Bidirectional effects between organizational sustainability disclosure and risk

Abstract

In organizational communication, sustainability reporting has taken on momentum. However, reporting on sustainability does not ensure the factual application of sustainable practices. It is possible that companies with risky practices increase their sustainability reporting as a window dressing measure, but also that sustainability reporting improves transparency and thus, decreases company risk. Our research is motivated by the conundrum that the reciprocal effects between risk and reporting are not yet fully understood. Therefore, this study explored the bidirectional relationship between sustainability disclosure and risk. The study investigated 59 listed companies from South Africa between 2012 and 2016. Environmental, social, and governmental scores were used to assess the effect of sustainability disclosure on total, systematic, and idiosyncratic risk. Fixed effects panel regressions, statistical modelling, and Granger causality tests were employed for the investigation. Analysis revealed that sustainability disclosure in general—and disclosure on social sustainability issues in particular—reduce systematic risk in subsequent periods. Additionally, other uni- and bidirectional effects were uncovered, suggesting that higher total risk, systematic risk, and idiosyncratic risk nudge companies to report more on social issues in subsequent periods. At the same time, tentative evidence could be found that higher systematic risk leads to less disclosure on governance issues. Overall, disaggregating sustainability disclosure into environmental, social, and governance issues helps getting a fine-grained understanding of its bidirectional relationships with total risk, systematic risk, and idiosyncratic risk. Managers benefit from these insights by better understanding how sustainable practices and disclosing information on them can improve the market's assessment of a company's systematic risk. Investors and regulators can learn from this study which reporting strategies managers typically choose as a response to changing risk perceptions in the market.