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THE BENEFIT OF SUSTAINABLE ENGAGEMENT FOR THE FIRMS:
IS IT STILL NEED EARNINGS MANAGEMENT?
Dini Lestari*, Sudarso Kaderi Wiryono
Sains Management Master Program, School of Business and Management,
Institut Teknologi Bandung, Indonesia
Abstract
The study's goal is to highlight the necessity for comprehensive re-examinations of the sustainability
practices of enterprises that benefit from lower cost of capital According to an intriguing research gap
uncovered in previous studies, the extent to which a firm's actual profits management efforts are based
on the firm's ownership structure may have an impact on the firm's goal to do sustainable business The
growing awareness of business sustainability necessitates the inclusion of reliable, transparent,
accurate, and, most importantly, relevant financial and non-financial information, including corporate
social responsibility (CSR) and environmental, social, and governance (ESG) performance, in their
reporting The research will investigate into the relationship between sustainable practice and the cost
of capital, with earnings management serving as a moderating variable consist of 41 state-owned
enterprises (SOEs) and private corporations registered on the Indonesia Stock Exchange (IDX) that
utilizes the GLS random effect of the regression.. Findings show that sustainable engagement in
Indonesian firms has significant relation to the cost of capital but earnings management is not related
to moderating variables' role between them.

The Benefit of
Sustainable
Engagement for
The Firms: Is It
Still Need
Earnings
Management?
Received
October 4th 2022
Review
June 22nd 2023
Publish
June 30th 2023

Keywords: Sustainability, Cost of Capital, Earnings Management, SOEs, Private Companies.

* Corresponding author. Email addresses: dini_lestari@sbm-itb.ac.id

AFEBI Management
and Business
Review
(AMBR)
P-ISSN2548- 530X
E-ISSN2548-5318

8

AMBR

INTRODUCTION
Economic Cooperation and Development (OECD) stated that Covid-19 has had a significant
Firms concerned about corporate sustainability practices because they affect performance diversity and
stakeholder value development. As sustainability increases, organizations must report their ESG
performance to shareholders, investors, and society. The current integrated reports combine financial
and sustainability disclosure. ESG components measure sustainable practices and capital structure
objectives. The financial capital structure mediates risk mitigation from ESG initiatives, lowering
business risk indirectly (Cantino, Valter Devalle & Fiandrino, 2017). Long-term ESG and financial
performance improve when realized. Sustainability was an optional consideration for corporate capital
budgeting submissions, and decision-makers had to use a mix of management accounting and finance
technology to assess its relevance (Frost & Rooney, 2021). Sustainable organizations have a better
average cash cycle, allowing for better cash optimization. Barros et al. 2021). However, it does not
affect the likelihood that sustainable firms are always preferred over non-sustainable firms, and there
is little evidence that customers' perception of firms as "green" affects the possibility of a formal
sustainability program or capital investment decisions (Meyer & Kiymaz, 2015). Previous research is
currently debating whether sustainable practices affect capital costs. Although many studies, such as
El Ghoul et al., (2011); Ng & Rezaee, (2012) find that firms with higher corporate social responsibility
(CSR) scores have a significantly lower cost of equity capital, limited research analysis from the point
of how they manage earnings without disturbing the benefit of sustainable practice on capital cost.
While prior research has mixed results emphasizes the importance of sustainable corporate disclosure
for firms' valuation and cost of capital, when the current study with Menz (2010) and Federica et al.,
(2017) suggest positive relationships, other studies such as Sharfman & Fernando (2008) and
Gonçalves et al., 2022) mentioned negative relationships between CSR disclosure and the cost of
capital. We assumed that earnings management could be the factor that moderates the linkage variable
between them, making the possibility of the gap and different results possible.
This research describes the main linking factors between sustainable practice and the cost of
capital to optimize earnings management. The study also investigates the managed earnings behavior
on the initial cost of capital and the possible action of the firms in private and state-owned companies
makes income smoothing for the positive outcomes to mitigate the asymmetric information problems
or instead make garbling and exhibit the higher cost of debt capital.
According to the current research, the prevailing argument suggests that the correlation
between sustainability practices and the cost of capital and managed earnings behavior necessitates
heightened stakeholder monitoring to assess a firm's worth accurately (Buertey et al., 2020). Hence,
the primary inquiry of this study is "What is the relationship between sustainability practices and the
cost of capital in Indonesia?" This primary research question is further reinforced by subsidiary
inquiries: (1) What is the correlation between sustainability and the financial capital structure? (2)
What is the substance of the concept that facilitates earnings management intending to reduce the cost
of capital? (3) Is there a difference between earning management’s moderation between SOE’s and
private companies? The present study employs quantitative methodology, specifically random effect
regression and the basis related to stakeholder theory to address the research question. The underlying
premise is that a negative correlation exists between sustainability measures and the cost of financing.
The study's findings should be interpreted within the limitations of its observations and conclusions,
which may not provide a comprehensive understanding of the organizational context due to the
omission of other areas where accounting and sustainability intersect.
The topics are quite interesting for several reasons and implications for possible research
contributions. From the perspective of professionals in the accounting and audit field, it is important to
consider the potential detection and awareness of firms engaging in fraudulent practices related to their
financial stability. This highlights the significance of accurate reporting, as misleading information can
have negative consequences for investors and other stakeholders. The findings of this study have
contributed to the existing body of knowledge by highlighting the extensive scope of the cost of
capital. Furthermore, the study suggests that there may be clear delineations between ESG
sustainability and equity financing.

