Background on significance of transparency and sustainability
You are required to write a 2000 word critical report that discusses the possible benefits of preparing an integrated report as well as its limitations.
The significance accorded to both transparency and sustainability has witnessed significant growth since the advent of the 21st century which has left sizable impact in the manner business is conducted (Couldridge, 2014-2015). In the earlier days, the main concern for the business was shareholders’ wealth maximisation but now a paradigm shift has happened towards the stakeholder model where sustainability is given significance so that value can be created over the long term (Hoque, 2017). Owing to this concern is sustainability, the need for the non-financial information has grown in the last two decades which has meant that the traditional reporting is no more sufficient considering the limited flexibility that it offers to accommodate non –financial performance parameters. Additionally, in the ongoing time, it has been seen that value has shifted from financial capital to intellectual capital and hence this needs to be captured and reported. Therefore, it is required that the non-financial information can be captured in various financial reports and shared with the intended users (Adams, 2013).
A useful tool in this regards is integrated reporting since it can capture not only financial performance parameters but also for non-financial aspects. It refers to the practice of corporate communication which involves dissemination of an “integrated report’ on a periodic basis which highlights value creation carried out by the firm over a particular time. Thus, this reports contains various aspects related to the organisation such as governance, strategy, performance and prospects as these could over a period of time leas to creation of value (Adams, 2013). The relevance of integrated reporting becomes evident from the IIRC survey in which most of the businesses considered it as a valuable tool which can capture the non-financial aspects of the business. In this background, this report aims to critically highlight the key benefits that can potentially arise through the use of integrated reporting along with highlighting the potential challenges therein.
One significant benefit that tends to arise from integrated reporting is in the form of corporate behaviour change which makes the organisation more sensitive to sustainability concerns. As per King (2011), the integrated reporting commences from this realisation by the top management that there are sustainability risks associated with the business owing to the adverse effects the operations of the company have on environment as well as society. Once this realisation happens, then company strategy is altered so that sustainability concerns are addressed by suitably modifying the operations of the company. Additionally, integrated reporting also serves as a vital communication tool especially with stakeholders since through this the board is able to highlight how the business is being more sustainable (Armbester et al., 2011).
Introduction to Integrated Reporting as a useful tool
Yet another mode through which change in corporate behaviour can kickstart is through the integrated report preparation. This report could highlight the key weaknesses in the corporate strategy being currently adhered to and also would lead to the changes required in corporate behaviour for rectifying the existing situation (King, 2011). The corporate behaviour change can go a long way in enabling a harmonious integration of business decision making and sustainability. Thus, in such a scenario, a top to down change in observed where a paradigm shift in the organisational culture is brought which tends to long lasting and hence brings about a tangible change in regards to making the business practices more sustainable and periodically reporting the same (Hoque, 2017).
A key component of corporate governance is corporate reporting as plays a pivotal role in reduction of agency costs incurred for monitoring of the management, The concerns over fraud financial reporting have grown in the last two decades fuelled by the huge losses that investors have suffered in the various corporate frauds that have occurred and hence integrated reporting can play an enabling role by improving the overall corporate governance framework of the organisation (Simnett et al., 2009). Integrated reporting tends to have two main elements namely remuneration and governance. Hence, integrated report tends to put a detailed focus on the overall strategy which can develop a link of the above aspects with sustainability. Additionally, this report also outlined the mechanism of decision making that is adhered to by the board and the top management.
The action driven change that is brought in both the organisational culture, governance and systems tends to ensure higher compatibility with the key aspects of integrated reporting. Further, this also ensures that there is greater flow of information towards the stakeholders from the company especially with regards to the value system and philosophy particularly related to sustainability concerns (Hoque, 2017). This is quite unlike traditional reporting where the shareholders are given more preference over stakeholders and hence information needs of the other stakeholders except shareholders are not considered while preparing financial reports. The information disseminated by the company on a periodic basis tends to enhance the underlying confidence that stakeholders have in the company with regards to corporate governance and also underlying business philosophy (Adams, 2013).
