Sustainability and Financial Reporting Quality for Listed Manufacturing Companies in Nigeria: The Legitimacy Theory Perspective

Abstract

The universal declaration of a healthy and sustainable environment was adopted by the United Nations (UN) Human Rights Council in 2021 as a fundamental human right; The U.S. Security Exchange Commission in March, 2022 and the European Union's directives in 2014 strengthen the need for all reporting entities to include sustainability reports in their annual reports, for the purpose of improving the quality of financial reporting. Our study examined how sustainability reporting affects the quality of financial reporting from the perspective of legitimacy theory, within the manufacturing sectors in Nigeria as a result of their environmental impact amongst other sectors. The published annual reports of 16 listed manufacturing companies, on the Nigerian Stock Exchange Market, were observed between the financial reporting periods of 2011 and 2020. Sustainability indices were proxied using both the Environmental Disclosure index and Social Disclosure index, while the financial reporting quality was measured using the Accrued earnings management, following the Jones (1991) Model. Using a panel regression analysis, the study applied the Variance inflation factor to test for multicollinearity among the predictors and also employed the fixed effect estimator, as suggested by our Hausman test result, in analyzing the observed data. Our findings revealed that environmental disclosures do not impair the quality of their financial reports. Such impracticability could have resulted from the use of strict environmental regulations by the government and its agencies. However, opportunistic managers could use social disclosure information to dilute the quality of financial reporting. We also found that the profitability performance of manufacturing firm is highly susceptible to impairing the quality of financial reports. We suggest that auditors should be provided with a full-fledge understanding of sustainability reporting to unveil managements' practice of earnings management; the financial reporting council should mandatorily impose the disclosure of sustainability information either as a stand-alone report or as part of the annual reports to allow stakeholders to make relevant economic decisions about the firm; and adequate internal control systems should be in place and should be assessed on yearly basis, as firms continue to operate.