9

The organizations of the paper in this following order: The next section below reviews the
underlying theories and the relevant literature to develops the research hypothesis. Next, the section is
explaining research methodology from the sample, data gathered, proxy and the empirical research
models employed. In the end, the final section provides the results and discussion, summary,
implication also the possible future research.
LITTERATURE REVIEW
The ability of a company's financial structure to support its decision to optimize its value and
overall performance has become correlated with its strategy, management tools, and evaluation,
focusing on financial aspects. Much prior research provides interesting insight from their findings.
Regarding the cost of capital, companies that disclose more sustainability data typically do so at a
cheaper cost due to risk management, reduced information asymmetry, and transparent reporting made
available by sustainability reports to the right investors and speculators (Shad et al., 2020). The
decision to adopt a capital structure is typically influenced by the factors listed below: the
organization's unique characteristics, asset structures, growth potential, non- debt tax shield, and
country-specific interest rates of the countries where the firm conducts business (Ramli et al., 2019).
Other variables, such as politically connected boards, persuade investors and creditors that the firms
benefit from cheaper debt and equity capital costs, making it less risky (Joni et al., 2020). Related to
the project, capital budgeting methodologies used in the firms are the main first critical point. The
NPV approach is the most used in many firms in Indonesia. According to Baur & Lagoarde-Segot,
(2016), NPV may drive investors to reject initiatives that require a longer investment horizon if they
have capital constraints. In this circumstance, theoretically sustainable ventures may regularly lose out
to more profitable projects. Assessing the risk may lead to a better appraisal for firms to balance the
use of sustainable projects. Furthermore, in order to include sustainability, non-financial knowledge
and evaluation criteria must be incorporated into cost of capital processes (Frost & Rooney, 2021).
The concept of stakeholder theory emerged in the late 20th century as a response to the
growing awareness of the impacts of business activities on the environment and society One of the
critical components of stakeholder theory is mapping and engaging stakeholders effectively.
Sustainability reporting is closely linked to stakeholder theory, as it emphasizes a company’s
responsibility to consider the interests of all stakeholders. In this context, it is essential to note that the
one of core elements for stakeholder theory is not the company itself but the relationships between an
organization and its stakeholders (Hörisch et al., 2014). Furthermore, there is no significant difference
for the disclosure of most of the stakeholders among different industries (Şener et al., 2016). An
interesting study found by Harmoni (2013) regarding stakeholder-based analysis of sustainability
reporting that in each sustainability report are made, each company presents the results of its own
analysis of its key stakeholders. Every company's sustainability report includes a stakeholder analysis
and its results. Contemporary society views corporations as interconnected entities in a network of
interactions involving numerous stakeholders with vested interests in their operation.

The Benefit of
Sustainable
Engagement for
The Firms: Is It
Still Need
Earnings
Management?

Previous Studies and Hypothesis Development
The Linkage between Sustainability Reporting and The Cost of Capital
The strong correlation between the dimensions of ESG sustainability and its integrated and
interactive relationship with the cost of equity capital is significant to underline because of its role in
linking a company's ESG sustainability with investors and executives believe that ESG performance is
a critical factor in business success through financial and non-financial information presented.
Sustainability performance and disclosure are essential in assessing the investor's risk premium and
return. Each of the ESG components creates a cost- benefit implication for shareholders that
automatically affect the cost of equity capital of the firms (Ng & Rezaee, 2015). Since much-extant
research also stated the same findings mentioned the significant negative effect between sustainability
and cost of capital, the reason behind it is information asymmetry and cost of capital decrease
significantly in firms that promote more corporate reporting projects, as they increase the accuracy of
investor information and share price informativeness, makes the cost of capital is influenced both by

