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Does corporate governance enhance the appreciation of mandatory environmental disclosure by financial markets?

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Abstract

This paper investigates if mandated disclosure about environmental risks and obligations enhances the information set available to analysts and how a firm’s governance affects such a relation. Government policies mandating such disclosure are potentially a tool to force firms to change their environmental practices, especially if financial markets pick up on the released information and exert pressures upon corporate management for further actions. We focus on 172 non-financial firms subject to mandated environmental disclosure. Results show that mandated disclosure enhances financial analysts’ information set, as proxied by their forecast consensus and overall uncertainty. Analysts seem able to assess if there are inconsistencies between a firm`s disclosure and its environmental impact. Moreover, mandated environmental disclosure substitutes for weak corporate governance in enhancing analysts’ information set. In other words, mandated environmental disclosure does not relate to analysts’ information set in the presence of good governance but does for firms with weak governance. Hence, mandatory disclosure may act as an environmental governance mechanism, either complementing or substituting for a firm’s own governance.

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Notes

  1. Continuous disclosures refer to the obligation for firms to disclose on a timely manner any material changes in various aspects of their operations, governance, financial situation, etc. identified by regulators.

  2. There is scant research on environmental risks disclosure. For example, Sinclair-Desgagne and Gozlan (2003) develop a theoretical model for environmental risk disclosure but their focus is on voluntary disclosure.

  3. A firm’s environmental impact is measured as either its environmental performance (based upon its pollutant emissions) or its industrial sector, to reflect the fact that some sectors exhibit a greater environmental footprint than others.

  4. The annual information form encompasses a firm’s annual report, its Management Discussion & Analysis (MD&A) as well as its financial statements.

  5. The theoretical predictions from the model developed by Sinclair-Desgagne and Gozlan (2003) about voluntary environmental risks disclosure are also consistent with the above prediction.

  6. We exclude the financial sector since the environmental issues they face are largely associated with their clients’ operations (e.g., purchase and sale of contaminated property or development of large-scale projects may give rise to credit and reputation risk). This avoids the problem of double counting environmental disclosures.

  7. A coding manual documenting coding instructions as well as standardized coding worksheets were prepared in advance. Each coder applied the following coding sequence: (1) independent identification of the occurrence of items relative to the different coding categories; (2) independent coding of the items according to quality level of content and (3) timed reconciliation on a subset of company reports. The coders were intensively trained in applying coding instructions and in using the coding worksheets. They were unaware of the research hypotheses. Disagreement between coders mostly happened at the beginning of the coding process (essentially the first 20 firms). A researcher reconciled coding disagreements exceeding 5 % of the highest total score between the two coders. Smaller disagreements were resolved by the two coders themselves.

  8. Considering that stock markets suffered from a major downturn in 2008 (e.g., the S&P/TSX lost more than 40 %), we preferred not to rely on the Capital Asset Pricing Model. As an alternative to the cost of equity, we use the measure of implied cost of capital proposed by Easton (2004).

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Acknowledgments

We acknowledge financial support from Autorité des marchés financiers (Québec), Chair in Financial and Organizational Information and the Stephen A. Jarislowsky Chair in Corporate Governance. All usual caveats apply.

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Authors and Affiliations

  1. ESG UQAM, Downtown Station, P.O. Box 8888, Montreal, QC, H3C 3P8, Canada

    Denis Cormier

  2. Brock University, St. Catharines, Canada

    Pascale Lapointe-Antunes

  3. John Molson School of Business, Concordia University, Montreal, Canada

    Michel Magnan

  4. CIRANO, Montreal, Canada

    Michel Magnan

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  1. Denis Cormier
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  2. Pascale Lapointe-Antunes
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  3. Michel Magnan
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Correspondence to Denis Cormier.

Appendix 1: Environmental disclosure coding grid

Appendix 1: Environmental disclosure coding grid

Environmental liabilities

Reported liabilities

 Identify and describe each environmental liability (description, methodology, assumptions, uncertainties)

 Explain the significance of the liability and identify the F/S line items affected by the liability

 Discuss changes made to liability estimate during past 2 years

 Identify segment of the issuer’s business affected and discuss the liability on a segment basis

Contingent liabilities

 Identify and describe each environmental liability (description, methodology, assumptions, uncertainties)

 Explain the significance of the liability and identify the F/S line items affected by the liability

 Discuss changes made to liability estimate during past 2 years

 Identify segment of the issuer’s business affected and discuss the liability on a segment basis

Past and pending lawsuits

 Description

 Amounts

 Likelihood or settlement

 Impact on current and future operations

Asset retirement obligations

General description

Reconciliation

Key assumptions

Undiscounted cash flows

Timing of payments

Credit-adjusted risk free rate

Facts and reasons for not being able to calculate the FV of an ARO

Financial and operational effects of environmental protection requirements

Current financial year

 Capital expenditures

 Earnings

 Competitive position

Future years

 Capital expenditures

 Earnings

 Competitive position

Environmental policies fundamental to operations

Description

Steps taken to implement

Environmental risks

Description

Risk management policies and procedures

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Cormier, D., Lapointe-Antunes, P. & Magnan, M. Does corporate governance enhance the appreciation of mandatory environmental disclosure by financial markets?. J Manag Gov 19, 897–925 (2015). https://doi.org/10.1007/s10997-014-9299-4

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