Additional benefit that is reaped from integrated reporting is from the higher stakeholder engagement which in turn leads to improved corporate reputation (Bebbington et al., 2008). This engagement has gained significant importance in the recent past as there has been an overall realisation that verbal commitments are not sufficient and instead valid evidence needs to be provided with regards to commitment to society and environment which is highlighted in the form of integrated report. This trend has also resulted in voluntary measures capturing non-financial performance popping up so that the company could present a scorecard of their non-financial performance as well (IRCSA, 2011). On the basis of this information, investors are able to make rational decisions, which is particularly true for long term investors for whom the sound corporate governance framework is of exceptional importance. Also, integrated reporting as a practice would help the company to respond to critical sensitive issues backed by higher transparency and reputation within stakeholders. This makes integrated reporting s critical tool in scenarios where high degree of uncertainty tends to exist (Serafeim, 2015). The IIA or Institute of Internal Auditors indicates that integrated reporting allows the company to enhance the communication and engagement with a wider set of stakeholders without having to prioritise them (TIIA, 2015).
Benefits of Integrated Reporting for corporate behavior change
This corporate reputation enhancement if carried forward can result in number of advantages. For instance, this would enable the company to lower the talent acquisition and retention costs, potentially enhance the selling price, decrease in the finance cost and provide an upper hand in negotiation with regards to terms of engagement (Dhaliwal et al., 2011). The relation between greater organisational transparency and lower cost of capital has been illustrated by Integrated Reporting Committee of South Africa or IRSCA (IRSCA, 2011). Further, empirical research has indicated that this reduction is the cost of capital is quite prominent for those companies that have low analyst coverage (Zhou, 2014). This reduction in the cost of capital potentially tends to higher reported earnings due to lower interest outflow and hence can lead to appreciation in the stock price making it desirable for investors. The management of performance is also improved through the use of integrated reporting. This is mainly on account of better management of non-financial capital which are not recognised in traditional reporting frameworks (Hoque, 2017). In sharp contrast to these traditional frameworks, integrated reporting facilitates the identification of key capitals which when recognised can also be managed better through the use of strategic decision making. These decisions over the long term tends to lead to better corporate performance and management of key assets which provide vital edge to companies over peers those that continue to deploy traditional reporting methods (Adams, 2013).
If the above premise is true and better performance management is ensured owing to better capital management, then it should be clearly apparent in terms of valuation. In accordance with the study carried out by Lee and Yeo (2016), there is a significant positive association between the valuation for firm and disclosures related to integrated reporting. In their study, they found that firms which performed better on integrated reporting had delivered better market returns. The study conducted by Zhou et. al. (2017) highlighted that when integrated reporting is used as a communication tool, then the alignment level between integrated reports and earnings forecast error tend to be negative which implies the useful nature of the information communicated though integrated report.
The myriad benefits associate with IR are highlighted above, however, the adoption of integrated reporting is not without the limitations and challenges pertaining to implementation. The first critical challenge is that assurance services for integrated reporting are woefully short. For performing the financial performance audit, a host of options exist with regards to assurance services on offer. However, this does not represent the case with integrated reporting and hence there are issues in relation to the accuracy of contents contained in these reports. Also, the reporting framework in this regards is also devoid of clarity due to which non-financial performance related accounting standards are still evolving. In order to develop a globally recognisable framework in relation to integrating reporting, efforts are being made by the IIRC but have not led to any key development till now (Adams, 2013). Since acceptable standards are lacking, hence the assurance services in the integrating reporting avenue are also lacking since the auditors do not want to be held liable for the information contained in these reports. Besides, there is the need for the audit and assurance personnel to update their skills so as to be well verse and skilled to handle integrated reporting but due to limited demand currently, this investment is not justified for these firms at the moment (Simnett and Huggins, 2015).
