CHAPTER 1 INTRODUCTION. Traditional views of a corporation suggest the primary responsibility of corporation

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1 1 CHAPTER 1 INTRODUCTION 1.1 Background Traditional views of a corporation suggest the primary responsibility of corporation is to its investors or shareholders and creditors group. The common goal of a corporation is mainly to make profit in order to maximize the value of shareholders, thus focusing on financial performance. People create organizations to control their collective resources in pursuit these goals. Many corporations take advantage of the natural and human (social) resources, affecting the damages of environment and impact the life of the community. As the corporations run the business activity to pursue their goals, they interact with others, a larger group called stakeholders. The stakeholders of a firm include those who affect or are affected by the firm s goals (Freeman 1984, cited in Werther and Chandler 2006, p. 1). The company needs to address their broader range of stakeholders (including local communities, customers, suppliers, employees, creditors, government and perhaps even future generations) for their social, environmental performance, as well as financial performance (Deegan, 2005). Therefore, the organization should behave responsibly, otherwise society will act collectively through government to impose

2 2 legal constraints on corporate behavior (Kenneth 1977, cited in Harahap & Gunawan 2005, p. 74). Aligned to this perspective, the issue of Corporate Social Responsibility (CSR) has increased over the past decades. Many business cases have contributed to increasingly importance of CSR practices. In the United States, corporations such as Gap Inc. and Nike have been criticized for labor rights violations in their overseas plants. The company has been subjected to much critical coverage of the often poor working conditions and exploitation of cheap overseas labor employed in the free trade zones, where their goods are typically manufactured (wikipedia n.d). These cases have increase social activism in response to the growth of organizational activity. In Indonesia, there are also a number of cases such as PT. Lapindo Brantas mud flow in Sidoarjo- East Java, human rights abuse of PT. Freeport Indonesia in Papua, and the case of TPST (Tempat Pembuangan Sampah Terpadu) in Bojong. The Case of PT. Lapindo Brantas mud flow shows the importance of CSR to be implemented by the corporation. This disaster has cause at more than 20 factories closed, giving more than 2500 employees losing their job. Moreover, the infrastructures such as electricity, telecommunication, toll road, and other public facility are being damaged (Wibisono, 2007, pp ) Today, there are numerous definitions of CSR. In broad terms, CSR covers the responsibilities that corporations have to the societies with which they are interact (Werther & Chandler 2006, p. 6). One definition of CSR is offered by World

3 3 Business Council for Sustainable Development (2000) which states that Corporate social responsibility is the continuing commitment by business to behave ethically and to contribute to economic development while improving the quality of life of the workforce and their families as well as the community and society at large (as cited in Dahlsrud 2006, p.7). While the European Union (EU) defined CSR as a concept whereby companies integrate social and environmental concerns in their business operations and in their interaction with their stakeholders on a voluntary basis as they are increasingly aware that responsible behavior leads of sustainable business success (as cited in Amaeshi and Adi, 2006). The issue of CSR has been growing concerns among business communities in recent years with some successful firms show their concern in CSR. For example, the Chairman of Shell UK stated in the Report to Society: The days when individual companies were judged solely in terms of economic performance and wealth creation have long disappeared. Today, companies have far responsibilities to the community, to the environment and to improving the quality life for all (as cited in Deegan 2005, p. 1100). Corporations like Johnson & Johnson, also believe it is a company responsibility to be fair, honest, trustworthy, and respectful in dealing with all constituents (Johnson & Johnson 2002, cited in Harahap & Gunawan 2005, p. 74) Traditional financial accounting practices limit the extent of social and environmental disclosures being made as the practices focusing on financial have been applied for a long time and considered to be generally accepted by the majority

