The IIRC’s global ambitions: does culture affect the need for one global
reporting format?
A study on the effect of cultural characteristics on the investment decision and information use based on information provided by an integrated report
Author: Robert van ‘t Land Student number: 11925116
Thesis supervisors: dr. ir. B. A. C. Groen & dhr. prof. dr. F. H. M. Verbeeten 25-06-2018
Word count: 20701 words
MSc. Accountancy and Control, specialization Accountancy Faculty of Economics and Business, University of Amsterdam
Statement of Originality
This document is written by student Robert van ‘t Land who declares to take full responsibility for the contents of this document.
I declare that the text and the work presented in this document is original and that no sources other than those mentioned in the text and its references have been used in creating it.
The Faculty of Economics and Business is responsible solely for the supervision of completion of the work, not for the contents.
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Abstract
It has been argued that investors are demanding more information relevant for decision making. A call that the International Integrated Reporting Council (IIRC) attempts to satisfy with their integrated reporting initiative. Although there are clear benefits to integrated reporting for large organizations (i.e. reputational benefits) and for the large accountancy firms (i.e. new market with large potential), there is less evidence that integrated reporting satisfies the information needs of users. This study does not attempt to solve that debate, but tries to add another factor to the discussion: culture. Culture may affect the information needs of users and thus make some of the information that integrated reports provide obsolete in certain cultures, whereas that type of information could be of great value in other cultures. It finds that cultural dimensions do have an effect on the information usage of investors, and that cultures with high levels of uncertainty avoidance are more likely to invest based on an integrated report, providing some support for the added value of integrated reporting.
TABLE OF CONTENT
1. INTRODUCTION _________________________________________________________________________________ 5 2. LITERATURE REVIEW __________________________________________________________________________ 9 2.1FINANCIAL REPORTING __________________________________________________________________________ 9 2.2SUSTAINABILITY _______________________________________________________________________________ 10 2.3INTEGRATED REPORTING _______________________________________________________________________ 12 2.3.1 The Initiative _______________________________________________________________________________ 13 2.3.2 The Capitals _______________________________________________________________________________ 13 2.3.3 The rise of Integrated Reporting _____________________________________________________________ 14 2.3.4 Pros and cons of Integrated Reporting _______________________________________________________ 15 2.3.5 Disagreement on usefulness _________________________________________________________________ 162.4CULTURE ______________________________________________________________________________________ 18
2.4.1 Theoretical framework ______________________________________________________________________ 19 2.4.2 Long-term orientation versus short-term orientation ___________________________________________ 21 2.4.3 Individualism versus collectivism ____________________________________________________________ 22 2.4.4 Masculinity versus femininity ________________________________________________________________ 24
3. RESEARCH METHOD ___________________________________________________________________________ 26 3.1EXPERIMENTAL SURVEY AND CASE DESCRIPTION _________________________________________________ 26 3.2SAMPLE _______________________________________________________________________________________ 26 3.3THEORETICAL CONSTRUCTS AND ANALYSIS ______________________________________________________ 27 3.4VALIDITY OF CASE AND CULTURE ________________________________________________________________ 30 3.5DESCRIPTION OF SAMPLE _______________________________________________________________________ 31 3.6NORMALITY OF VARIABLES _____________________________________________________________________ 33 4. RESULTS ________________________________________________________________________________________ 35 4.1DESCRIPTIVE STATISTICS _______________________________________________________________________ 35 4.2HYPOTHESIS TESTING __________________________________________________________________________ 38 4.5.1 Investment decisions ________________________________________________________________________ 38 4.5.2 Use of information__________________________________________________________________________ 40 4.5.2.1 Financial performance information use _____________________________________________________ 40 4.5.2.2 Sustainability performance information use _________________________________________________ 42 4.5.2.3 Social performance information use ________________________________________________________ 43 4.5.2.4 Governance performance information use __________________________________________________ 45 4.5.2.5 Robustness check _________________________________________________________________________ 47
4 5.1THEORETICAL IMPLICATIONS ___________________________________________________________________ 49 5.2LIMITATIONS __________________________________________________________________________________ 53 5.3FUTURE RESEARCH_____________________________________________________________________________ 54 5.4PRACTICAL IMPLICATIONS ______________________________________________________________________ 54 REFERENCES _____________________________________________________________________________________ 56 APPENDIX I – SURVEY AND CASE________________________________________________________________ 60 APPENDIX II – REGRESSIONS CASE VALIDITY _________________________________________________ 67 APPENDIX III – MULTICOLLINEARITY STATISTICS – VIF AND TOLERANCE _________________ 68 APPENDIX IV – HYPOTHESIS TESTING (A-HYPOTHESES) _____________________________________ 69 APPENDIX V – HYPOTHESIS TESTING (B-HYPOTHESES) ______________________________________ 71 APPENDIX VI – ROBUSTNESS TEST ______________________________________________________________ 79
1. Introduction
Every day investors buy and sell about 1 billion shares on the New York stock exchange (NYSE, 2018). These investors risk their capital in exchange for an uncertain return on their investment. They base their investment decisions on various strategies, such as holding stock for a longer period of time, actively trading, or indexing. These strategies have one thing in common: the investor always needs to be fed information to take an efficient decision (Shroff et al., 2013). Traditionally, one of the main sources for information is the annual report. These are assured by auditors as a safeguard for information asymmetry problems. However, mere financial reports are no longer deemed sufficient, because stakeholders are supposedly demanding more information. This led to attempts of improving information provision, such as the Critical Audit Matters paragraph being reported in the auditor’s report (Christensen et al., 2014), and discussions about rules-based versus principle-based reporting standards (Agoglia et al., 2011). These attempts try to provide the users of financial statements with as much decision-relevant information as possible, for example by giving more insight into the audit procedures, or by giving the company some discretion to report what they find important. Overall, these initiatives and changes should lead to high quality information for decision making.
This study investigates a relatively new concept of reporting: integrated reporting. Integrated reporting is a phenomenon that, instead of only disclosing standard financial information, incorporates information on six types of capital in the firm’s report. It is thought to enhance informativeness of a company’s reporting, and to give better insight into a firm’s value creation in the short, medium, and long-term (International Integrated Reporting Council, 2017). This should lead to high quality information provision, and thus to more efficient decision making by investors, which will decrease the cost of capital of firms (Shroff et al., 2013).
