Do corporate sustainability practices mitigate earnings management? The moderating role of firm size

Abstract

The majority of the prior empirical literature that inquired about the direct role of corporate sustainability practices (CSP) as a composite construct in mitigating earnings management (EM) has produced equivocal outcomes. Therefore, this study examines the role of CSP not only as a combined construct but also as its three separate dimensions—social, economic, and environmental sustainability in restricting EM directly and with the distinct moderation of firm size that has rarely been probed in the past. Using the data of 255 Pakistani companies from 2018 to 2022, the estimations of ordinary least squares with panel‐corrected standard errors revealed that CSP and its separate dimensions significantly control accruals‐based earnings management, and all these relationships are further amplified by the moderation of firm size. However, neither CSP nor any of its dimensions, either directly or with the moderation of firm size, have a significant role in reducing real‐based earnings management. The additional analysis also validated these findings but only for large companies rather than small companies after splitting the sample based on the firm's size. The findings endorse the stakeholder theory and ethical perspective but oppose managerial opportunism in Pakistan. Besides enriching the existing body of knowledge, this research also offers several important implications for the theory, methodology, practice, and policy.