4 4 of accountants (Deegan 2005, p. 1113). However, attitudes have changed dramatically in the past decades as more corporations throughout the world produce their CSR information and activity both through annual report and stand-alone report (i.e separate HSE (Health, Safety and Environment) Reports and Sustainability Reporting). Nevertheless, there are factors that are likely to affect the level of CSR disclosures in corporate annual report. As there is no cohesive theory about CSR disclosure, many disputes and different views still exist concerning the complexity and purposes of such disclosure and why firms disclose different level of CSR (Alnajjar 2000, p. 164). As example, larger firms from certain industries (i.e oil, extractive) that have significant impact to the environment are likely to increase the level of CSR disclosure in their annual report. The relationship between corporate characteristics and CSR disclosure is not clear because many firms disclose CSR with an ulterior motive: to influence public opinion and polish their image (Alnajjar 2000, p.164) Several prior studies tested for relationship between some corporate characteristics and the level of Corporate Social Responsibility (CSR) disclosures. The results of these studies are mixed and largely inconclusive due to diversity in methods, samples and guideline used to disclose CSR. Furthermore, most empirical studies on CSR disclosure practices have mainly focused on developed country such as USA, UK, New Zealand and Australia. In developing countries like Indonesia, the concept of CSR is still in early stage and there still exist no accepted framework in CSR area.

5 5 The objective of this study is to content analyze the annual report of sample companies in Indonesia to identify the level of CSR disclosure consistent with the categorization of the G3 GRI reporting guidelines. Then, investigate the relationship between individual corporate characteristics which may be associated with the level of CSR disclosure in annual report: (1) management ownership, (2) corporate profitability, (3) corporate size, (4) industry type, (5) corporate age and (6) foreign ownership. Specifically, this study examines how those five corporate characteristics relate to CSR disclosures and to three major areas (economic, environment and social) of disclosure. An examination of the relationship between certain corporate characteristics and the level of CSR disclosures may enhance the understanding of the determinants for CSR disclosure and provide the extension of the descriptive analysis by prior study. Therefore, this thesis is titled The Relationship between Corporate Characteristics and Corporate Social Responsibility (CSR) Disclosures in Annual Report (Empirical Study on Indonesian Listed Companies) 1.2 Scope In this study, the author investigates the management ownership, corporate profitability, corporate size, industry type, corporate age and foreign ownership as determinants that may lead more to the level of CSR disclosure in companies annual report in Indonesia. Such examination may be useful to understand the underlying driving forces for CSR disclosure in Indonesia.

6 6 This study is focused on corporate annual report disclosure, as done by the majority of prior study. Furthermore, annual report has been major tool in Indonesia to voluntary disclose CSR information. By focusing on corporate characteristics such as the management ownership, corporate profitability, corporate size, industry type corporate age and foreign ownership, one can find out whether there is relationship between such characteristics and CSR disclosures and whether these characteristics do impact the CSR disclosures. The extension to the areas of disclosures may give more understanding to examine the impact of corporate characteristics to different areas of economic, environmental or social disclosures. The annual reports used would come from period as the latest updated report. Then, G3 GRI Sustainability Reporting Guideline will be adopted to determine the indicators of CSR disclosed in annual report. 1.3 Aims and Benefits The aim of this study is to determine the level of CSR disclosures in annual report of samples companies by using the indicators of G3 GRI Sustainability Reporting Guideline. Then, identify whether corporate characteristics have relationship with the components of CSR disclosures. The corporate characteristics will be investigated by six variables of management ownership, profitability, size, industry type, age and foreign ownership. This study would also give benefits to various groups. From academic point of view, this study gives contribution to the development of CSR in Indonesia, a developing country. This study might also useful as a basis for further research. For the

