Mandated Environmental Liability Recognition and the Voluntary Disclosure of ESG Information

Abstract

We examine whether and how the recognition of a mandatory on-balance-sheet environmental liability, Asset Retirement Obligations (ARO), i.e., environmental clean-up costs of normal operations, creates a positive spillover to the firm’s voluntary ESG-related disclosures. We hypothesize that when firms are compelled to recognize larger AROs that the effort required for a more accurate estimate will spill over into more complete voluntary disclosure of a broad range of ESG outcomes. Empirical evidence supports this hypothesis. In a sample of environmentally sensitive industries, we find that firms with larger AROs disclose more information about their ESG activities, including the subset of environmentally focused disclosures. We also find that firms with a downward bias in their ARO estimates provide fewer voluntary ESG disclosures. We then examine a series of increases in the ARO liability induced by regulatory mandates, and find that following such increases there are upticks in ESG voluntary disclosure. Finally, we also document predictable cross-sectional variation in the relation as a function of plausible mechanism variables. Our evidence suggests that accounting resources used to estimate mandatory ARO liabilities induce spillovers into more complete voluntary ESG disclosures.

Keywords: Asset Retirement Obligations, AROs, Voluntary Disclosure, ESG, Environmental Accounting

JEL Classification: M41, M48, Q51