What does the notion of legitimacy and social contract have to do with corporate disclosure policies?
In recent years, corporations have increasingly used their annual reports to voluntarily report information relating to their social actions, particularly those concerning the natural environment (Gray et al.1995). More specifically, corporations have been changing their disclosure policy towards the "triple bottom line reporting", where in addition to economic performance, social and environmental issues of the company's performance are given (Deegan 2002). This has drawn the attention of researchers, and a number of theories have been postulated as to why companies disclose such information. According to Deegan and Rankin (1999), there is increasing evidence that the willingness to make such disclosures may be motivated by an intention to moderate the perceptions of the corporation which are held by important groups within society. Furthermore, organisations might use the disclosures as a defend policy when the organisation's legitimacy is in threat (ibid).
In this study, we will focus on the role of social contracts and organisation legitimacy, and how can these aspects influence managers' policies to corporate reporting. We will first examine the underlying literature of legitimacy theory and social contracts. This will help us understand the importance and the role of social contracts that act as a motivation for managers to voluntary disclose information, and its ability to influence such disclosures. At a later point, we will give empirical evidence supporting (or criticising) our findings.
Legitimacy theory and social contract
Researchers have adapted the "system-oriented theories" to address the issue of corporate disclosures. The system-oriented theory, as explained by the Legitimacy theory and Stakeholder theory, argues that the organisation is influenced and has influence upon the society it operates. Both Legitimacy and Stakeholder theory derive from a broader perspective of political economy theory. As Deegan(2002) explain, political economy theory does not consider company's reports as neutral and biased documents, but rather as a product of the interchange between the corporation and its environment in an attempt to reconcile and accommodate a variety of sectional interests (Deegan, 2000). Similar to the legitimacy theory, stakeholder theory supports the same view of the relationship between legitimacy and corporate disclosures. The theory suggests that expectations of various stakeholders will have an effect on the disclosure policies of the company. Different groups will have different views about how the company should operate, and each group will have a...