegel (2001) as they argue that big banks are highly likely to monitor
their activities towards wider society. In addition, a well-established bank may have a slightly different set of stakeholders
who may impose more constraints on financial institutions to disclose, communicate and to reflect their corporate social
responsibility and ethical behaviour to their related parties. This result is consistent with the “social impact hypothesis” of
Cornell and Shapiro (1987) in which they suggest that satisfying different needs of stakeholders will improve the reputation
of the company and lead to better FP. We notice that the “Private” variable is insignificant implying that the CSR disclosure is
not determined by whether the bank is listed in the stock exchange or not. This may suggest that CSR disclosure regulations
are less mandatory for Islamic financial institutions in some of the countries included in our sample. However interestingly,
when we control for the Visibility dummy, it turns out to be positive and significant at the 5% level. This may imply that
companies included in index constituents may have a better CSR profile.27 The models presented in Panels A and B are well
specified; the average R squared in Panels A and B are 38.7% and 40.1% respectively. The F statistics are highly significant and
reject the null that the coefficients are insignificantly different from zero.28 The variance inflation factor (VIF) is well below
10; this suggests that our models are not subject to multicollinearity. Finally, the Ramsey RESET test for omitted variables
and model mis-specification fails to reject the null that the model is not mis-specified and concludes that there is no omitted
variables bias and our models are well specified. However, the question on which dimension(s) of the CSR disclosure index
derive and impact the CSR-FP link remains unanswered; we try to answer this question in the following section.
Motivated by the study of Brown and Caylor (2006), we re-estimate Eq. (2) using the individual dimensions of the CSR
disclosure index separately as a dependent variable (one at a time). Table 8 presents the results of the cross-sectional

27

Results are not presented in Table 4 as Visibility dummy is correlated with Private dummy variable.
We also test the country effect (heterogeneity) and whether the country coefficients are jointly different from 0 with the null that country dummies
have no effect on the CSR disclosure index. We find no significant country effect and the results presented in Table 6 do not change if we control for country
heterogeneity.
28

Please cite this article in press as: Farag, H., et al., Corporate social responsibility and financial performance in Islamic
banks. J. Econ. Behav. Organ. (2014), http://dx.doi.org/10.1016/j.jebo.2014.03.001

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Table 9
Mandatory and voluntary CSR disclosure and financial performance.
CSR Index

Panel A: mandatory

Panel B: voluntary

ROA

0.0004***
(0.0001)

0.0002**
(0.0001)

ROE
SSB.size
B.size
NED
lnTA
lnAge
Fin./TA
lnGDP
Private
Cons
F stat.
R2
Ramsey RESET test (p value)
Mean VIF
Obs.

0.0226*
(0.0129)
0.0202**
(0.0084)
0.1730**
(0.0838)
0.0241**
(0.0108)
0.0004
(0.0248)
0.1198
(0.0896)
0.0146
(0.0158)
0.0262
(0.0367)
0.1095
(0.4160)
8.57***
(0.0000)
0.3231
0.149
1.99
90

0.0003***
(0.0001)
0.0229*
(0.0131)
0.0208**
(0.0091)
0.1749*
(0.0922)
0.0239**
(0.0112)
0.0004
(0.0248)
0.1200
(0.0899)
0.0141
(0.0165)
0.0258
(0.0371)
0.1093
(0.4161)
8.41***
(0.0000)
0.2931
0.374
1.45
90

0.0412***
(0.0086)
0.0018
(0.0053)
0.0978*
(0.0601)
0.0182**
(0.0091)
0.0239**
(0.0141)
0.0823
(0.0657)
0.0046
(0.0131)
0.0126
(0.0279)
0.1302
(0.3239)
27.85***
(0.0000)
0.2720
0.125
1.89
90

0.0002**
(0.0001)
0.0345***
(0.0092)
0.0022
(0.0053)
0.0921*
(0.0561)
0.0189*
(0.0098)
0.0225**
(0.0117)
0.0824
(0.0661)
0.0055
(0.0161)
0.0121
(0.0284)
0.1297
(0.3240)
27.78***
(0.0000)
0.2520
0.268
1.24
90

CSR Index: corporate social responsibility index; ROA: average annual change in ROA over 2006–2010; ROE: average annual change in ROE over
2006–2010 SSB.size: number of Shari’ah supervisory board members; B.Size: number of board members; NED: percentage of non-executive directors in
the board of directors; lnTA: natural logarithm of bank’s total assets in US$ as a proxy for bank size; lnAge: natural logarithm of bank age since foundation;
Fin./TA: ratio of total bank finances/total assets; lnGDP: natural logarithm of the gross domestic product of country i as a proxy for country macroeconomic
factors; Private: dummy variable takes the value of 1 if the bank is listed in a stock exchange of the respective country and 0 otherwise.***, **, * indicates
significance at the 1%, 5% and 10% levels. Robust standard error between parentheses.