10

AMBR

the information asymmetries and the corporate disclosure itself (Martínez-Ferrero & García-Sánchez,
2017). This leads us to my first hypothesis.
Hypothesis 1: There is negative relationship between sustainability practices and the cost of
capital
Moderating Role of Earnings Management on Sustainability Practices and The Cost of Capital
A firm's propensity to manage earnings depends upon its proximity to stakeholders and their
interest to maximize shareholder wealth. The literature on earnings management circumstances
distinguishes two standard methods of managing earnings: (1) The accrual and (2) The real-activities
approaches. Real-activities or direct earnings management involves the timeliness of investments,
sales, expenditures, and financing decisions. Accruals earnings management involves discretionary
accounting of decisions and consequences already achieved (Ujah & Okafor, 2020). Income
smoothing is a method of managing earnings that has survived the test of time. The cost of debt capital
is significantly influenced by income smoothing, with higher income smoothing firms displaying a
lower contemporaneous cost of borrowed capital (Li & Richie, 2016).9That viewpoint assumes that
the concept of income smoothing is an information-signaling mechanism that influences the cost of
capital. According to Gray et al., (2009) investigation of the complementary relationship between
voluntary disclosure and earnings quality, the cost of capital effect for voluntary disclosure is greatly
reduced or completely disappears when we condition on earnings quality. These findings show how
earnings quality influences sustainability disclosure decisions and perceived outcomes.
Hypothesis 2: Earning management will significantly moderate the relationship between
sustainability practices and the cost of capital
Despite an increase in a company's risk, capital owners expect substantial rewards. When
wages vary so much, forecasting future earnings becomes impossible. As a result, we might argue that
smoothed profits are regarded as less risky than highly fluctuating incomes. Managers have an
incentive to manage their profitability in order to keep a firm's risk profile from rising (Balvers, 2009).
These requirements would reduce the risk profile and increase earnings.
Furthermore, organizations that invest more in CSR programs are more inclined to invest in
earning management to optimize profits. Managers can pursue personal benefits at the expense of
stakeholders due to knowledge asymmetry between them and stakeholders (Buertey et al., 2020). The
division of ownership and control generates an agency problem between managers as agents) and
shareholders as principals, where management, in the context of rational human beings, is subject to
prioritizing their own interests over those of shareholders in decision-making. With a focus on
ownership concentration, past work investigates the impact of ownership structures as the corporate
governance level on the firms' cost of capital. According to Huo et al., (2021), ownership reduces the
negative relationship between institutional investors and the cost of capital. Furthermore, enterprises
with higher government ownership, or SOEs, have lower loan costs and lower equity financing costs
when compared to the benchmark group (Deslandes, 2020; Le, 2020).
Hypothesis 3: The influence of earning management in reducing the cost of capital is lower in
publicly controlled companies (state-owned enterprises) than in privately managed companies.

11

METHOD
Samples and Data Sources
The financial statistics and proxies are obtained from public data in each company's annual
report and website. The original population with enterprises listed on the Indonesia Stock Exchange
(IDX) for a two-year sample period, before and during the pandemic Covid-19 scenario (2019-2020),
to see the difference in cost of capital and earnings before and during the epidemic. Because the
sample consists of enterprises with sustainability issues, this study obtains the firms listed in three
indexes (IDX ESG Leaders, ESG Sector Leaders IDX KEHATI, ESG Quality 45 IDX KEHATI), one
index with strong liquidity quality (LQ45) per March 2022, and one index MESBUMN. To be
included in our sample, a company must have all of the financial statement data, annual report, and
sustainability reporting required for computing the research variables. We focus on two categories of
firms: private enterprise and state-owned enterprise. Due to different interpretations of accounting
variables such as accounting accruals and debt obligations across the sample firms in different
industries (Buertey et al., 2020; Grimaldi et al., 2020; Joni et al., 2020; Kim & Sohn, 2013; Le, 2020;
Li & Richie, 2016). The samples exclude firms in the financial service industry. Table 1 shows the
entities employed in this study, which include 19 state-owned enterprises and 22 private
corporations.Quadrant A on the digital leadership variable has attributes such as communicating
digital vision with employees or anyone else, implementing the planned digital vision, long-term
professional development activities, creating employee learning opportunities digitally, measuring and
evaluating the digital performance of oneself and employees, knowledge and understanding in using
technology, collaborating with anyone according to the company's digitalization goals, establishing a
new organizational structure, use of new technology to create innovation and reduce labor producer
No

Company Name

Industry

1
2
3
4
5

Ace Hardware Indonesia Tbk.
Adhi Karya (Persero) Tbk
Adaro Energy Indonesia Tbk.
AKR Corporindo Tbk.

Specialty Retail
Real Estate Management
Coal
Oil and Gas

Sumber Alfaria Trijaya Tbk.

Food & Staples Retail

6
7
8
9
10

Aneka Tambang Tbk.
Astra International Tbk.
Alam Sutera Realty Tbk
Barito Pacific Tbk.

Metals and Minerals
Multi-sector Holdings
Real Estate Management
Chemicals

Charoen Pokphand Indonesia Tbk

Agricultural Products

11
12
13
14
15
16

Elnusa Tbk.
XL Axiata Tbk.
Vale Indonesia Tbk.
Indah Kiat Pulp & Paper Tbk.
Indocement Tunggal Prakarsa Tbk.

17
18

Indo Tambangraya Megah Tbk.

Oil, Gas & Coal
Telecommunication
Metals & Minerals
Forestry & Paper
Construction Materials
Transport Infrastructure
Operator
Coal

Japfa Comfeed Indonesia Tbk.

Agricultural Products

19
20

Indonesia Kendaraan Terminal Tbk.

Jasa Marga (Persero) Tbk.
Kimia Farma Tbk.

Transport Infrastructure
Operator
Pharmaceuticals

Stock
Code
Consumer Cyclicals
ACES
Properties & Real Estate ADHI
Energy
ADRO
Energy
AKRA
Consumer NonAMRT
Cyclicals
Basic Materials
ANTM
Industrials
ASII
Properties & Real Estate ASRI
Basic Materials
BRPT
Consumer NonCPIN
Cyclicals
Energy
ELSA
Infrastructure
EXCL
Basic Minerals
INCO
Basic Materials
INKP
Basic Materials
INTP
Infrastructures
IPCC
Sector

Energy
Consumer NonCyclicals
Infrastructures

ITMG
JPFA

Healthcare

KAEF

The Benefit of
Sustainable
Engagement for
The Firms: Is It
Still Need
Earnings
Management?

