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What does the notion of legitimacy and social contract have to do with corporate disclosure policies

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What does the notion of legitimacy and social contract have to do with corporate disclosure policies? Legitimacy Theory relies on the belief that a social contract exists between corporations and society. The theory assumes that a corporation does not have any right to operate or access resources, and is only legitimate when the value system of the corporation is congruent with that of society. In cases where disparity arises, the legitimacy of corporations will often be threatened, and such situations attract repercussions such as legal restrictions, restrained resources or reduced demand for products. For instance, in the 1990s, Nike was penalised for using sweatshops to manufacture sports apparel. Society and most importantly customers were against the use of child labour and substandard working conditions which led to massive protest and boycott of their products. Given the cost of non-conformance, corporations engage in strategies to ‘legitimize’ their activities in the eye of society. This process, known as legitimation involves disclosures either through annual reports or public announcements. Such disclosures act as tools to educate or manage the perception of society, and thus disclosure policies are frequently established to meet society’s norms.

Apart from that, policies relating to regularity and degree of disclosure have also been affected by the notion of legitimacy. Recently, companies have increased the amount of disclosures in attempt to appear more transparent and aligned to the norms of society. This is especially true in times of persecution whereby corporations increase the amount of information disclosed to deflect negativity and demonstrate how the organization is fulfilling social expectations. This is consistent with a study by Deegan and Rankin which observed that prosecuted entities disclose significantly more information in years of prosecution. Last but not least, the race for legitimacy has also led corporations to include voluntary disclosures as part of their policy. For instance, the banking industry has observed a substantial rise in voluntary disclosure in relation to their credit risk after the Euro-zone debt crisis. In conclusion, corporate disclosure policies today are driven towards legitimizing the actions of a corporation. It is also noteworthy that the scope of disclosure is widening to cover environmental and social factors which are becoming vital elements of the social contract.

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