7 7 organizations, this study might increase the awareness on responsibility of the business to the community as the existence of business cannot be separated from the community itself. Then, this study may be of interest to regulators and standardsetting bodies as they seek to evaluate mandatory CSR reporting as well as the development of accepted framework in the CSR area. The result of this study can also be use by the company management to practice the standard and considering several corporate characteristics that affect CSR disclosure. 1.4 Research Questions and Hypotheses The research questions are: 1. Which indicators of CSR being disclosed by Indonesian listed companies in annual report based on the categorization of G3 GRI Guidelines? 2. Do corporate characteristics (management ownership, corporate profitability, corporate size, industry type, corporate age and foreign ownership) affect the level of CSR disclosures in annual report? 3. Does the affect of corporate characteristics vary among different area of CSR disclosures (economic, environment and social)? Seven research hypotheses are developed to support the research questions above. In general, it observed the level of CSR disclosures and examined the determinants that are potential to affect the level of CSR disclosures practices in company s annual report. The first six hypotheses aimed to answer the second research question and the second hypothesis aimed to answer the third research question.

8 8 Those seven research hypotheses are stated as follows: H1-a: There is a positive relationship between management ownership and the level of CSR disclosures H1-b: There is a positive relationship between corporate profitability and the level of CSR disclosures H1-c: There is a positive relationship between corporate size and the level CSR of disclosures H1-d: There is a positive relationship between industry type and the level CSR of disclosures H1-e: There is a positive relationship between corporate age and the level CSR of disclosures H1-f: There is a positive relationship between foreign ownership and the level CSR of disclosures H2 : The affect of corporate characteristics on the level of CSR disclosure are likely to vary significantly among different areas of disclosures 1.5 Research Methodology This paper examines the relationship between corporate characteristics and the level of CSR disclosures in the annual report over three year s period of Content analysis is used in this study to quantify and measure the level of CSR disclosures in annual report. To investigate the factors that affect the CSR disclosures, correlation and multiple regression analysis models will be conducted. The detail of research methodology is presented in Chapter 3.

9 Population and Sample The population consists of 345 listed companies from 9 (nine) different industry sectors in Jakarta Stock Exchange (JSX). The sample will take up to 34 sample companies and it represents 9 (nine) industry categories presented in JSX for three years period ( ). Stratified random sampling method is used to obtain the samples. The detail of sampling design is presented in Chapter Data Gathering Methods Preliminary data gathering was conducted through literature review as theoretical foundations. The literature reviews was collected through journals, books, Internet and other available resources in order to provide necessary and relevant theories to the subject. Secondary data of annual report of sample companies from JSX are fully utilized in both quantitative and qualitative manner. The annual report used are based on 3 (three) years performance ( ) Data Analysis The determinants of CSR disclosures in annual report indicated by corporate characteristics that will be measured as follows: 1. Management ownership is measured by percentages of share owned by the management, specifically by director and commissioner. 2. Corporate profitability is measured by using accounting-based ROA (Return on Assets). 3. Corporate size is measured by total assets of the company

10 10 4. Industry type will be classified into company from high profile industries (agriculture, mining, and basic industry and chemical) and low profile industry (other than high profile industry). 5. Corporate age is measured by age of the company. 6. Foreign ownership will be classified into company with majority shares owned by foreign, exclude public shares, and local. 7. The level of CSR disclosures in annual report is measured by content analysis study based on indicators from G3 GRI Guidelines. 1.6 Thesis Structure The study consists of five chapters and organized as follows: Chapter 1 : Introduction This chapter presents research background, purpose, scope, aims and benefits, research questions and hypotheses and thesis structure. Chapter 2 : Theoretical Foundation This chapter presents the theoretical foundation related to CSR disclosures, which will be collected through journals, books, Internet and other available resources. This chapter will support the findings of the problem. Chapter 3 : Research Methodology This chapter describe in detail regarding sampling design, research variables, research hypotheses, data collection and data analysis method.

11 11 Chapter 4 : Research Findings and Discussion This chapter explains findings of the research and discussion of the findings. Chapter 5 : Conclusions, Limitations and Recommendations This chapter consists of concluding remarks that are drawn from the findings of the research and discussion of the findings. It also includes limitations, recommendation as well as avenue for further research.