Does the business strategy matter? The mandatory regulation of corporate social responsibility and earnings quality relationship

Abstract

Purpose This study aims to investigate the association between corporate social responsibility (CSR) reporting and earnings management (EM) activities following the Companies Act 2006 Regulation 2013. Further, it examines the moderating role of business strategy in the association between mandatory CSR reporting and EM practices. Design/methodology/approach The study uses a sample of UK-listed companies on the London Stock Exchange from 2006 to 2020. It uses a quantitative approach to examine the main hypotheses. Findings The study finds that the new regulation of CSR reporting has increased the tendency of managers to act opportunistically through real earnings management (REM). Moreover, it finds that the defender business strategy negatively affects the association between mandated CSR reporting and REM but is positively related to accrual earnings management (AEM). Moreover, the results demonstrate that the prospector business strategy does not moderate the association between mandatory CSR reporting and EM practices. Practical implications Policymakers should consider business strategy when designing CSR regulations to prevent unintended consequences, introducing safeguards like stricter disclosure requirements and enhanced auditing standards. For investors and auditors, understanding the factors influencing EM helps make informed decisions and conduct rigorous audits, especially for companies with high CSR reporting levels. Originality/value This study addresses a significant gap in the literature concerning the impact of introducing new CSR legislation (The Companies Act 2006) on EM practices. It enhances our understanding of the role that CSR reporting and functions play in capital markets. Furthermore, it contributes to the CSR literature by highlighting how business strategy influences the relationship between CSR reporting and EM practices.

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