Corporate social responsibility and earnings management of South African companies

Abstract

Background: Enron was considered a strong corporate social performer when their infamous accounting scandal emerged in 2000. Literature suggests that companies use corporate social responsibility (CSR) to disguise corporate misconduct. Aim and Setting: This study examines one type of corporate misconduct, namely, earnings management (EM). Prior studies have found significant associations between CSR performance and EM; however, none of these studies controlled for CSR disclosure. This study unbundles the effects of CSR performance and CSR disclosure on EM. To examine the relationship between CSR performance and CSR disclosures and EM of listed South African companies. Methods: A company included on the Socially Responsible Investment (SRI)1 index is used as an indicator of CSR performance. Four measures of CSR disclosure are used. Results and conclusion: The study tests both CSR performance and CSR disclosure against both real earnings management (REM) and accrual-based earnings management (AEM). CSR performance and earnings management: Companies with better CSR performance were more likely to engage in EM through income increasing discretionary accruals. This suggests that managers who inflate earnings may engage in CSR activities to avoid unwanted scrutiny from stakeholders. Companies with better CSR performance were less likely to engage in REM, suggesting that managers with better CSR performance regard the management of earnings through accruals that reverse in the next period less incriminating than managing earnings through actual company resources. CSR disclosure and earnings management: Companies that integrated their CSR disclosures more into their annual report engaged less in income decreasing discretionary accruals, suggesting that managers with incentives to make more CSR disclosures to reduce information asymmetry will also be less inclined to manage earnings.

Doing Good with Creative Accounting? Linking Corporate Social Responsibility to Earnings Management in Market Economy, Country and Business Sector Contexts

“…Our results are obtained after controlling for AEM. The coefficient on the AEM is positive for REM at (p < 0.05), consistent with Cohen et al [44], Kim et al [1], Jordaan et al [40]. In terms of the control variables, REM coefficients are positive and significantly associated on ROA at (p < 0.01).…”

“…Roychowdhury [39] defined REM as management actions that are not in line with normal business practices and with the main objective of meeting certain earnings thresholds. It also reduces the firm's value in the future resulting from reprehensible attitudes from the stakeholders [40]. Real-activities manipulation may cause different problems, such as high uncollectible accounts, an increase in the carrying costs of inventories, and less competitive advantages in the future.…”

“…Their study suggested that the CSR orientation acts as a constraint for REM and in doing so, contributes to the value creation of the company. Similarly, Jordaan, De Klerk, and de Villiers [40] investigated the relationship among CSR performance, CSR disclosures and earnings management through real-activities earnings manipulation and accrual-based earnings management of listed South African companies. Their study divulged that firms with better CSR performance are more likely to engage in earnings management by income-increasing discretionary accruals.…”

“…This study employed multivariate regression models based on the studies of Kim et al [1] and Jordaan et al [40]. The variables that may affect earnings management are controlled during the regression analysis to address the other plausible alternative explanation in the causal relation of CSR on earnings management.…”

“…The firms can select between the two strategies taking into account the attached relative cost [39]. Moreover, this study included corporate governance [1], the return on assets as an indicator of profitability [8,40,63], the market to book ratio [40] leverage [1,8,63,64], and the natural logarithm of market capitalization to reflect firm size [8,11,39,65].…”