regression in 2011 using the annual average change in ROA as a measure of FP.29 Results show that there is a positive and
significant association between FP and CSR dimensions except for dimension 9 (environment). This suggests that the better
the FP the less disclosure on environmental activities. Therefore most of the Islamic banks included in our sample may not
spend on environmental activities regardless of their FP. This result is consistent with Preston and O’Bannon (1997) and
Waddock and Graves (1997) as they argue that these costs might be avoided or that they should be borne by governments
or other stakeholders (i.e. investments in pollution control equipment). Therefore spending on environmental activities
exceeds their potential benefits and this may explain the low scores of the environment dimension of the CSR disclosure
index. Interestingly, SSB size is found to be positive and significant with financial product/services, zakah, and benevolent
loans, community, charitable and social activities dimensions. However, the main board and the proportion of NEDs are
positively and significantly associated with vision and mission, board of directors and top management and employees
dimensions. We also find that listed banks disclose more on the environmental activities compared with private banks. The
models presented in Table 8 are well specified; the F statistics are highly significant and reject the null that the coefficients
are insignificantly different from zero.
Table 9 presents the estimation results of the relationship between Islamic banks FP and both mandatory and voluntary
disclosure requirements in the light of the Standard No.7 issued by AAOIFI in 2010. We re-estimate Eq. (2) by classifying
the CSR index items into two main categories namely mandatory and voluntary CSR disclosure in 2011.30 Overall we find
similar results to those presented in Table 7. The results presented in Table 9 confirm the positive and significant association
between both mandatory and voluntary CSR disclosure and Islamic banks FP. However, this relationship is less significant
for the voluntary disclosure. Interestingly, we notice that SSB size is marginally significant in Panel A (mandatory disclosure),
however it is highly significant in Panel B (voluntary disclosure). This suggests the fundamental role of the SSB in encouraging
social and charitable activities. Moreover, board size is significant within the mandatory disclosure Panel and insignificant
within the voluntary disclosure Panel. The models are well specified; the F statistics are highly significant and reject the null

29
We also estimate these models using the average annual change on ROE in 2010 and 2011 in addition to the pooled sample and obtained similar results.
Results are available from the authors upon request.
30
We also estimate this link using 2010 and the pooled sample and obtained similar results to those presented in Table 7. Results are available from the
authors upon request.

Please cite this article in press as: Farag, H., et al., Corporate social responsibility and financial performance in Islamic
banks. J. Econ. Behav. Organ. (2014), http://dx.doi.org/10.1016/j.jebo.2014.03.001

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15

Table 10
3SLS estimation results for CSR and FP equations.
Dependent variable

Panel A: CSR equation

Panel B: Performance equation

CSR index
System 1
ROA

System 2

NED
lnTA
lnAge
Fin./TA
lnGDP
Cons
R.sq
Chi. sq
Sargan test (p.value)
Hausman Specification Tests
2SLS vs 3SLS (p.value)
Breusch–Pagan test of independence(p.value)

System 2

2.7665
(1.8095)
1. 9572*
(1. 0278)
−0. 3344
(1.9374)
0.4921**
(0.1986)
1.1732
(2.5572)
1.4711
(1.2403)
0.4567
(0.3591)
0.0705
(0.8121)
1.6113
(2.7498)
0.141
9.015
0.301
0. 272

0.0009***
(0.0001)

0.0299***
(0.0068)
0.0001
(0.0032)
0.0911**
(0.0371)
0.0059*
(0.0032)
0.0162*
(0.0096)
−0.1060**
(0.0409)
0.0157**
(0.0077)
0.1991
(0.1742)
0.272
41.35***
0.348

0. 0284***
(0. 0068)
0.0002
(0.0035)
0.0908**
(0.0371)
0.0048**
(0.0021)
0.0174*
(0.0099)
−0.1057**
(0.0409)
0.0082
(0.0071)
0.1887
(0.1689)
0.187
42.11***
0.301

2.3269
(1.5282)
1.9682**
(1.0105)
−0.2868
(0.6362)
0.4135**
(0.2132)
0.9751
(2.1596)
1.2548
(5.2699)
0.2807
(0.2705)
0.0084
(0.6871)
1.4557
(2.9112)
0.074
6.06
0.348

0.246

0.272

0. 246

CSR

B. size

ROE

System 1

0.0011***
(0.0002)