Corporate governance impact of Integrated Reporting
Besides, owing to lack of globally acceptable standards, at the moment, the performance comparison with regards to integrating reporting across firms belonging to a given sector may not be feasible. Additionally, the integration of both financial performance measures and non-financial performance measures is an inherently difficult task. The traditional reporting system is quite mature owing to global recognition and enhancement and is must easier to use and capture (IRCSA, 2011). Also, the data source which is used for integrated report preparation may come from a source which lacks reliability and may keep altering. Therefore, certain concerns are raised with whether this information should be put into use for investment related decision making. As a result, some of the positive effects of integrated reporting can witness some erosion. Besides, there is inherent cost that is required to make a shift to integrated reporting along with the enabling infrastructure for measuring and reporting the non- financial performance which tends to be a valid concern for the smaller firms especially under the current environment when this framework is not mandatory to adopt (Adams, 2013).
Conclusion
In accordance with the critical discussion carried out above, it has emerges that are key benefit on account of switching to integrated reporting. One of the more crucial ones is the corporate behaviour modification which allows sustainability to be incorporated in the business decision making and also the key long term goals. Further, this can also help in increasing stakeholder engagement and prove to be a stepping stone for better transparency, improved corporate governance leading to enhancement in reputation. Additionally, there is performance improvement in the company as the management of capitals tend to improve. Also, there are additional indirect benefits in the form of lower financing cost and higher share price.
However, there are certain concerns related to integrated reporting with the prime one being lack of assurance services coupled with no acceptable reporting standard which tends to make the information contained in integrated report unreliable and non-comparable with other firms. Besides, the integrating report is much more complex and resource consuming. As a result, it makes sense to conclude that IR at the moment is essentially futuristic as the supporting infrastructure is still being developed. Once there is progress on this front, then there would be a drop in the issues related to integrated reporting and adoption rates would improve even on voluntary basis.
References
Adams, C. (2013), Understanding Integrated Reporting: The Concise Guide to Integrated Thinking and the Future of Corporate Reporting. London: DoShorts.
Armbester, K., Clay, T., Roberts, L. (2011), Integrated Reporting: An Irreversible Tipping Point. Accountancy SA, April. 29-31.
Bebbington, J., Larrinaga, C., Moneva, J.M. (2008), Corporate social reporting and reputation risk management. Accounting, Auditing and Accountability Journal, 21(3), 337-361.
Cheng, M., Green, W., Conradie, P., Konishi, N., Romi, A. (2014), The international integrated reporting framework: Key issues and future research opportunities. Journal of International Financial Management and Accounting, 25(1), 90-119.
Couldridge, D. (2014-2015), Investors and Integrated Reporting. Accountancy SA, Volume Special Reports. 32-34.
Dhaliwal, D.S., Li, O.Z., Tsang, A., Yang, Y.G. (2011), Voluntary nonfinancial disclosure and the cost of equity capital: The initiation of corporate social responsibility reporting. The Accounting Review, 86(1), 59-100.
Hoque, M.E. (2017) Why Company Should Adopt Integrated Reporting?, International Journal of Economics and Financial Issues, 7(1), 241-248.
IRCSA. (2011), Discussion Paper: Framework for Integrated Reporting and the Integrated Report. South Africa: The Integrated Reporting Committee of South Africa.
King, M. (2011), Foreword. In Integrated Reporting Committee, (IRC) Framework for Integrated Reporting and the Integrated Report, Discussion Paper. South Africa: Integrated Reporting Committee of South Africa.
Lee, K., Yeo, G. (2016), The association between integrated reporting and firm valuation. Review of Quantitative Finance and Accounting, 47(4), 1221-50
Serafeim, G. (2015), Integrated reporting and investor clientele. Journal of Applied Corporate Finance, 27(2), 34-51.
Simnett, R., Huggins, A.L. (2015), Integrated reporting and assurance: Where can research add value? Sustainability Accounting, Management and Policy Journal, 6(1), 29-53.
Smith, S.D.S. (2015), Effect of Integrated Reporting on Financial Performance, S.l.: An Unpublished Dissertation of DBA: Capella University
The Institute of Internal Auditors (TIIA) (2015), Enhancing Integrated Reporting: An Internal Audit Value Proposition. France: European Institutes of Internal Auditors
Zhou, S. (2014), The capital market benefits of IR. PhD Thesis, University of New South Wales.
Zhou, S., Simnett, R., Green, W. (2017), Does Integrated Reporting Matter to the Capital Market? ABACUS, 53(1), 94-132
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