CEO Compensation and Sustainability Reporting Assurance: Evidence from the UK

Abstract

Companies are expected to monitor sustainable behaviour to help improve performance, enhance reputation and increase chances of survival. This paper examines the relationship between sustainability committees and independent external assurance on the inclusion of sustainability-related targets in CEO compensation contracts. Using a sample of UK FTSE350 companies for 2011-2015 and controlling for governance and firm characteristics, we find both board-level sustainability committees and sustainability reporting assurance have a positive and significant association with the inclusion of sustainability terms in compensation contracts. However, there is no joint impact between the voluntary use of independent external assurance and the role of sustainability committees on CEO compensation contracts. Sustainability-related terms in compensation contracts are more likely to be included, and higher compensation is likely to be paid, when assurance is provided by a Big4 firm and when a company operates in a sustainability-sensitive industry. Our findings highlight the potential of assured sustainability reports in assessing CEO performance in sustainability-related tasks, especially when sustainability metrics are included in CEO compensation contracts. Overall, our results suggest companies that invest in voluntary assurance are more likely to monitor management's behaviour and be concerned about the achievement of sustainability goals.

Sustainability reporting quality and post‐audit financial reporting quality: Empirical evidence from the UK

“…Second, providing an independent external assurance of sustainability reports enhances the quality of reporting and mitigates stakeholders' concerns, and the quality of these reports will be greater when assurance is provided by an auditing professional (Al‐Shaer & Zaman, 2016; Simnett, Vanstraelen, & Chua, 2009). Third, companies concerned about sustainability are likely to link executive compensation to sustainability targets to sharpen the focus on sustainability issues and improve the quality of relevant reporting (Al‐Shaer & Zaman, 2019; Berrone & Gomez‐Mejia, 2009; Dalla Via & Perego, 2020). Firms that include sustainability‐related targets in their executive compensation plans can hold their executives accountable for any irresponsible behaviour (Maas, 2018; Maas & Rosendaal, 2016).…”

“…Dalla Via and Perego (2020) find that a stronger emphasis on executive compensation schemes linked to sustainability targets enhances the quality of sustainability assurance. Companies that disclose sustainability performance targets in their annual reports in consultation with a sustainability committee and link such disclosure to executive compensation are more likely to be committed to a third‐party assurance to verify the credibility of such information and thus improve reporting quality (Al‐Shaer & Zaman, 2019; Brown‐Liburd & Zamora, 2014; Eccles, Ioannou, & Serafeim, 2014).…”

“…The establishment of a sustainability committee is considered a capital resource for a firm (Amran et al, 2014), which helps it to exercise oversight of and monitor sustainability strategy and reporting, which will influence any reduction in information asymmetries (Al‐Shaer & Zaman, 2019) and therefore improve reporting quality. Moreover, the assurance of sustainability reports reduces stakeholder pressures because it enhances information credibility and increases reporting quality (Fernandez‐Feijoo et al, 2018).…”

Research on extended external reporting assurance: Trends, themes, and opportunities

“…Al‐Shaer and Zaman (2019) document that both board‐level sustainability committees and independent external assurance have a significant positive association with the inclusion of sustainability terms in CEO compensation contracts. Sustainability‐related targets in CEO compensation contracts are more likely to be included when the company has voluntary assurance, provided by a Big Four firm, and operates in a sustainability‐sensitive industry.…”

“…Due to increased public scrutiny and extensive monitoring, larger firms domiciled in common law countries may be less inclined to obtain assurance due to the high legal liability and litigation risk in these countries (Kolk & Perego, 2010;Simnett et al, 2009). 8 In terms of the choice of the assurance provider, Simnett ) find that size is associated with the decision to use an accounting assurance provider. This may be driven by the perception that accounting assurance providers offer higher quality assurance.…”