Table 1.
Sample of the
firm

JSMR

12

AMBR

21
22
23
24

Kalbe Farma Tbk.
Merdeka Copper Gold Tbk.
Medco Energi Internasional Tbk.
Dayamitra Telekomunikasi Tbk

25
26

Perusahaan Gas Negara Tbk.

27
28

Bukit Asam Tbk.
PP (Persero) Tbk

29
30
31
32
33

Industri Jamu dan Farmasi Sido
Muncul Tbk.
Semen Baturaja (Persero) Tbk
Semen Indonesia (Persero) Tbk.
Timah Tbk.
Telkom Indonesia (Persero) Tbk.

34

Sarana Menara Nusantara Tbk.

35
36
37

Chandra Asri Petrochemical Tbk.
United Tractors Tbk.
Unilever Indonesia Tbk.

38

PP Presisi Tbk

Wijaya Karya Bangunan Gedung
Tbk.

39

Wijaya Karya (Persero) Tbk.

40

Waskita Karya (Persero) Tbk.

41

Wijaya Karya Beton Tbk.

Pharmaceuticals
Metals & Minerals
Oil & Gas
Telecommunication
Service
Oil & Gas
Heavy Constructions &
Civil Engineering
Coal
Heavy Constructions &
Civil
Engineering
Pharmaceuticals

Healthcare
Basic Materials
Energy
Infrastructure

KLBF
MDKA
MEDC
MTEL

Energy

PGAS

Infrastructure

PPRE

Energy
Infrastructure

PTBA
PTPP

Healthcare

SIDO

Construction Materials
Construction Materials
Metals & Minerals
Telecommunication
Service
Wireless
Telecommunication
Services
Chemicals
Machinery
Personal Care Products

Basic Materials
Basic Materials
Basic Materials
Infrastructures

SMBR
SMGR
TINS
TLKM

Infrastructures

TOWR

Basic Materials
Industrial
Consumer NonCyclicals

TPIA
UNTR
UNVR

Infrastructure

WEGE

Infrastructure

WIKA

Infrastructure

WSKT

Basic Materials

WTON

Heavy Constructions &
Civil
Engineering
Heavy Constructions &
Civil
Engineering
Heavy Constructions &
Civil
Engineering
Construction Materials

Source: IDX website
Measuring Sustainability Practices
Sustainability reporting accurately measures how organizations apply sustainability. Because a
company's environmental and social performance affects its owners' utility, managers are obligated to
thoroughly monitor and present environmental and social performance to investors alongside financial
data. The performance of the company is evaluated by taking into account the sustainable activities
carried out by the subsidiaries and the parent company. The data for this report is updated on a regular
basis, and the organization generally adheres to the GRI Standards in its creation. In Indonesia, they
are required to create a sustainability report in accordance with Financial Services Authority
No.51/POJK.03/2017. According to Martínez-Ferrero & García-Sánchez (2017), we may establish the
extent to which this information is complete, comparable, and harmonized by comparing the
information contained in such reports with the recommendations of GRI standards. According to
circular letter SEOJK.04/2020, the Sustainability Report can be prepared individually or as part of the
annual report. Sustainability reporting is evaluated in conversion to an ordinal scale ranging from 0 to
100, developed from Martínez-Ferrero & García-Sánchez (2017)'s measurement. Based on
requirements and information from the GRI guidelines (version 3), the values are divided into five
groups, with the assessment criteria indicated in the table below. Companies who do not produce
sustainability reporting will be omitted from the sample.

13

SR Values Type of Sustainability Report
SR = 0
SR = 25
SR = 50

SR = 75

SR = 100

Firms which do not create sustainability reporting
Firms which create sustainability reporting but does not comply with GRI guidelines
Firms which create sustainability reporting following the C level of the GRI guidelines, which
their reports are very basic. More specifically, the report including information on:
Profile Disclosures: statement numbers 1.1; 2.1–2.10; 3.1–3.8; 3.10–3.12; 4.1–4.4; 4.14–4.15.
Disclosures on management approach: not required. Performance indicators and sector
supplement performance indicators: a minimum of any 10 performance indicators, including at
least one from each of the social, economic, and environment categories. Performance
indicators may be selected from any finalized sector
supplement, but 7 of the 10 must be from the original GRI guidelines.
Firms which create sustainability reporting following the B level of the GRI guidelines,
that is, their reports are complete. Specifically, the report contains information on: Profile
Disclosures: statement numbers 1.1; 1.2; 2.1–2.10; 3.1–3.13; 4.1–4. Disclosures on management
approach: for each indicator category. Performance indicators and sector supplement
performance indicators: a minimum of any 20 performance indicators, including at least one
from each of the economic, environment, human rights, labour, society, and product
responsibility categories. Performance indicators may be selected from any
finalized sector supplement, but 14 of the 20 must be from the original GRI guidelines
Firms which create sustainability reporting following the A level of the GRI guidelines, that is,
their reports are very advanced. More specifically, the report incorporates information on:
Profile Disclosures: 1.1; 1.2; 2.1–2.10; 3.1–3.13; 4.1–4.17. Disclosures on management
approach: for each indicator category. Performance indicators and sector supplement
performance indicators: incorporates each core and sector
supplement indicator.

The Benefit of
Sustainable
Engagement for
The Firms: Is It
Still Need
Earnings
Management?