ROE

SSB. size

ROA

0.02
CSR Index: corporate social responsibility index; ROA: average annual change in ROA over 2006–2010; ROE: average annual change in ROE over
2006–2010; SSB.size: number of Shari’ah supervisory board members; B.Size: number of board members; NED: percentage of non-executive directors in
the board of directors; lnTA natural logarithm of bank’s total assets in US$ as a proxy for bank size; lnAge: natural logarithm of bank age since foundation;
Fin./TA: ratio of total bank finances/total assets; lnGDP: natural logarithm of the gross domestic product of country i as a proxy for country macroeconomic
factors; ***, **, * indicates significance at the 1%, 5% and 10% levels. Standard error between parentheses.

that the coefficients are insignificantly different from zero. To sum up, the results presented in Tables 7–9 suggest that there
is a positive and significant relationship between Islamic banks FP and CSR disclosure.31 Moreover, our results highlight the
essential role and the positive impact of the SSB size on the CSR disclosure. Based on the above discussion we cannot reject
our first hypothesis. However, the question on the direction of causality between CSR disclosure and the FP of Islamic banks
remains unanswered; we try to answer this question in the following section.32
In this section we investigate the bi-directional relationship between CSR and Islamic bank FP.
To account for a potential endogeneity between CSR and FP we use Durbin-Wu-Hausman test (e.g., Hausman, 1978).
The result the Durbin–Wu–Hausman test rejects the null hypothesis of no endogeneity at the 10% level. Therefore, we
conclude that OLS may lead to biased and inconsistent estimates in our sample. To this end, we estimate Eqs. (3a) and (3b)
jointly using three-stage least squares regression33 to deal with any potential endogeneity between CSR and FP. The 3SLS
estimation results for the simultaneous system are summarised in Table 10. Panel A presents the results of the impact of FP
on CSR as in Eq. (3a) whilst Panel B presents the impact of CSR on the FP as in Eq. (3b). The coefficient on ROA in the CSR
equation remains positive and significant at the 1% level. However, the coefficient on CSR in the FP equation turns out to be
statistically insignificant. This suggests that the causality between the two endogenous variables runs from FP to CSR. It is
clear that replacing ROE with ROA as an FP measure does not alter our findings. The performance equation also shows
that there is a positive and significant relationship between SSB size and the proportion of NEDs and FP.
The result of the Breusch–Pagan test shows that cross-equation residuals were not independent (p-value = 0.02) and,
hence, the test rejects the null hypothesis of independence errors and indicates, therefore, that the equations need to be

31
As robustness check we re-estimate equation 2 excluding IBs from Malaysia and Bahrain as both countries represent 40% (36 banks) of our sample size.
Our empirical results remain qualitatively unchanged.
32
We re-estimate equation 2 by classifying the CSR index items into other two categories namely Particular and Universal CSR disclosures in 2011. We
obtained consistent results confirming the positive and significant association between both Universal and Particular CSR disclosure and Islamic banks FP.
33
We use the 2SLS estimation as a robustness check following Al-Tuwaijri et al. (2004). The 2SLS estimation provides similar results to those obtained
from 3SLS regarding the direction of causality between CSR and FP.