Integrated reporting is an initiative by the International Integrated Reporting Council (IIRC), it builds on a trend of increased awareness and reporting of sustainability issues in the corporate world. As mentioned above, the IIRC attempts to improve reporting on these issues by incorporating them in one report with all other types of information, rather than using separate reports for sustainability and financial issues. With this scope, the IIRC attempts to create the global standard for reporting.
However, there are still several issues surrounding the integrated reporting initiative and reporting on sustainability issues. The first is that firms have clear incentives to report on sustainability issues. It has been proven that reporting this type of information can increase
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firm value by creating a more sustainable image (e.g. Krzus, 2011; Reimsbach et al., 2017). Accountants also benefit from new types of reporting. It creates a new market for assurance, which can be a great potential revenue stream for these firms (O’Dwyer et al., 2011). Although the initiative claims to have the “long-term investor” in mind, the IIRC is comprised of these two types of firms, creating an incentive to serve their own needs and to “push” the idea rather than it being welcomed by investors (Flower, 2014).
Following this line of argument, scholars demonstrate that the “long-term investor” that integrated reporting claims to serve, does not really exist yet (Beck et al., 2017; Humphrey et al., 2017). This may cause some skepticism about whether investors are truly served by this new type of reporting. Furthermore, it would not be the first time discrepancy is identified between standard setters and reporting initiatives on the one hand, and users of financial statement information on the other hand. Recent articles show evidence of conflicting opinions between standard-setters and users related to fair value accounting (Georgiou, 2017), and evidence that even standard setters from different cultural backgrounds have very different opinions on the role of reporting (Pelger, 2016). This may cause one to doubt the feasibility of the ambition to create one global standard that serves users worldwide, which the IIRC attempts to carry out.
This study measures whether a person’s cultural characteristics have an effect on how he or she values the extra information provided by an integrated report. The thesis bases itself on the aforementioned finding that standard setters from different cultural backgrounds have different ideas about the goal of reporting. It is thus no stretch that users from different cultural backgrounds may have different information preferences too. Therefore, it hypothesizes that people with different characteristics or cultural backgrounds, may take different investment decisions based on the information provided in an integrated report. If this theorization is found to be true, it may have great implications for the global ambitions of the IIRC. One could argue that companies could adapt their reporting and information disclosure to their investor’s needs. For example, if a company has an investor base that highly values non-financial information, the company must disclose this type of information. However, reversely, if their investors do not use non-financial information, there may be no need to disclose it at all.
Based on prior literature that has identified aspects of culture that affect decision making in a business context, the following cultural characteristics are expected to affect information use and decisions of investors: (1) the long-term orientation of a person, (2) the degree of
individualism of a person, and (3) the level of masculinity of a person (Hofstede, 2003; 2010). For example, a person with a low score on the dimension ‘long-term orientation’ may value the extra long-term information provided by integrated reporting less than a person from a culture with a high score on this dimension. Moreover, whether a person has an individualistic or a collectivistic view of the firm may affect whether he values reporting to additional stakeholders other than the shareholders of the firm. Finally, a low level of masculinity can make people care more about working conditions instead of financial rewards for work, and thus care more about certain types of sustainability information.
The hypotheses are tested with an experimental survey. The survey asks respondents to evaluate a company named Beta, based on their integrated report. The participants are asked how likely they are to invest in Beta, and what information they used to come to this decision. Their personal characteristics are measured with their nationality. The nationality is used as input for a cultural database created by Hofstede (2003, 2010). Besides, to guarantee the validity of the these cultural scores, the respondents are asked personally about their cultural preferences. Overall, this leads to the research question of this study being as follows: ‘What is the effect of cultural characteristics on an investor’s information use and investment decision based on an integrated report?’
The empirical evidence reveals that culture does have a significant effect on the information use of respondents in the sample. Most notably, people from an individualistic culture greatly favor financial performance information over other types of information in contrast to people from a collectivistic culture. Likewise, feminine cultures are shown to care more about non-financial information than masculine cultures. The thesis also provides some proof that people with high levels of uncertainty avoidance are more likely to invest based on an integrated report. The answer to this question contributes to the integrated reporting and the sustainability literature by showing the effects that a person’s cultural characteristics have on the types of information one favors, and the investment decision they take. The findings of this thesis show, for example, that people from different cultural backgrounds (i.e. a collectivist culture) use information from an integrated report differently than people from an individualistic background. This could have implications for companies located in these countries. For example, corporations that have large numbers of investors with a collectivist cultural background, may want to put a larger amount of resources in disclosure of sustainability information than corporations with a more individualistic type of investors.
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Furthermore, the thesis shows that other accounting research may have to take culture into account before generalizing their ideas. A large number of accounting studies use data from American or British corporations. However, this study demonstrates that culture can severely impact the generalizability of findings. Therefore, the large focus on these two countries harms the generalizability of findings in accounting studies. This finding opens up a large number of research opportunities. An example that closely follow the line of argument from this thesis is a research question about exactly what type of information may be the most important in certain types of cultures.
The thesis starts with a literature review that introduces reporting and how it solves information problems between investors and managers. Then it demonstrates what non-financial reporting adds to the picture by outlining developments in sustainability reporting. Next, the paper shows how integrated reporting attempts to combine all types of information into one source of information. Moreover, discrepancies between investors and standard setters are introduced in order to explore the feasibility of the global ambitions by the IIRC. Then, culture is explored as one of the causes of differences in information needs and investment decisions. The literature chapter ends with the development of hypotheses. Chapter three describes the research method, followed by chapter four outlining the empirical results of the survey experiment. Finally, chapter five concludes with a discussion, implications and limitations of the study.
2. Literature review
To gain an understanding of why using an integrated report for investment decisions may lead to different decisions than using a financial report, and why culture may have an effect on this relationship, it is important to understand the reasons for reporting. This chapter will begin by briefly exploring the history of and reasons for financial reporting. The next section will continue with what non-financial reporting could add to the picture. The most important concept within non-financial reporting is sustainability, and therefore, the concept and development of sustainability will be introduced in this section. The chapter continues by describing how non-financial reporting comes to fruition within integrated reporting. After this, situations of discrepancy between users of (financial) statements and standard setters are described. The goal of this section is to introduce situations in which users and standard setters may not be in agreement, which could lead to unnecessary costs of reporting. The final section connects this to culture, a factor that is hypothesized to affect user’s information preferences and investment decisions, thus, leading to another potential situation of different expectations between groups of users and standard setters.