Table 2.
Sustainability
Reporting Score
Source: The
authors, adapted
from GarciaSanchez et al
(2017)

Measuring Cost of Capital
According to a previous study, two types of measures are now used to estimate cost of capital
models: the earlier estimation model based on analyst forecasted earnings data and the latter
estimation model based on realized earnings rather than expected earnings. The implied cost of capital
assesses the cost of capital by using projected data rather than previous data. To determine the cost of
the capital variable, I utilize the implied cost of capital approach in conjunction with the OJ model.
Ohlson and Juettner-Nauroth (2015) pioneered the OJ model, which connects stock price, expected
earnings, and expected earnings growth. According to Huo et al., (2021), the computation of the cost
of capital is more accurate with this model, which is made possible by advances from earlier
traditional models such as price earning to the growth model. The models illustrated by the equations
below:
𝑅 = 𝐴 + √𝐴2 + 𝑒𝑝𝑠1 (𝑔2 − 𝑔𝑝 ) / 𝑃𝑂 … . (1)

1
𝑑𝑝𝑠1
𝐴 = (𝑔𝑝 +
) , 𝑔2 = (𝑒𝑝𝑠2 − 𝑒𝑝𝑠1 )/ 𝑒𝑝𝑠1 … (2)
2
𝑃𝑜

Where R expressed the cost of capital; 𝑃𝑂 : the opening price of stock a year; 𝑑𝑝𝑠1 expressed the
dividend per share; 𝑒𝑝𝑠1 expressed the current earnings pershare; 𝑒𝑝𝑠2 expressed the earnings per
share for the next year.

14

AMBR

Researchers employ two types of proxies for estimation in company earnings management:
real earning and accrual earning management, based on the technique of Campa and Camacho-Miano
(2015). These proxies for real earnings management stress the manipulation of sales and production
costs as the primary contributing variables to a company's annual report. The abnormal cash flow and
production are calculated using the following equations:
𝐶𝐹𝑂
1
𝑆𝑎𝑙𝑒𝑠
∆𝑆𝑎𝑙𝑒𝑠
= ∝ + 𝛽1 (
) + 𝛽2 (
) + 𝛽3 (
) +∈𝑡 … . (3)
𝐴𝑠𝑠𝑒𝑡𝑠𝑡−1
𝐴𝑠𝑠𝑒𝑡𝑡−1
𝐴𝑠𝑠𝑒𝑡𝑡−1
𝐴𝑠𝑠𝑒𝑡𝑡−1
𝑃𝑟𝑜𝑑
1
𝑆𝑎𝑙𝑒𝑠
∆𝑆𝑎𝑙𝑒𝑠
∆𝑆𝑎𝑙𝑒𝑠𝑡−1
= ∝ + 𝛽1 (
) + 𝛽2 (
) + 𝛽3 (
) + 𝛽4 (
) +∈𝑡 … (4)
𝐴𝑠𝑠𝑒𝑡𝑠𝑡−1
𝐴𝑠𝑠𝑒𝑡𝑡−1
𝐴𝑠𝑠𝑒𝑡𝑡−1
𝐴𝑠𝑠𝑒𝑡𝑡−1
𝐴𝑠𝑠𝑒𝑡𝑡−1

Where: CFO is cash flow from operations (calculated as EBIT + depreciation and
amortization, +/- changes in inventories, changes in trade and other receivables and changes in trade
and other payables); PROD is cost of goods sold plus change in inventory.
For accrual earnings management proxy, the abnormal working capital accruals is estimated
following this equation:
𝐴𝑊𝐶𝐴 = 𝑊𝐶 − 𝑊𝐶𝑡−1/𝑆𝑡−1) × 𝑆𝑡
Where: WC is operating working capital (calculated as value of current assets minus cash and
cash equivalent, less current liabilities net of the current portion of long-term debt; S expressed as net
sales.
Measuring Control Variables
In this investigation, we identified the control variables using three key components that have
been shown to
identify the effects of our variables. The determinants include company size,
profitability, and leverage Because both the state-owned enterprise and private enterprise can be
classified as structural ownership, firm size as the representative of firm characteristics is proxied by
total book assets. The return on asset (ROA) and total debt to total assets (DAR) ratios serve as
proxies for profitability and leverage.
Research Model
The study is carried out utilizing regressions with a random effect of generalized least squares
(GLS). Nachrowi et al. (2006) were used to guide the selection of the random effects model. They
assert that econometricians have determined that utilizing Random Effect Models is recommended if
the panel data has a shorter time period (T) than the total number of individuals (N). To address
Hypotheses 3 and 4, we divided the sample into two subgroups: private enterprises and public (stateowned) companies and developed a panel model for each of them. The following are the model
specifications and planning:
Model 1: Explains the relationship between sustainable practices (SP) and cost of capital (CC)
𝐶𝐶𝑖𝑡 = 𝛼𝑂 + 𝜆1𝑆𝑃𝑖𝑡 + Σ𝜆𝑖𝐶𝑂𝑁𝑇𝑅𝑂𝐿𝑆𝑖𝑡 + Σ𝐴𝑈𝐷 + 𝜀𝑡 (1)
Model 2: Examines the moderating effect of earning management (EM) on SP-CC relationship
𝐶𝐶𝑖𝑡 = 𝛼𝑂 + 𝜆1𝑆𝑃 ∗ 𝐸𝑀𝑖𝑡 + Σ𝜆2𝑆𝑃𝑖𝑡 + Σ𝜆3𝐸𝑀𝑖𝑡 + Σ𝜆𝑖𝐶𝑂𝑁𝑇𝑅𝑂𝐿𝑆𝑖𝑡 + Σ𝐴𝑈𝐷 + 𝜀𝑖𝑡 (2)
In addition, the random-effect regression models included audit (AUD) dummies (1 for the
reporting is audited by Big 4, and 0 if not) and ownership (1 for state-owned enterprise, and 0 if not)

