ESG disclosure and corporate financial irregularities – Evidence from Chinese listed firms

Abstract

This empirical study investigates the influence of environmental, social, and governance (ESG) disclosure on financial irregularities of Chinese listed firms and tests the moderating role of the intensity of internal and external supervision. We index the extent of ESG disclosure rather than corporate social responsibility performance from the perspective of non-financial information disclosure. Our results show that ESG disclosure decreases corporate financial irregularity risks and helps to mitigate information asymmetry. Under better internal and external supervisory conditions, the inhibiting effect of ESG disclosure on financial irregularity is significantly stronger, compared to poor supervisory conditions. We investigate the power of formal regulation systems by exploiting regional marketization and legal environment indices and incorporating the low-carbon-city pilot policy as an exogenesis regulatory impact, showing that a better formal regulation environment contributes to the inhibiting effect. We propose an “accounting channel” proxied by earnings management showing that ESG disclosure can alleviate opaqueness and improve information transparency to constrain financial irregularities. This study highlights the positive effect of ESG disclosure and the resultant improvement of internal control, public scrutiny, and government regulation in practice, suggesting that ESG disclosure complements actions to depress financial irregularities.