2.1 Financial reporting
Investors participating in the stock market risk their capital for an expected return higher than their input. They seek out firms with the highest potential returns in order to optimize return on their investments. However, investors do not have perfect information about a firm’s operations or financial standings. This is often referred to as an information problem (Healy and Palepu, 2001). Information problems can be decreased by firms sharing their private information with outside investors. Through corporate disclosure, the information asymmetry between investors and managers can be lowered. Financial reporting is one type of corporate disclosure commonly used for this purpose. Financial reports provide a picture of the latest reporting year and can be used to confirm prior expectations or to predict future returns. After taking the investment decision, the investor expects the chosen firm and its managers to create the largest possible return for him. However, managers have their own incentives and may waste some of the capital at his or her disposal. This is referred to as the principal-agency problem. With corporate disclosure such as the financial reports, the investor can confirm that the managers used their capital in a satisfactory manner or re-evaluate their investments. Overall, it is argued that without corporate disclosure the capital market cannot function efficiently (Healy and Palepu, 2001).
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Because of the aforementioned reasons, listed firms in many countries are mandated to deliver an annual report. The report is audited by independent auditors, whose services provide investors with assurance that the company’s financial statements are in accordance with the applicable reporting standards. These reporting standards have as a goal to provide high quality information, thereby decreasing information and agency problems (Healy and Palepu, 2001; IFRS, 2018).
As mentioned before, these efforts greatly increase the capital market’s efficiency. Without high quality and reliable information about corporations, investors would be unwilling to invest. However, not all value of corporations is accounted for in the financial statements. This is shown by the often large difference between the total market cap and the value of the assets or shareholders equity on the balance sheet of a company. For example, Apple’s 2016 annual report shows a shareholder’s equity value of $128,25 billion, but a total market cap of $776,61 billion (Apple, 2017). Therefore, it could be argued that this financial report does not provide a complete picture of the firm. One way of closing this gap is by improving accounting standards. The International Accounting Standards Board (IASB) and the Financial Accounting Standards Board (FASB) are constantly attempting to improve standards to better represent financial transactions, for example by forcing firms to put operational leases on the balance sheet in the near future (IFRS, 2016). Another way to close the gap between the market cap and the total shareholder’s equity is looking at non-financial reporting (IIRC, 2017).
Non-financial reporting focusses on issues that are not typically found in a financial report. This additional disclosure of information may be good for investors, as it makes the information available more complete. However, providing additional information may cost the firm by informing competitors or by requiring new software systems to collect data, so called proprietary costs and preparer costs. The main form of non-financial reporting is reporting on sustainability issues. Therefore, the following paragraph will introduce the concept and development of sustainability reporting.
2.2 Sustainability
The concept of sustainability is starting to play a major role in the corporate world. This could be attributed to the larger observability of environmental costs of doing business, and environmental problems at large, for example the dependency on non-renewable energy (Campbell, 2005). This in turn, leads to several reasons for corporations to consider “going green” (Bansal and Roth, 2000). These reasons vary from institutional pressures, to
competitive reasons, and from legitimation reasons to ecological responsibility (Bansal and Roth, 2000; Campbell, 2005). Furthermore, important institutions, such as the United Nations (UN) are calling upon a broader audience to participate in bringing solutions to environmental problems. For instance, during the United Nations Conference on Environment and Development, the concept of sustainable development was turned into a public policy goal. The participants of the conference called on ‘non-state actors’ to take part in this development (Rowbottom and Locke, 2016). More recently, the UN developed the Sustainable Development Goals (SDGs), which is a collection of goals that is intended to cover a broad number of issues, varying from social issues such as poverty and gender equality, to environmental issues such as climate change. Multinationals have incorporated these SDGs in company objectives in various ways. They are frequently mentioned on websites and annual reports, for example. However, the extent to which corporations truly adhere to these objectives is unclear. This lack of accountability may be caused by the fact that there is little to no mandatory disclosure regulation on sustainability performance (Rowbottom and Locke, 2016).
The above development in sustainability awareness, in combination with the lack of mandatory disclosure or accountability standards on sustainability, has led to the creation of various voluntary reporting guidelines and standards. Some examples of these developments and institutions are: Global Reporting Initiative (GRI), Triple Bottom Line (TBL), and the Sustainable Balanced Scorecard (Hubbard, 2009; Rowbottom and Locke, 2016).
A common theme among these initiatives is the focus on a broader range of stakeholders, rather than only focusing on the shareholders of the company. These two commonly distinguished views of the firm can be described as follows. The more traditional shareholder view of corporations, as the name implies, only views the owners or shareholders of the company as important. This means that the company has a duty to put the owners’ needs first by maximizing value of the company. On the other hand, the stakeholder view of the firm believes that all parties related to the firm are important. This theory includes entities such as employees, (local) communities, government bodies, political groups, and non-government organizations as important stakeholders for the firm. It believes that firms have responsibilities to these stakeholders and that it has to incorporate them in the purpose and goals of the firm (Freeman et al., 2004).
Aforementioned reporting initiatives commonly attempt to achieve accountability to this larger range of stakeholders by focusing on three dimensions of sustainability: social development,
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environmental protection, and economic development (Hubbard, 2009). The social dimension focuses on fair and equal opportunities to human beings and employees. The central point of the environmental dimension is the planet and its maintenance for future generations. And finally, the economic dimension is about sustainable profit while considered the costs of all types of capital.
Due to the fact that sustainability information incorporates non-financial information, it is commonly of a more qualitative, forward-looking nature. This means that the information may provide a richer description of the issues at hand, but it also makes it harder to compare among companies, let alone different industries (O’Dwyer et al., 2011). The difficulty to confirm faithful representation of a firm, combined with the aforementioned organizational benefits that come with a sustainable image (Bansal and Roth, 2000; Campbell, 2005), leads to investors being quite skeptical when evaluating sustainability information.
