Social capital, corporate governance, and earnings management: cross-country evidence

Abstract

This study investigates the impact of social capital on earnings management and the moderating role of corporate governance in shaping that relationship. We explore how the interaction between social capital and other mechanisms, namely culture and formal institutions, affects earnings management, based on the concept that corporate governance can strengthen the impact of social capital on earnings management by reinforcing ethical norms and accountability. Using data from 14 countries, we present evidence that social capital has an effect on earnings management beyond the influence of cultural attributes. Moreover, the impact of social capital is particularly significant in firms with low corporate governance quality. Further analysis shows that the influence of social capital on earnings management is heightened in countries exhibiting low levels of individualism, power distance, and indulgence, and in countries with a code law system, lower ownership concentration, and higher disclosure quality. Our study contributes to the literature by demonstrating, using a cross-country context, that social capital constrains earnings management practices. It also highlights the additional impact of social capital beyond cultural dimensions, emphasizing its distinct role as a norm-enforcing mechanism with sanctions, separate from attributes such as individualism or uncertainty avoidance. Furthermore, the study offers new insights into the interplay between social capital and corporate governance in shaping corporate financial practices.

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ORCID for Hesham Bassyouny: orcid.org/0000-0002-7393-3544

ORCID for Giota Papadimitri: orcid.org/0000-0002-1857-6097

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