Communication about Environmental Information: What Drives the Effect on Income Smoothing as Proxy of Earnings Quality?

Article excerpt

Abstract

The purpose of this paper is to examine the association between corporate environmental reporting and income smoothing made by companies listed in Paris Stock Exchange. We use earnings smoothness as proxy of earnings quality desirable by investors and we measure environmental reporting by index score using content analysis method, the index was composed by items from French law of New Economic Regulation, the global compact, Global Reporting Initiative and new Acts on environmental protection. Our results show a positive relationship between the two variables; firms with high level of environmental reporting are less incited to smooth earnings.

Keywords: Environmental reporting, Income smoothing, French companies

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Introduction

The extent to which company managers should consider non-financial factors in making decisions, rather than focusing only on maximizing financial profit, has been the subject of much researches in current years.

The latest studies, in the field, were interested to financial determinants of accounting results manipulation (political costs, financial reporting ...) and have neglected the non-financial elements impact, such as environmental reporting scope (Gamble et al., 1996; Fekrat, Inclan, Petroni, 1996; Freedman and Patten, 2004; Hasseldine, Salama and Toms, 2005; Freedman and Stagliano, 2008; Cho, Roberts and Patten, 2010; Campbell and Slack, 2011; Elijido-Ten, 2011; Cong and Freedman, 2011; ...).

The main objective of this work is to investigate the relation between income smoothing (SMTH) and environmental reporting. Both concepts are extensively covered in the analytical and empirical literature, in accounting and management. However, their association is studied in an incomplete fashion.

Chalayer (1994, 1995), Jeanjean (2001) and Stolowy and Breton (2003) are the famous studies in the French context that are studied the concept of income smoothing. However, due to imperfect auditing in the real world of economy, managers have incentives to take discretionary actions over reported income to maximize their own benefit. Healy and Wahlen (1999, p.366) argue that income smoothing (as kind of earnings management) exists when managers attempt to manipulate some interested parties or to influence contractual outcomes that depend on reported accounting numbers.

In spite of the focus on of managers on income smoothing and the large literature on why managers tend to smooth earnings, the literature has not provided a link between the roles that managers place on smooth earnings and environmental reporting.

Prior literature and development of hypotheses

Environmental reporting (ENVD)

Environmental reporting can be defined as a concept that describes the various means by which firms communicate information about the effect of the environmental aspects on their activities.

In recent years, there has been a sharp growth of Corporate Social Responsibility (CSR) initiatives meant to upgrade the social and environmental standards of firms beyond the minimal requirements of law.

CSR describes a firm's obligation to protect and improve social and environmental welfare now as well as in the future, by generating sustainable benefits for stakeholders.

Many researchers have investigated the occurrence of corporate environmental disclosure in annual reports. In particular, the frequency and scope of environmental disclosure have increased substantially since the late 1970 and are now relatively common (Patten, 2002). The increase in environmental disclosures has corresponded with an increase in community concern regarding environmental and ecological matters (Hasseldine et al., 2005).

We attempt to study the importance of environmental items as part of CSR; this choice is motivated by the scope of growing damages and ecological catastrophes. Many studies examine the impact of ecological and environmental disclosure on corporate performance and others variables (Hasseldine et al. …