Although the literature demonstrates that sustainability information can affect investor’s decisions (Rikhardsson and Holm, 2008; Reimsbach et al., 2017), the issues around reliability of information remains important. Therefore, multinationals that are voluntarily disclosing sustainability information attempt to boost the legitimacy of their messages by assuring non-financial information (O’Dwyer et al., 2011). The reasons for this growing market are thus twofold. As mentioned above, corporations see potential reputational benefits in assuring their sustainability information (Simnett et al., 2009). On the other hand, assurance companies see large potential revenue streams (O’Dwyer et al., 2011). However, as mentioned before, information is harder to verify and therefore more costly to assure, this creates a high potential cost for firms and thus a reason to investigate whether these expenditures are necessary. Nonetheless, the effects of the added credibility from assurance are clear (Reimsbach et al., 2017). Assurance of sustainability information leads to more positive perceptions of investors and other stakeholders of sustainability information, and so a larger weighting of sustainability information in investment decisions (Reimsbach et al., 2017). These positive effects seem to be in accordance with the needs for assurance of corporations and give them a greater incentive to pay for it. One way to make it easier to gain assurance of their non-financial information is standardizing the information with the help of the integrated reporting initiative, as introduced in the next paragraphs.
2.3 Integrated Reporting
gaining major traction (Humphrey et al., 2017). Because this initiative makes up the core of this thesis, the concept, purpose, and potential consequences of this reporting initiative will be explored further in the following paragraphs.
2.3.1 The Initiative
The IIRC, the initiator of the integrated reporting initiative, is a global coalition of various actors, such as regulators, investors, standard setters, and the accounting profession. It presents itself as a group with the common interest of improving corporate reporting standard. It attempts to do so by promoting the integrated reporting initiative. The final goal is to establish integrated thinking as a mainstream business practice, with integrated reporting becoming a global standard.
According to the integrated reporting website (IIRC, 2017), integrated reporting is a process that results in reports about value creation in the short, medium and long-term. It is meant to do so by incorporating six types of capital. Together, these capitals address a combination of qualitative and quantitative information that provides a completer picture of the value creation process over time than a standard financial report does. The six types of capital are categorized as follows: financial, manufactured, intellectual, human, social and relationship, and natural capitals (IIRC, 2013). These capitals are explained in the following paragraph.
2.3.2 The Capitals
Firstly, financial capital refers to the financing of a corporation, namely, debt and equity. Secondly, manufacturing capital covers man-made and production-oriented equipment and tools. These are separated in short-term inventories and long-term assets like plant and equipment. Thirdly, intellectual capital is seen as something that incorporates the future earning potential of a corporation. It deals with R&D and innovation, for instance. Fourth, the human capital refers to the set of individual capabilities, knowledge, skills and experience of employees that is present within the organization. Fifth, social and relationship capital includes relationships within and outside of the organization. Within the integrated reporting framework this is represented as, for example, the way the company manages its supply chain or the relationship with its customers. Finally, natural capital talks about the added value of natural resources that the company uses in its production process.
It is important to note that the framework and its developers emphasize the interplay between the types of capital (IIRC, 2013). For instance, humans within the organization use the available set of human, social and relationship, and manufactured capitals to turn forms of natural
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capital into financial capital. Interrelatedness, thus, plays an important role in integrated reporting, and is stated to be the main added value of the framework in comparison to other separate initiatives (IIRC, 2013).
2.3.3 The rise of Integrated Reporting
Various strategies have been applied to drive the rapid rise and popularization of the integrated reporting initiative (Humphrey et al., 2017). For instance, the authors demonstrate that the integrated reporting initiative has attempted to contrast itself from the – at that time – fractured field of reporting. It did so by emphasizing flaws in several other reporting initiatives and by presenting itself as the solution to some of these flaws. For example, the IIRC argued that integrated reporting is better for investors, because it satisfies the information needs of investors in one report and enhances the value of sustainability information (IIRC, 2017). At a later stage the IIRC attempted to build alliances and a coalition of powerful stakeholders by making agreements with various actors of importance, such as the IASB (Humphrey et al., 2017). This allowed them to grow and garner support. Humhrey et al. (2017) state that the popularization of the integrated reporting initiative could largely be contributed to this strategy of involving various stakeholders. The authors give no judgment about whether this involvement is a good thing or not, however, other authors have expressed their concerns regarding the involvement of other stakeholders in the initiative. Flower (2014), for example, claims that the involvement of a large number of stakeholders is the reason that the IIRC abandoned its original objective of promoting sustainability accounting. The author blames the inclusion of multinational enterprises and the accounting profession, and goes on to call the IIRC a “story of failure [and a] ‘victim of ‘regulatory capture’” (Flower, 2014, p. 1), by which he means to say that the IIRC could no longer move against the wishes of the powerful stakeholders it included in its governing council. Nevertheless, as Humphrey et al. (2017) demonstrated, the initiative may never have grown as fast as it did without the support of these stakeholders. These two papers combined could make one question whether the IIRC has been trading their initial aims of promoting sustainability accounting for the popularization and growth of the initiative. This could be further supported by earlier findings that integrated reporting focuses on the favorable aspects for both large corporations and the accounting profession.
Humphrey et al. (2017) conclude their paper by stating that, although the initiative has gained a lot of traction through the use of these strategies, it still requires support from the “long-term
investor” to be successful. This group of users is the core target of the reporting initiative. The authors go as far as stating that the user of integrated reporting still has to be “created”, thus stating that these long-term investors do not exist yet, and that the initiative could fail if the final user is not found (Beck et al., 2017). Overall this fairly harsh judgment of the brief history of the integrated reporting initiative may give rise to more skepticism about the feasibility of the global ambitions expressed by the IIRC.
2.3.4 Pros and cons of Integrated Reporting
The literature has outlined various pros and cons of integrated reporting. These can be distinguished in benefits (and costs) for the companies adopting the initiative, and those for investors.