15

RESULT AND DISCUSSION
Descriptive Statistics
Results for overall descriptive statistics, including variables including independent, dependent,
moderating and control variables. The mean value of cost of capital expressed with R, is 0.136%,
ranging from 0 to 0.737%. We can say that the average level of cost of capital in SOEs and private
firms in Indonesia is still low.
R
SR
CFO
PROD

N
82
82
82
82

Mean
0.136
61.890
2.180
2.382

Median
0.072
75
1.607
1.749

St.Dev
0.150
26.124
1.798
1.989

AWCA

82

-62549.41

29.183

1890

FIRM
LEV
PROFIT

82
82
82

10.332
3.139
4.988

10.222
0.410
3.245

1.312
12.456
7.255

AUD
OWNERSHIP

82
82

0.756
0.439

1
0

0.432
0.499

Min
0.000
0.000
0.127
0.031
1533
6.395
0.000
8.990
0.000
0.000

Max
0.737
100
9.872
10.597

The Benefit of
Sustainable
Engagement for
The Firms: Is It
Still Need
Earnings
Management?

Table 3.
Descriptive
Statistics

7261
13.659
73.810
36.100
1.000
1.000

However, the sustainability reporting, or SR, has a mean value of 61.89%, meaning that
enterprises publish information on their reporting in accordance with at least the C level of GRI
guidelines and that half of the samples of the firm have a score over 50. The typical values of the
earning management proxies indicated with CFO, PROD, and AWCA are 2.18%, 2.3%, and 62549.41, respectively. We can highlight that working capital has a negative mean, which suggests
that private and state-owned enterprise firms do not have any working capital even negative in 20192020. This means that earning management proxies from between cash flow operation and production
cost have a slightly same assessment and both in the same range.
The first control variable, the firm, which measures firm size, has a mean value of 10.332%,
almost identical to the median (10.22%), showing that the state-owned and privately-owned
enterprises with sustainability concerns have around the same firm size. While return on assets is
characterized by profitability and the debt to asset ratio is indicated with leverage, in contrast to
company size, both have mean values that fluctuate across the range. One aspect that stands out is that
certain firms experienced losses over the study's relevant time since the firm's profitability has
negative minimum values. The control dummy variables audit and ownership have a different median
(audit is 1, ownership is 0), showing that most of the firms have had their financial statements audited
by a Big 4 accounting firm and fewer SOEs companies who are featured in an index with
sustainability concerns.
R
SR
CFO_A
PROD_A
AWCA
FIRM
LEV
PROFIT
AUD
OWNER

R
1.000
0.254
-0.14*
-0.17*
0.023**
0.092*
-0.078*
-0.301*
0.069*
0.008**

SR
1.000
0.039**
0.021**
-0.06*
0.431
0.078
0.018
-0.013*
-0.12*

CFO_A

1.000
0.980
0.018**
-0.281*
-0.094*
0.451
0.215
-0.198*

PROD_A

AWCA

FIRM

LEV

PROFIT

AUD

OWNER

Table 4.
Correlative
Matrix
1.000
0.026**
-0.306*
-0.093*
0.434
0.208
-0.155*

1.000
-0.07*
0.005**
0.019**
0.096*
-0.15*

1.000
0.111
-0.1*
0.056**
-0.11*

1.000
-0.08*
-0.21*
0.238

1.000
0.157
-0.26*

1.000
-0.18*

1.000

* p <0.1 **p<0.01

16

AMBR
Table 4 displays the Pearson correlation results for all variables. As we can see, the results
show a significant connection between all variables, including the control variables. The surprising
finding is that sustainability reporting has no significant detrimental association. This study shows that
firms are only now beginning to exhibit their sustainability values; therefore, their performance thus
far could have been better. According to the content analysis used to determine the sustainability
reporting score, the economic component of the ESG component has the fewest performance
achievements. It is also worth noting that every profits management variable has a significant
drawback. This demonstrates that earnings management will be smaller when the cost of capital rises.
We can also find that AWCA had the highest association to measure earning management among cash
flow operation manipulation, production manipulation, and irregular working capital. Table 4 also
shows that organizations with higher sustainability reporting allow enterprises to function with lower
working capital investments, consistent with Barros et al. (2021) findings. Positive significance is
likewise evident in the control variable, except leverage and profitability, which makes sense because
when the cost of capital rises, the firms' profitability and leverage fall.
Several tests were run on the data before multivariate analysis to make sure it was accurate
and to choose the best model. The GLS technique in random effects has the advantage of overcoming
the time series autocorrelation and the correlation between cross-sectional observations, thus we don't
need to perform an assumption test even though the model is a random effect (Kosmaryati et al.,
2019). In addition, GLS generates an estimator that satisfies the best linear unbiased estimation
(BLUE) as well as a remedy for violations of the homoscedasticity and autocorrelation assumptions.
This study used GLS's random effect analysis for multivariate analysis.
Table 5.
Random effects
GLS regression:

Relationship of
Cost of Capital to
SR

Constanta
SR
FIRM
PROFIT
LEV
AUD
R-squared
Adj r-squared
Observations

Coefficient
0.178
0.001
-0.013
-0.008
-0.001
0.043

Std. Error
0.120
0.000
0.012
0.002
0.001
0.034

Prob
0.1410
0.0025
0.2656
0.0001
0.3177
0.2170
0.1969
0.1444
82

The multivariate analysis specifically considered the implications of the association between
sustainability reporting and cost of capital in order to test the first hypothesis. Table 5 demonstrates
that there is a strong correlation between cost of capital and sustainability reporting, but what is
unexpected is that the significant results are marked in a positive direction, rejecting the first
hypothesis of the study. This result contrasts with earlier studies' findings that overall ESG practices
were adversely correlated with Latin American enterprises' cost of capital and the Fama-French
industry group's cost of capital (Ramirez et al., 2022; Ng, A. C.; & Rezaee, Z., 2015). The different
findings show that businesses in Indonesia that implement important sustainability practices suffer
high capital costs. Even if the sample in this study includes businesses with high ESG quality, the
usage of this sustainability report in businesses for decision- making is less useful. Companies in
Indonesia are anticipated to adopt more sustainable practices in the future compared to other
developing nations so that the advantages of using sustainable practices to lower the cost of capital can
be fully achieved.

17

Constanta
SR
FIRM
PROFIT
LEV
AUD
CFO_A
PROD_A
AWCA
SR*CFO_A
SR*PROD_A
SR*AWCA
R-squared
Adj r-squared
Observations

Coef
0.262
0.002
-0.024
-0.008
-0.001
0.054
0.210
-0.182
3.93
-0.001
0.001
-3.28

Std. Error
0.134
0.001
0.013
0.002
0.001
0.038
0.155
0.137
5.35
0.002
0.001
7.54

Prob
0.055
0.033
0.089
0.000
0.331
0.161
0.179
0.188
0.941
0.401
0.470
0.965
0.260
0.144
82

The Benefit of
Sustainable
Engagement for
The Firms: is It
Still Need
Earnings
Management?

Table 6.
Random effects
GLS regression:
Moderating of
Earning
Management to
Cost of Capital

Earnings management has not been shown to significantly influence the relationship between
the cost of capital and sustainable practices, according to hypothesis 2 in the literature review section,
as evidenced by the regression data in Table 6. Earnings management, on the other hand, has a
moderating nature and a negative relationship direction (on abnormal working capital and abnormal
cash flow) to the cost of capital, indicating that the board's ability to supervise and avoid the adoption
of earning management practices is influenced slightly by the level of ESG policies provided by
corporations. According to this information, organizations more committed to sustainability are less
likely to advance earning management methods. Given that the primary goal of our study is to
determine whether earnings management moderated the relationship between the firm's sustainability
engagement and the cost of capital, Grimaldi et al.'s (2020) findings are consistent with this analysis,
implying that, while the coefficient is not statistically significant, it is of fundamental significance.
Panel A: State-Owned Enterprise
Coef
Std. Error

Prob

Constanta
SR
FIRM
PROFIT
LEV
AUD
CFO_A
PROD_A
AWCA
SR*CFO_A
SR*PROD_A
SR*AWCA

0.510
0.102
0.311
0.002
0.579
0.039
0.457
0.437
0.263
0.465
0.507
0.263

Adj r-squared
GLS
Observations

0.192
0.003
-0.026
-0.018
-0.000
0.161
0.304
-0.245
-1.69
-0.004
0.002
2.25

0.287
0.002
0.025
0.005
0.001
0.073
0.402
0.310
1.4
0.005
0.004
1.96

0.187
Random
34

Panel B: Private Enterprise
Coef
Std.
Error
0.223
0.227
0.003
0.001
-0.021
0.023
-0.006
0.003
-0.006
0.027
0.026
0.061
0.303
0.353
-0.263
0.325
3.29
3.53
-0.002
0.005
0.002
0.004
-6.5
7.01

Prob
0.329
0.128
0.366
0.055
0.815
0.668
0.396
0.424
0.358
0.565
0.632
0.357

Table 7.
Random effects GLS
regression: The
Influence of
Earning
Management
Moderation in SOEs
vs Private companies

0.250
Random
48

Referring to panel A in Table 7, the moderating variables for the earnings management start
with abnormal cash flow, abnormal production costs, and abnormal working capital, which are all
insignificant. The coefficient of SR*CFO_A, however, is negative but positive for SR*PROD_A, p >
0.05, and SR*AWCA, p > 0.05, indicating that earning management activity in the state-owned
enterprise does not result in a reduced cost of capital for the enterprises. The control variable results in
panel A stated above reveal that profitability and the cost of capital have a considerably inverse
relationship, whereas audits and the cost of capital have a significantly positive relationship.