Please cite this article in press as: Farag, H., et al., Corporate social responsibility and financial performance in Islamic
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estimated simultaneously. The system presented in Panel A is well specified as the Chi squared is highly significant. On
the other hand, the system presented in Panel B is not well specified as the Chi squared is insignificant. The result of the
Sargan mis-specification test shows that we cannot reject the null hypothesis of “no mis-specification”, indicating that the
instruments of our system are orthogonal to the error terms of the respective equations. We also report the results of the
Hausman test; the results show that we cannot reject the null hypothesis of “the 3SLS results are consistent and efficient
while the 2SLS results are also consistent but inefficient”. Hence, under the assumption that at least one of the equations of
our system is correctly specified, the specification of the entire system cannot be rejected and the most efficient estimates
are obtained by applying 3SLS. To sum up, the 3SLS results strongly suggest that the CSR disclosure index of the Islamic
banks is determined by their FP and the opposite is not true. Therefore we can reject our second hypothesis. We interpret
this result in the light of the slack resources theory which assumes that available slack resources might be allocated into the
social domain. The higher profitability provides more opportunities for Islamic banks to subsequently promote and disclose
their surplus resources invested into socially responsible activities in line with their religious values and beliefs. We argue
that the slack resources theory has been developed from the base of general and wider applicability and thus may also be
applicable to IFI. However, as the distinctive governance feature of IFI is the Shari’ah governance system and the presence of
the SSB, we believe that the Shari’ah principles underlying IFI result in unique agency relationships.
6. Summary and conclusions
Islamic banking and CSR are both areas which have seen significant growth in recent years. In this paper we investigate the
type and the extent of CSR disclosure made by a sample of 90 Islamic across 13 countries over the period 2010–2011. Our paper
revises and constructs a comprehensive index created from CSR disclosure studies of Islamic banks and recommendations
from the AAOIFI Standard No.7. We investigate empirically the link between Islamic banks FP and CSR highlighting the impact
of SSB size on the level of CSR disclosure and the direction of causality between FP and the CSR. The CSR index scores show that
the extent of disclosure across countries varies considerably. Indonesia has the highest CSR index score of 53.8%, followed by
Malaysia (51.5%) and Bahrain (51.2%) in 2011. The lowest scores are shown by Pakistan (30.4%) and the Sudan (31.4%). We
also find that the vision and mission dimension generally scores highly across all countries whilst the environment generally
scores the lowest. Our findings are consistent with those of Kamla (2007) who found very low levels of environmental related
disclosures by Arab companies including Islamic banks. We also find that Malaysia has the highest mandatory CSR index
scores (76%) whereas Pakistan has the lowest mandatory CSR index score (42%) in 2011. On the other hand, Indonesia has the
highest voluntary CSR disclosure index (48%) whereas the Sudan has the lowest voluntary CSR index score of 22% in 2011.
Moreover, we find consistent results with Belal et al. (2014) as we find that Particular” CSR index (40.62%) is lower than the
average “Universal” CSR index (47.98%). In addition, the CSR index scores are further analysed by country, the results show
that the average “Universal” CSR index scores are higher compared to “Particular” CSR index scores in all countries except
for Syria. Hence, there is a remarkable shift in Islamic banks strategy towards more universal disclosures which represent
the wider perspective of Shari’ah and are more relevant to the wider stakeholder groups.
The empirical analysis highlighted a positive association between CSR disclosure index and banks’ performance. This
result supports the slack resources theory as better FP encourages banks to engage more in social activities. We also find
that there is a positive and significant association between FP and CSR dimensions except for the environment dimension.
This result is consistent with Preston and O’Bannon (1997) and Waddock and Graves (1997) as they argue that these costs
might be avoided or that they should be borne by governments or other stakeholders (i.e. investments in pollution control
equipment). Therefore spending on environmental activities exceeds their potential benefits which contradicts the wider
perspective of Shari’ah compliance. Interestingly, we find a positive and highly significant association between the SSB size
and CSR disclosure index. This implies the essential role of the SSB in supporting Islamic banks social activities. This result
is consistent with Farook et al. (2011) as they argue that larger SSB size may lead to higher levels of CSR disclosure as the
capacity of the monitoring role of the SSB increases. As a result, the SSB may efficiently allocate the designated tasks amongst
larger group of members and hence achieve a greater level of compliance. The 3SLS results strongly suggest that the CSR
disclosure index of the Islamic banks is determined by their FP and the opposite is not true. This suggests that the causality
between the two endogenous variables runs from FP to CSR.
The findings have a number of policy implications. Firstly, the empirical evidence indicates that the level of CSR disclosure
was relatively low even though AAOIFI Standard No.7 provides a template for Islamic banks to adopt in terms of CSR conduct
and disclosure. Therefore policymakers might, in future, be more active in encouraging Islamic banks to adopt AAOIFI Standard
No.7 as a benchmark. Secondly, our empirical evidence suggests that an Islamic bank’s involvement in CSR tends to increase
as its SSB size grows larger. Therefore, policymakers should be encouraged to introduce policies to help increase the number
of eligible SSB members as a larger SSB may encourage disclosure of the Islamic Bank’s CSR and such disclosure provides
evidence to the public that it is pursuing its social goals. Such policies might include more professional training programmes
which help increase the supply of Shari’ah scholars. Additionally, policy makers should be encouraged to introduce specialist
training for SSB members on the wider perspective of Shari’ah compliance that include universal CSR of environmental, social
and governance issues. Hopefully a larger pool of Shari’ah scholars may help Islamic banks to appoint more members onto
their SSBs. Larger SSBs may approve more Islamic based products, thus contributing to higher profits which may then
encourage these banks to participate in more social activities in line with the Islamic Bank’s objectives in bringing social and
economic benefits to all its stakeholders. Future research may consider other factors like an updated set of national culture
Please cite this article in press as: Farag, H., et al., Corporate social responsibility and financial performance in Islamic
banks. J. Econ. Behav. Organ. (2014), http://dx.doi.org/10.1016/j.jebo.2014.03.001

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17

scores adapted from Hofstede’s (2001) model (Taras et al., 2012) to try and explain the effects of a society’s culture on CSR
activities. Furthermore, future research may study the determinants on social activities by collecting data through detailed
interviews with management and other stakeholders. This might substantiate the findings from the CSR disclosure studies.
Acknowledgements
The authors would like to express their appreciation to the paper discussant, participants and reviewers at the Islamic
Finance Conference, 29th September 2012, Aston University, Birmingham, UK.
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