Eccles and Saltzman (2011) claim that there are three lines of benefits: (1) internal benefits, such as better resource allocation, lower reputational risk, and higher engagement with stakeholders, (2) external market benefits, such as meeting the needs of investors and reputational benefits by appearing on sustainability indices, and (3) managing regulatory risk, like being prepared for future global regulations and perhaps playing a role in setting standards for these regulations. Besides, Serafeim (2015) has shown that firms that adopt integrated reporting have more long-term investors. This could reduce short-term performance pressures and give management more space to reach their goals. Finally, Reimsbach et al. (2017) have demonstrated that combining financial and non-financial sustainability information in one report may cause a so called ‘halo effect’. In their experiment they found that non-assured sustainability information that was incorporated in an integrated report was frequently perceived as assured, and thus valued higher than non-assured information in separate sustainability reports. This would decrease some of the issues surrounding assurance of sustainability information, and could be called a benefit of an integrated report to the company. Aside from benefits for the firm, studies have found that investors do benefit from information provided by integrated reports. Reimsbach et al. (2017) have shown that investors do incorporate sustainability information in their decisions. Moreover, Eccles and Serafeim (2011) have demonstrated that investors are more aware of environmental, social and governance information these days. This may be further enhanced by making the information available in one report. This is supported by James’ (2014) statement that investors now demand more comparable, relevant, and reliable sustainability information. Furthermore, Serafeim (2015) finds that investor activism on sustainability issues can lead to integrated reporting adoption,
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and in turn to an increase in the number of long-term investors. On top of these findings are the claims by the IIRC about better decision making for investors due to additional available information.
There are, however, also potential downsides of adoption of integrated reporting. The IIRC’s claim of enlightened investors is contradicted by the observation that high level investors generally have a very high level of sustainability information acquisition, regardless of format (Reimsbach et al., 2017). This may indicate that putting information in one report may have little benefit for high level investors. Secondly, as mentioned before, the costs of assurance of forward-looking, qualitative information is high (O’Dwyer, 2011). These costs vary from costs of reporting to litigation risk and cost of testing whether the information faithfully represents the company. Furthermore, Eccles and Serafeim (2011) have found that companies see a high degree of ‘investor indifference’ towards non-financial information. They claim that some companies are not sure about the added value of sustainability information if investors are only focused on short-term financial results. These findings are supported by the prior-mentioned more recent articles by Humphrey et al. (2017) and Beck et al. (2017), who found that there is still no real “long-term investor” that could use the report.
Overall, these findings are interesting, because there are some contradictions with the claims of the IIRC. The initiative presents itself as the solution for various problems (i.e. the fractured field of reporting). However, the literature shows little evidence that investors actually encounter these problems and want them to be solved. On the other hand, benefits of integrated reporting have been outlined. Curiously, despite the fact that the IIRC claims shareholder enlightenment as a goal, these largely seem to be focused on the benefits for the adopting enterprises, rather than for the investors. There is little to no consensus about whether the shareholder enlightenment truly exists. The literature has shown that additional information about sustainability performance can be beneficial for investors, however, this may not be completely valid for integrated reporting because of the visibly shifting aim of the IIRC’s objectives (i.e. change from sustainability promotion to enlightening long-term investors). Concluding, there is a difference between the claimed focus of the IIRC, and the real needs of investors that they claim to serve. This discrepancy must be studied well, because it could lead to unnecessary costs of adoption for corporations.
2.3.5 Disagreement on usefulness
(financial) reporting, and the objective has changed over the years from detecting fraud to informing investors (Brown, 1962; Andon et al., 2015). These days, the primary goal is providing high quality information to users. However, even a concept as seemingly simple as users and related goals is not always agreed upon. Some argue that information must be useful for decisions, for forward-looking purposes and predicting future returns. Others argue that there is also a need for the stewardship role of accounting. This could be used by private investors and banks to evaluate whether the company makes good use of their capital. In Pelger’s (2016) case study on the development of a joint conceptual framework between the FASB and IASB, he demonstrates how actors from different countries have completely different opinions about this issue. The paper shows that American members of the standard setting bodies argued that valuation usefulness is the only role of accounting, and that there is no place for a stewardship role of accounting. Various European members, on the other hand, emphasized the importance of the stewardship role of accounting. Both parties attempt to serve investors and users, however, they have their own preferences in how to achieve this goal. The above example of disagreement between standard setting boards can be extended to the standard setter and user relation. For instance, it has been demonstrated that there is a large difference in the perceived added value of fair value accounting between on one side investors, and on the other side the standard setters of the FASB and the IASB (Georgiou, 2017). This indicates that although in this case the standard setters agreed on the value of fair value accounting, and that they both claim to have the best interest of users in mind, the users themselves may perceive this differently. Georgiou (2017) posits this could be caused by users having a lack of interest or motivation to challenge the changes.
Above findings all conclude that the goal of (financial) reporting is not generally agreed upon. Different stakeholders of reporting have different opinions on what is important, and there are even differences to be found among different countries (Pelger, 2016). Furthermore, even if users disagree, they may be unwilling or unable to argue against the changes (Georgiou, 2017). Therefore, based on these findings, one could question whether the high costs of adoption of integrated reporting are necessary for every company. It could be argued that information should be disclosed based on user preferences. The next paragraph will further explore how a person’s preferences can differ, and how these could affect information needs. It will do so by investigating the effects of culture.
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2.4 Culture
Culture affects many things, such as the way people behave, look at the world, the things they eat and buy, and so on. It is sometimes defined as the way a society understands its environment (Roth and Moorman, 1988). It programs the minds of members of a group, and so distinguishes these members from other groups or categories (Hofstede et al., 2010). Overall, it may be clear that culture can separate a group and its preferences from other groups. Culture is a commonly studied issue in fields like psychology, sociology, and business. In business, it is shown that cultural differences can severely affect business performance. For example, multinationals may carry out different marketing strategies in different countries and some companies even sell different products among different cultures. Because it directly affects the way people think about various things in life, it is a factor that significantly affects business performance. Accounting research is, frequently due to data availability, commonly focused on large American or British corporations. Some research, however, has shown that not all accounting topics transfer well. For example, a study by Merchant et al. (2011) has shown that compensation types vary across different countries. The authors found that American compensation systems tend to use a lot of formula-based bonus compensation. Dutch companies, on the other hand, tend to use higher base salaries, and make less use of bonuses. Finally, Chinese companies are shown to use more discretionary-bonus systems. These findings show that cultural differences could have important implications for the application of findings in accounting research in different contexts, and that we should be careful generalizing conclusions to different cultures.