18

AMBR

According to the Panel B results in Table 7, there is no association between the overall
variables and the moderating variables of earnings management. The findings in private enterprises
show a negative correlation between SR and CFO_A and SR and AWCA in comparison to Panel A.
Only profitability, firm size, and leverage are marginally significant for the control variables in panel
B and have a negative relationship with the cost of capital. Overall, we can see that from the value of
the influence of earning management in reducing the cost of capital are lower in private companies
than in state-owned enterprise. Another important finding, between three proxies, abnormal working
capital can detect larger in earning management practices rather than abnormal cash flow and
production cost.
Finally, the findings reveal that more extensive sustainability reporting reduces funding costs,
but not in a depressing way, which contradicts Hypothesis 1. Contrary to Hypothesis 2, there is no
statistically significant relationship between sustainability reporting and the cost of capital with
earning management as a moderator. Hypothesis 3 was also disproved (SOEs), which claimed that
private businesses are less likely than public ones to profit from earning management's capacity to cut
the cost of capital. Unfortunately, they have little influence on each other. The findings show that,
depending on the element of transparency, transparency is either irrelevant or detrimental to the
quality of SOE financial accountability.
CONCLUSION
Prior studies, such as those conducted by Botosan and Plumlee (2001), Garca-Sánchez, I. M.,
and Noguera-Gámez, L. (2017), Gianfrate et al. (2018), and Shad et al. (2020), hypothesized that
sustainability reporting is a value-adding activity, implying that it is beneficial to positively associated
with firm performance and, in general, supportive of a negative relationship between the cost of
capital. This research investigates whether the influence of sustainability reporting on the cost of
capital is moderated by earning management. I provide evidence that sustainability reporting
significantly reduces the cost of capital with a positive tone using a sample of 41 publicly traded SOEs
and private enterprises in Indonesia from 2019 to 2020. The findings are explained by the fact that the
cost of capital in Indonesian firms increases for rapid sustainability disclosures while lowering for
yearly report disclosure levels (Botosan and Plumlee, 2002). The findings of this study diverge from
the majority of previous work in that firms that reveal more sustainability information are more likely
to change to lower the cost of capital. In contrast, Indonesian enterprises continue to face higher costs
that must be balanced with sustainable practices and competitive strategies in order to achieve
maximum profitability. These findings are consistent with Goncalves et al.'s (2022) discovery of a
positive relationship between sustainability performance and the cost of capital in European
enterprises listed on the STOXX Euro 600 index.
Furthermore, we discover that earnings management is unrelated to the role of moderating
variables in the relationship between sustainability disclosure and the cost of capital. As one of the
earnings management proxies, abnormal working capital had the highest utility in detecting earnings
management activities. At the same time, because of the critical relationship, additional audits in the
top four can provide prevention to such activities. Earnings management has no relationship to the cost
of capital as a moderating variable, which this link may explain by being driven mainly through
optimism in analysts' long-term profits estimates, which are systematically too high for firms with
volatile earnings (McInnis, 2010). The key finding of this paper is that corporate sustainability
reporting does have a significant relationship with the cost of capital. Despite the positive tone, the
results have practical implications.
First, this should demonstrate to managers who are contemplating the possibilities of
sustainability reporting that such concerns are not burdens but rather can improve financial outcomes
by lowering the cost of capital to the higher value of the company. Managers should be encouraged to
increase their investment in social and environmental sustainability-related activities, such as supply
chain, human rights, labor, and society, and not forget the economic aspect because most of the firms
that disclose sustainability reporting are minimal in economic aspect disclosure besides ESG
components
disclosure.

19

Performance indicators in economic, environmental, social, and governance are not costs but
investments that may reduce information asymmetries, leading to lower costs of capital that enhance
overall firm performance. Second, firms do not have to consider the potential needs of earnings
management practices to lower the cost of capital because sustainability reporting may reduce the cost
of capital. We argue that corporate sustainability reporting is crucial for emerging markets such as
Indonesia to lower the cost of capital, not liability. Because the absence of legal coercion and strict
supervision has negative consequences, obligation applies in the countries whose law and supervision
issues. Indonesian companies must find appropriate ways to improve disclosure quality to reduce their
cost of capital. Third, the results have implications for stakeholders who traditionally view increasing
sustainability reporting as a cost that lowers company value, which companies in Indonesia have not
been able to afford.
This work also suggests new directions for future research. We investigated the sustainability
reporting procedures of Indonesian publicly traded firms. As ESG becomes a critical component of
any corporate strategy, ESG executives will require broader skills to oversee this transformation.
Future research should compare sustainability reporting and its implications on capital costs in other
countries with those in countries that practice higher levels of sustainability. In addition, using a larger
sample size would improve statistical power, reduce the likelihood of error, and find new
characteristics of capital cost reduction and sustainability reporting standards. The study focuses on
the quantity of sustainability reporting rather than the quality of reporting. It is therefore recommended
to consider both the quantity and quality of sustainability reporting for a more accurate assessment and
clearer image of sustainability management practices. The research must be repeated to compare the
findings from a specific range with the present study on numerous problems from prior years. This
study investigated how sustainability reporting primarily affects capital cost reduction and the
preferences of the moderating variables. Other financial variables, such as corporate tax planning and
derivative products, could be studied..

The Benefit of
Sustainable
Engagement for
The Firms: Is It
Still Need
Earnings
Management?

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