Why companies voluntarily provide social and environmental disclosures

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Corporate disclosure is important for the functioning of an efficient capital market. Firms provide disclosure through regulated financial reports, including the financial statements, management discussion and analysis, footnotes, and other regulatory filings. In addition, some firms engage in voluntary communication, such as analysts' presentations, management forecasts and conference calls, internet sites, press releases, and other corporate reports. Finally, there are disclosures about firms by information intermediaries, such as financial analysts, industry experts, and the financial press. (Healy and Palepu, 2001, pp.406)

There are several reasons that firms voluntarily provide social and environmental disclosures. Firstly, companies voluntarily disclosure information to conform to norms and values of society. Secondly, firms voluntarily disclosure information to satisfy information needs of company outsiders. Thirdly, firms voluntarily disclosure to emulate practices of others firms, to bow to societal pressures or to bow to pressure from firm outsiders. Finally, companies provide social and environmental disclosures to avoid political costs. (Beelitz, 2010)

This essay will use Legitimacy Theory, Stakeholder Theory, Institutional Theory, and Positive Accounting Theory to explain the reasons mentioned above.

Legitimacy Theory- to conform to norms and values of society

Concession theory holds that the corporation is an artificial entity created by the state; that is, the corporation exists as a concession or privilege of the state. (Gaffikin, 2008:193)

Both Deegan and O'donovan identify the motivation for disclosure is to line up management's values with social values. Management signals its reactions in an annual report to the concerns of particular stakeholders. The underlying assumption is a social contract between society and organization. Corporations have obligations to society because society has provided them with the means to signal its reactions. (Drever, Stanton, and McGowan, 2007)

Legitimacy theory bases on the notion that there is a "social contract" between the organization and the society. According to Lindblom, and Dowling and Pfeffer, an organization can use the public disclosure of information in annual reports to execute the changing social expectations. Certainly this is a perspective that many researchers of social responsibility reporting have adopted. For example, a firm may provide information to offset or counter negative news which may be available in public, or it may simply provide information to tell the interested parties about attributes of the organization which were unknown previously. In addition, organizations may take attention to strengths, for example environmental awards won, or safety initiatives that have been implemented, while sometimes neglecting or down-playing information concerning negative implications of their activities, such as pollution or workplace accidents. (Deegan and Unerman, 2006)

Survival in an organization will be threatened if society observes that it has breached its social contract. Consequently, reporting entities are controlled by community concerns (Brown & Deegan 1998) and values. Values change over time, and reporting entities need to respond to that (Dowling & Pfeffer 1975). Successful legitimating depends on reporting entities convincing society that a congruency of actions and values exists. Management will react to public concern over corporate actions by increasing the level of corporate disclosures in annual reports if it perceives that its legitimacy is threatened by that public concern (Brown & Deegan 1998). (Drever, Stanton, and McGowan, 2007:138)

Stakeholder Theory- to satisfy information needs of company outsiders

In communitarian theory, the corporation is viewed as much more than a set of private arrangements and a public creation. (Gaffikin, 2008:193)

Actually there are two theories in stakeholder theory: an ethics-based theory and a managerial- or positive-based theory. The ethics-based theory mainly recommends how organizations should treat their stakeholders, emphasizes the need to manage particular stakeholder groups, especially powerful ones. Some stakeholders are powerful because they control resources which is important to the organisation's operations and survival. For example, consumers, suppliers, lenders, and regulators are powerful for this reason. (Drever, Stanton, and McGowan, 2007)

Managers have the moral obligation to treat all stakeholder groups equally and they are equally accountable to every stakeholder group in the same respect. It is important to undertake Information and those economic, social and environmental activities expected by the powerful stakeholders. The strategy of managing valuable stakeholders is to provide account on it. Management use such as annual report to informs them of the reporting enterprise's activities.. (Drever, Stanton, and McGowan, 2007)

Institutional Theory- to emulate practices of others firms, to bow to societal pressures or to bow to pressure from firm outsiders

Institutional theory provides a corresponding perspective, to both stakeholder theory and legitimacy theory, in understanding how organizations respond to changing social and institutional expectations and pressures. It connects practices (such as accounting and corporate reporting) of organization to the values of the society in which an organization works, and to a need to keep organizational legitimate. (Deegan and Unerman, 2006)

There are two main dimensions to institutional theory. The first one is termed isomorphism while the second is termed decoupling. Both of them can be of essential relevance to explaining voluntary corporate reporting practices. Dillard, Rigsby and Goodman (2004, p209) explain that 'Isomorphism refers to the adaptation of an institutional practice by an organisation'. As an organization's voluntary corporate reporting is an institutional practice of that reporting organization, the processes by which voluntary corporate reporting adapts and changes in that organization are isomorphic process. (Deegan and Unerman, 2006)

DiMaggio and Powel (1983) set out three different isomorphic processes (processes whereby institutional practices such as voluntary corporate reporting adapt and change). The fist of these is coercive isomorphism where organizations will only change their institutional practices because of pressure from dependant stakeholders. This form of isomorphism is clearly related to the stakeholder theory that a company will use voluntary corporate reporting disclosures to deal with the economic, social, environment and ethical values and concerns of those stakeholders who have the most power over the company. The company is therefore coerced by its powerful stakeholders to take on particular voluntary reporting practices. (Deegan and Unerman, 2006)

So in order to be seen as legitimate by stakeholders and society in general, companies within this industry will have to adopt these practices to institutional pressures. If they do not emulate these practices, they might lose support from powerful stakeholders and society. (Beelitz, 2010)

Positive Accounting Theory- to avoid political costs

According to aggregate theory, there is nexus of contracts between managers and shareholders/debt holders in a firm. So firms provide social and environmental disclosures to minimise political costs. (Beelitz, 2010)

Firms (particularly larger ones) are sometimes under pressure by various groups, for example, by government, employee groups, consumer groups, environmental lobby groups, and so on. Government and interest groups may publicly promote the view that a particular organization (typically large) is generating too much profits and not paying its 'fair share' to other sections of the community (for example, its product prices are too high, the wages it is paying are too low, its financial commitment to community and environmental and community initiatives is too low) (Deegan and Unerman, 2006). These claims would attract attention of regulatory bodies, and they will make some rules to restrain organizations, such as lead to the imposition of additional taxes in the form of 'excess profit' taxes. So companies show social engagement and provide an account on it through corporate social reporting to engage in social and environmental activities to offset these claims to thus reduce political attention in order to reduce or avoid political costs. (Beelitz, 2010)

Ness and Mirza (1991) have argued that particular voluntary social disclosures in an organization's annual report can be explained as an effort to reduce the political costs of the disclosing entities. Ness and Mirza (1991) studied the environmental disclosure practices of a number of UK companies. They believed that companies in the oil industry had developed particularly poor reputations for their environmental practices and that different interest groups could use such a reputation to move wealth away from the firm (and presumably away from the managers). Ness and Mirza argued that if firms voluntarily provide environmental disclosures (typically of a positive or self-laudatory nature) then this may lead to a reduction in future wealth transfers away from the firm. They found, consistent with their expectations, that oil companies provided greater environmental disclosures within their annual reports than did companies operating in other industries. They argued that this was the case as oil companies had more potentially adverse wealth transfers at stake. (Deegan and Unerman, 2006)

Conclusion

There are a number of studies examine the economic consequences of voluntary disclosure from long time ago. And to compare what we explained above, we can sum up that there are potentially three types of capital market affects for firms that make extensive voluntary disclosures: improved liquidity for their stock in the capital market, reductions in their cost of capital, and increased following by financial analysts. These are also many studies found. (Healy and Palepu, 2001)

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