In the sustainability literature, Eccles and Serafeim (2011) have demonstrated that there are cross-country differences in both the supply of sustainability information by corporations and the demand for sustainability information by investors. For example, they show that European countries and Brazil score relatively high on providing sustainability information, and that many Asian countries and the United States and Canada score relative low on providing sustainability information. The authors dedicate this to the fact that the United States and Canada are countries that are more skeptical about the importance of sustainability information in their strategies, and to the short-term nature of their capital market. It could be argued that these are cultural effects, however, there is even stronger evidence that culture could affect sustainability information provision. For example, sustainability information is more frequently assured in stakeholder-oriented countries than in their shareholder-oriented counterparts (Simnett et al., 2009). Likewise, García-Sánchez et al. (2013) show that countries
with collectivist and feminist cultures are leading in integrated reporting adoption.
As for investor interest, Eccles and Serafeim (2011) find that the provision of and the demand for sustainability information do not match up. Countries like the Netherlands and Brazil have high levels of information provision, but fairly low levels of interest in the information. Contrarily, countries like Canada and Japan have lower levels of information provision, but higher levels of interest. These findings may demonstrate that integrated reporting has large growth opportunities in some countries, whereas the investments in integrated reporting may be going to waste in other countries. Eccles and Serafeim (2011) state that there may be a need to educate users to use sustainability information in countries in which there is low interest, however, it may be cultural backgrounds that cause the lesser interest in these countries. Because a large number of studies have shown the effects of culture on various types of human preferences, it seems logical to assume that different cultures may demand different types of information. This assumption is further backed by some of the findings presented in the previous paragraphs. Furthermore, it could make people weight information differently, and so allow them to come to different decisions. Meanwhile, the integrated reporting initiative is often being promoted as a universally transferable concept. It has global ambition and aims to become the future global reporting standard. However, based on above implication of culture, the necessity of this ambition could be questioned.
This study will attempt to reveal whether people from different cultures perceive the information provided by an integrated report differently. Not only will it test how likely people from different cultures are to take an investment decision in a firm based on integrated reports, it will also attempt to test on what information they based their decision. With these findings, it could be determined whether culture has an effect on the type of information that people from different cultures demand, and whether culture affects their decision making.
2.4.1 Theoretical framework
The theory used for this thesis is the cultural dimensions theory as developed by Hofstede (2003, 2010). His theory is a six-dimensional model of culture that describes the culture of a country. The scores on the six dimensions describe the cultural values of members of this culture, which affects their preferences and their behavior. Of course, not all members from a country or culture will behave exactly as described by the model, but it gives a good indication of general trends among a cultural group or society. Hofstede (2003, 2010) measures each of his parameters on a 1-100-scale for a large number of countries, and has conveniently stored
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them in a database on his website. By displaying scores for different countries, this comparable research allows relative comparison between two or more countries. The scores by itself do not say a whole lot about a country, however, comparing scores allows for determination of how countries differ from each other. The combination of comprehensiveness and accessibility makes the database a great source for cultural research (Soares et al., 2007).
Although there are other ways of cultural measurement, none of these come close to the comprehensiveness and accessibility of using a framework like Hofstede’s (2004, 2010). The first method would be capturing dimension in survey responses. However, as Hutzschenreuter et al. (2016) argue, there is no uniform way of applying this method in the literature, which harms comparability between cultural research. Another method would be the use of cross-country comparisons as demonstrated in economic research. However, these frameworks are developed to compare countries on more dimensions than just culture (Ghemawat, 2004; Hutzschenreuter et al., 2016). Ghemewat’s framework, for example, measures culture as one of the various factors that cause distance between countries, along with factors such as administrative, geographical, and economic dimensions of distance. Due to this broader focus, the measurement basis of culture is relatively less in depth. This is shown by Ghemawat (2004) using languages, ethnicities, religions, and social norms as examples of cultural measurements. Overall, other frameworks lacks both the depth and the focus on behavioral factors. Prior literature, therefore, recommends the use of the cultural dimension theory (Soares et al., 2007; Hutzschenreuter et al., 2016). For this reason, Hofstede’s database (2003, 2010) will be used to measure cultural difference between respondents in this study. Its great comparability and accessibility are the driving factors for this choice.
The dimensions distinguished by Hofstede are: power distance, individualism, masculinity, long-term orientation, uncertainty avoidance, and indulgence.
Hofstede (2003, 2010) explains his cultural dimensions as follows: power distance refers to relative degrees of power within a culture. In countries with a high power distance, members accept and expect that power is not equally distributed. Communities with a lower power distance, on the other hand, strive for equality. Individualism is contrasted with collectivism. The higher the score on the individualism dimension, the more the society is supposed to look after themselves and their direct family only. Collectivist countries, on the other hand, belong to a group and are not only judged as individuals. Masculinity represents a society in which achievements are highly valued. These societies aim for success, material rewards, and heroism.
There is a strong sense of competition among members of the society. This is contrasted to feminism, which represents a low score on the dimension. Feminine societies are described as caring more about cooperation, caring for the weak, and looking for quality of life. They focus on consensus rather than competition. The long-term orientation dimension is contrasted with a short-term focus. Long-term oriented societies are forward-looking, with a strong focus on education, for example. Next, uncertainty avoidance is about how members of a society deal with uncertainty and ambiguity. Cultures with a high score on this dimension may attempt to avoid it, whereas cultures with a low score may be more relaxed in circumstances of uncertainty. Finally, the indulgence dimension is about ‘enjoying life’. A culture with low scores on this dimension is called one that is restraint. Restraint societies are fairly regulated and suppress pleasures, whereas indulgent cultures do not.
For this thesis, the most relevant cultural dimensions are (1) long-term orientation versus short-term orientation, (2) individualism versus collectivism, and (3) masculinity versus femininity. The other cultural dimensions are solely used as control variables in this thesis. The reason for this is that despite the fact that links between the other dimensions and various business-related decisions have been hypothesized (e.g. Garcia-Sánchez et al., 2013), the literature shows little to no empirical evidence to suspect a significant relationship between these dimensions and ethical values of an individual, or other components that may indicate a difference in the information needs or potential evaluation of an integrated report.
The context in which the three dimensions will be used is explained in the following paragraphs. 2.4.2 Long-term orientation versus short-term orientation
Firstly, in the context of integrated reporting, long-term orientation is a relevant cultural dimension. Hofstede explains that societies have different priorities when it comes to maintaining links with the past and dealing with challenges of the present and future. People with a high score on the long-term orientation dimension are more focused on the future. They are willing to sacrifice short-term success in order to prepare for future success. People with a low score on this dimensions are more short-term oriented. These people value present day goals over long-term objectives. Short-term oriented people are also claimed to value tradition as opposed to change (Hofstede, 2003, 2010).
Prior research has successfully linked to the long-term orientation to customer preferences and business decisions. Donthu and Yoo (1998) have demonstrated that customers with a lower score on the long-term orientation dimension have higher service quality expectations than
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customers with a high score. They argue that this is because people with a long-term orientation accept ‘multiple truths’ and are willing to give organizations time to improve. Short-term oriented customers, on the other hand, expect prompter service and are not willing to wait for improvement. Similarly, van Everdingen and Waarts (2003) studied the effect of a country’s long-term orientation on the adoption rate of Enterprise Resource Planning (ERP) systems. They found that countries with a high score on the long-term orientation dimension are more likely to adopt innovations, and they thus were more likely to adopt ERP systems.
Above evidence on the influence of the long-term orientation dimension on decisions and preferences adds to the belief that someone’s orientation of time can affect the evaluation of an integrated report. The relationship between the cultural dimension and the initiative can be explained as follows: integrated reporting attempts to distinguish itself from standard financial reporting by incorporating the medium and long-term value creation. Sometimes, long-term value creation can come at the expense of short-term profits. However, with the help of an integrated report, the company can better explain its decisions. Because people with a high score on the term orientation dimension are willing to sacrifice short-term profits for long-term gains, they may be more interested in the information provided by the report than people with a low score. On the other hand, people with a low score on this dimension may not require this additional information, as they are more focused on achieving their present day goals. In investing, short-term goals often mean financial returns on investment. Therefore, all information on top of the financial reporting of the company, may be of lesser importance to these investors. This would make additional information provided by integrated reports obsolete. Furthermore, since integrated reporting is quite a drastic change, it could be argued that more traditional short-term oriented people are less interested in the initiative.
The above discussion leads to the following hypotheses:
H1a: Respondents with a high score on the long-term orientation dimension are more likely to invest in a company with a better non-financial performance, even if this goes at the cost of financial performance.
H1b: Respondents with a high score on the long-term orientation dimension will make more use of non-financial information provided by integrated reports.
2.4.3 Individualism versus collectivism
Secondly, the individualism dimension may have an effect on a respondents’ evaluation of integrated reports. Hofstede describes individualistic cultures as ones where people are
supposed to look after themselves and their direct family only. People in individualistic cultures are looked at as individuals and only responsible for their own actions. They are supposed to make their own choices and pursue their own interests. On the other hand, in collectivist societies people can be linked to larger groups. They belong to a group and are not only judged as individuals, but also as member of that particular group. This may affect the way they behave, as their actions may not only harm them, but also others. They feel responsible for these actions and may be more open to benefits to society at large.
Prior research has investigated the relationship between individualism and various business related factors. Vitell et al. (1993) created a framework with propositions of the effect of culture on ethical decision making. They theorize that people from highly individualistic cultures care more about themselves than other stakeholders and are thus more likely to act unethically for personal gain. These propositions have been tested in the literature, and it has been found that individualistic people are indeed more likely to prioritize their own gains compared to collectivistic ones, that they are less likely to follow corporate codes of ethics, and that the score on the individualism dimension can be linked to different levels of personal integrity. (Lu et al., 1999; Christie et al., 2003). Moreover, scholars have found that individualism can affect service quality expectations, ERP adoption and innovation levels (Donthu and Yoo, 1998; van Everdingen and Waarts, 2003). These effects of the individualism dimension on personal preferences and ethical values support the idea that this cultural dimension can affect the use of sustainability information in integrated reports. Finally, García-Sánchez et al. (2013) demonstrate that countries with a higher collectivist culture have higher integrated reporting adoption rates. They claim that this is due to stakeholders in these cultures putting higher pressure on corporations to adopt the initiative. This finding provides even greater support for the hypothesis that differences in the individualism dimension could affect the use and evaluation of integrated reports.
Based on the above analysis of the literature, I hypothesize that individualism can have an effect on the use and evaluation of integrated reports. People from individualistic cultures have been demonstrated to have weaker personal integrity and to care more about their personal gains. Therefore, they are expected to care more about the monetary benefits of their shares, and thus they want organizations to maximize shareholder value. Because of this, they are less interested in sustainability information that is related to ethical ways of doing business. People from a collectivistic culture, on the other hand, care more about corporate codes of ethics and have been shown to pressure corporations to adopt integrated reporting (Garcia-Sánchez et al.,
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2013). Therefore, they are assumed to care more about the information in these reports and to evaluate corporations with positive sustainability information as a better one. The overall impact of the organization matters more to these people, and this will make them more likely to invest in a corporation that behaves in an ethical way.
This discussion leads to the following hypotheses:
H2a: Respondents with a low score on the individualism dimension are more likely to invest in a company with a better non-financial performance, even if this goes at the cost of financial performance.
H2b: Respondents with a low score on the individualism dimension will make more use of the additional information provided by integrated reports.
2.4.4 Masculinity versus femininity
The final dimension that is expected to have an effect on information use and investment decision of individuals is the masculinity versus femininity dimension. Masculine cultures represent ones where society strives for success, material rewards, and heroism. Feminine societies, on the other hand, are thought to be more caring about the weak, to believe in cooperation, and to look for higher quality of life. Furthermore, feminine societies tend to look for consensus rather than competition.
The literature demonstrates that this cultural dimension affects several important business related variables. For example, Vitell et al. (1993) have proposed that high levels of ambition and striving for personal material success may make people engage in unethical behavior. Furthermore, they posit that feminine cultures are more likely to perceive things as ethical problems or issues. This may have a great effect on whether people consider ethical issues in integrated reporting in their decision making. It has been demonstrated that people in masculine cultures care more about their self-interests and put less value on company and fellow employee interests (Lu et al., 1999). Finally, Garcia-Sanchez et al. (2013) have shown that integrated reporting adoption is higher in countries with a feminine culture. They argue that this is because stakeholders in these countries were able to influence corporations to adopt. Overall, the combination of the effect that the masculinity dimension has on ethical values and integrated reporting adoption provides some support for the hypothesis that differences in this dimension could affect the use and evaluation of integrated reports.
Based on the above review of the literature I hypothesize that the masculinity dimension has an effect on the information use and investment decision of individuals based on an integrated
report. Someone from a feminine culture has been shown to perceive more things as an ethical problem or dilemma and may therefore be more likely to use sustainability information in integrated reports. Furthermore, the importance they put on caring about the weak, cooperation, and quality of life may give rise to a larger need for sustainability information of a social type. Masculine societies, on the other hand, care more about their self-interests and material success, they may therefore care less about non-financial information that is provided by integrated reports.
This discussion leads to the following hypotheses:
H3a: Respondents with a low score on the masculinity dimension are more likely to invest in a company with a better non-financial performance, even if this goes at the cost of financial performance.
H3b: Respondents with a low score on the masculinity dimension will make more use of the additional information provided by integrated reports.
The theoretical framework is summarized below in figure 1.
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3. Research method
3.1 Experimental survey and case description
The research question is answered using an experimental survey. The survey contains a case in which the respondents have to evaluate a firm called Beta. More specifically, they have to indicate how likely they are to invest in the firm in question. The questions about the investment decisions are used to test the a-hypotheses. After taking the investment decision, some questions are asked about what information they used to come to this decision. For example, a question about how important sustainability information was in forming the investment decision. The information that is derived from this type of questions is used to test the b-hypotheses.
To provide the respondents with information about the firm, the survey starts off with a case. The case includes a brief description of Beta, a list of key performance indicators, and an integrated report of this firm. The case used in this study is based on materials used by Reimsbach et al. (2017) in their case study on the effect of assurance of information in the context of integrated and separate reporting. Numbers and financial statement categories in the report are based on the KPN (2017) financial report to accurately represent the telecom market. Overall, Beta is a firm that performs average in financial terms, however, after recently changing strategy it now has a greater focus on sustainability. The company currently performs great at the core components of the integrated report, namely, sustainability, social and governance. Additionally, the average performance will be demonstrated by showing some competitor information as a source for comparison. By providing information in this manner, the importance of investor’s experience levels is decreased, because every participant has equal access to relative performances. They no longer have to base these on prior knowledge from the industry. Therefore, extra information provided by integrated report should be the driving factor in differences between participant’s investment decisions.
The survey and the case used have been included in Appendix I. 3.2 Sample
The primary objective of the study is to evaluate the effect that cultural characteristics could have on an investment decision based on an integrated report. Because the cultural characteristics considered in this study are as follows: (1) long-term orientation versus short-term orientation, (2) individualism versus collectivism, and (3) masculinity versus femininity, respondents from several cultural backgrounds must be represented in the sample. Furthermore,
because respondents are asked to take an investment decision, some prior knowledge about investing and with financial or integrated reports is necessary.
To meet the second condition, the survey asks respondents for their field (i.e. economics, business, finance) and about their prior experience with investing. Although not all students in economics and business fields are investors, and therefore, the sample is not hundred percent representative of the population, students in these fields do have the required knowledge to evaluate financial reports.
Respondents are collected through my network. Dutch respondents are found at my internship and the Master’s program in which I am currently taking part. Foreign nationals are acquired through a broader range of means such as classmates, former classmates, friends of friends, social media such as Facebook and LinkedIn, and Amazon MTurk.
3.3 Theoretical constructs and analysis
The theoretical constructs are measured with the survey. The dependent variables Investment decision and Information usage are asked for directly in the survey after presenting the case. The independent variable culture is measured with the help of Hofstede’s cultural dimensions. Respondents fill in their nationality, after which the database can be used to link cultural values to these nationalities.
There are two potential problems with the use of Hofstede’s dimensions theory. Firstly, it is possible that individuals may have different personal values than the cultural values categorized by Hofstede. This would make findings harder to generalize and has to be acknowledged as a flaw of the study. This problem will be tackled by incorporating questions to measure culture within the survey (Hofstede 2003, 2010; Hutzschenreuter et al., 2016). The survey will thus contain questions about a respondent’s long-term orientation, degree of individualism and their score on the masculinity dimension. The responses to these questions will be used to verify whether the cultural values of my dataset and the original database of Hofstede are similar. The main focus here is not obtaining the exact same scores, but the relative scores between countries should be similar. The questions used are based on Hofstede’s (2003, 2010) original survey, because these offer the highest level of validity.
The second problem is that Hofstede’s cultural dimensions theory is a relative comparison theory. The values, ranging from 1 to 100, do not mean anything by themselves. Therefore, some scholars (e.g. García-Sánchez et al., 2013) turn the cultural dimensions into dummy variables. This is achieved by comparing each country’s individual scores relative to the mean
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cultural score of the sample. For example, if the mean individualism versus collectivism dimension score would be 50, then countries scoring 75 would be classified as individualist, receiving a value of 1. On the other hand, countries with a score of 49 would be classified as collectivist, taking a value of 0. Using this method creates a stronger contrast between countries, and it removes the methodological flaw of comparing scores that do not have an inherent meaning. Because not every scholar applies the above method. The dummy variables will be used as a robustness test.
Control variables are also incorporated in the survey. The survey asks respondents for their age, gender, investment experience, working experience, and familiarity with integrated reporting. Furthermore, because cultural dimensions that were not hypothesized to have an influence on the dependent variables could have an effect, they are incorporated as control variables as well. The study is executed with the use of a multiple regression analysis. The a-hypotheses are tested with two different independent variables. The first is the investment decision question, in which respondents were asked to show how likely they are to invest based on a 1 to 7 scale. The second independent variable that is tested is the investment amount question, in which respondents were asked how much money (out of 5000 euros) they would be willing to invest. It is expected that these regressions show great overlap, as people who are unwilling to invest, should, in theory, answer 0 euros.
The b-hypotheses are tested with each of the separate “information use” outcome variables and thus separate regression analyses. Each regression uses the outcomes of the question “to what extent did you use x type of performance information?”, answered on a likert-scale, as dependent variable. These regressions should show whether a respondent’s cultural values affect the type of information that is considered important.
However, by using the flat outcomes of the questionnaire no information is acquired about the relative information use. The above regressions will show to what extent respondents care about each individual type of information. It will not show whether respondents use financial performance more than other types of information. It is possible, for example, that one respondent answers 6 on each category, whereas another respondent answers 6 for one category and 2 for all the others. These respondents would both be incorporated as a “6” in the first regression. Therefore, the relative performance information use will be derived from the four different categories in the survey. This method is explained with an example in table 1:
