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RAF
19,1 Fair value, corporate governance,
social responsibility disclosure
and banks’ performance
30 Yi Zhang and Gin Chong
Department of Accounting, Finance and MIS,
Received 10 January 2018 Prairie View A&M University, Prairie View, Texas, USA, and
Revised 30 October 2018
12 June 2019
15 August 2019
Ruixin Jia
Accepted 16 August 2019 Department of Agricultural Economics, Texas A&M University,
College Station, Texas, USA

Abstract
Purpose – The purpose of this paper is to investigate the interaction between mandatory disclosures
and voluntary disclosures of banks and the information content of corporate disclosures on firm
performance.
Design/methodology/approach – Based on the US-listed banks from 2007 to 2015, this paper examines
the interplay among the fair-value measurement, corporate governance disclosure and voluntary social
responsibility disclosure. In addition, the paper examines the extent of such disclosure of mandatory items
(fair-value measurement) versus voluntary items (corporate governance and social responsibility issues) on
banks’ performance in terms of their return on equity and return on asset.
Findings – This paper finds that banks with a higher social responsibility disclosure score and stronger
corporate governance tend to have lower percentages of Level 3 fair-value assets. Banks with a higher Level 3
fair-value asset disclosure have a lower financial performance.
Practical implications – This paper provides evidence of the interplay of various corporate disclosures
by banks and implies that banks use fair-value measurements to disguise their poor performance. The
findings provide insights for the policymakers, investors and regulators to assess banks’ disclosure.
Originality/value – This paper extends the study of banks’ fair-value measurements and is the first study
to examine the interaction between voluntary and mandatory disclosures. This study sheds lights on the
theories of performativity, agency and stakeholder by demonstrating the information contents of corporate
disclosures on firm performance.
Keywords Social responsibility, Fair value, Corporate governance, Corporate disclosure,
Bank performance, Theory of performativity, Financial performance, Agency theory,
Stakeholder theory
Paper type Research paper

Review of Accounting and
Finance
Vol. 19 No. 1, 2020
pp. 30-47
© Emerald Publishing Limited
1475-7702
DOI 10.1108/RAF-01-2018-0016
1. Introduction
Corporate disclosure is widely viewed by investors as an important corporate information
release. Various theories such as agency theory and stakeholder theory argue that firms
should use corporate disclosure as a means to communicate with outside investors. Previous
studies show that corporate disclosure can affect firm performance and stock value.
Nevertheless, not all disclosure items have equal importance to investors. Firms have both
mandatory and voluntary disclosures. There is a gap in the literature that examines
the relationship between corporate mandatory and voluntary disclosures, in particular, the
extent of interplay between these two disclosures on firms’ performance. In this paper, we
use mandatory disclosures on fair-value assets and voluntary disclosures on corporate Banks’
governance and social responsibility to help understand the interplay between these two performance
and their impact on firms’ performance.
In the aftermath of the global financial crisis, the independent Financial Accounting
Standards Board (FASB, 2006) issued the statement of financial accounting standard
(SFAS) 157 (2006) that required all the US-listed firms to disclose quantitative and
qualitative information pertaining to the fair-value valuation techniques in their financial
instruments (FASB, 2011). This additional disclosure provides greater transparency to users 31
as to how firms decide the asset valuation measurements, in particular Level 3 fair-value
measurements, whereby firms are allowed to value their assets based on their discretionary
basis. SFAS 157 defines fair value as the price between market participants in an orderly
transaction. Firms are required to report the fair value of their assets and liabilities using a
three-level fair-value hierarchy based on the nature and observability of the inputs[1]. Level
1 fair-value asset, also known as mark-to-market assets, are those traded in the active
markets. In contrast, Level 2 and Level 3 assets are illiquid assets that are mark-to-model[2].
In addition, though mandatory, firms have the option of using one of the three levels to value
and disclose their assets. Chong et al. (2012) find that the USA banks have abused Level 3
disclosures to disguise their performance, especially those with relatively poor financial
performance.
On the other hand, though corporate disclosures about environment, social and
governance (ESG) remain voluntary, they have received increasing attention to users as a
complementary to financial statements when evaluating performance. ESG embraces the
extent of disclosure on corporate engagements on environment, social responsibility,
sustainability, corporate citizenship, health and safety. The nature and relationships
between corporate social performance disclosure and financial performance have been
subject to substantial academic research but provided mixed results because of complexity
and incoherence (Adrem, 1999; Cormier et al., 2005; Neu et al., 1998), and the investigation
process is theoretically intractable and methodologically subjective (Chong et al., 2012). The
public expects firms to behave ethically and be accountable for their activities; consumers
expect goods and services to reflect the suppliers’ social and environmental responsibilities
and offer products and services at competitive prices, while shareholders look for firms that
integrate social and governance actions for their investment plans. Firms that care for social
issues today tend to reap financial returns tomorrow.
In this paper, we examine the extent to which the US-listed banks disclose mandatory
and voluntary items between 2007 and 2015. We use banks as our samples because financial
institutions are the economic backbone of a society and community and have voluminous
interactions with their stakeholders. Stakeholders build confidence based on the trust and
accountability of these institutions while global trades and transactions evolve around
the extent of transparency on banks’ activities and disclosures. First, we explore how the
performativity theory can join the agency and stakeholder theories to predict the
information contents of mandatory and voluntary disclosures and thus, help set the scenes
of developing our hypotheses. Performativity theory stipulates that market devices engage
the environment by creating individual reproduction of themselves (Callon and Muniesa,
2005; Skærbæk and Tryggestad, 2010). We consider the valuation techniques and
disclosures as market devices that may enact a firm’s own environment and performance
reporting, which means financial markets and banks’ performance depend on both the
banks’ actual performance, the expected returns and extent of disclosures of mandatory and
voluntary items in the financial statements. Based on the agency and stakeholders’ theories,
firms use disclosures to cater to regulatory requirements and stakeholders’ needs. Therefore,
RAF corporate disclosures may be linked to firms’ performance. Second, we examine the
19,1 relationships between voluntary social or governance disclosures and fair-value valuation
methods. Chong et al. (2012) provide evidence that banks’ disclosures on fair-value
measurements, in particular Level 3-valuation method, are linked to banks’ earnings
management. Though disclosures of fair-value methods are mandatory, firms have the
option of adopting the level and extent of disclosing the firms’ values. We extend
32 Chong et al. (2012) study to include banks’ disclosures of voluntary items on firms’
performance. Our findings indicate that banks with a higher level of social responsibility
disclosure and stronger corporate governance have a lower percentage of Level 3 fair-value
assets. These findings suggest that banks with a stronger governance and exert more
emphasis on social responsibility are less likely to use fair-value measurements to manage
their earnings. Finally, we examine the impact of disclosure on banks’ performance in terms
of return on asset (ROA) and return on equity (ROE). The results show that banks that use
more Level 3 fair-value measurements for asset valuation tend to have a lower performance.
This supports the notion that banks use fair-value measurements to disguise their poor
performance. However, we do not find any significant effect of governance or social
responsibility disclosures on banks’ performance. In sum, our findings suggest that
mandatory disclosures have a stronger relationship with firms’ performance than voluntary
disclosures.
Our paper contributes to the literature in the following aspects. First, this study helps us
understand the extent of banks’ selecting and disclosing mandatory and voluntary items in
their financial statements. We conclude that banks use Level 3 fair-value disclosures to
disguise their poor performance. Second, we contribute to the literature on the effect of
corporate governance on corporate behavior. We find banks with stronger corporate
governance are less likely to engage in earnings management through fair-value
measurements. Third, to the best of our knowledge, this paper is the first paper to examine
the relationships between mandatory disclosures using the fair-value measurement methods
and voluntary disclosures using the corporate social responsibility (CSR). Because of all
these factors, our results provide valuable insights on how firms behave when disclosing
items in their financial statements, and how the extent of disclosures may reflect firms’
performance. Regulators and users of financial statements (e.g. large shareholders) need to
pay attention to the nature and the extent of disclosures on both mandatory and voluntary
items. Over and under disclosures may confuse users and distract them from key issues in
the reporting statements. This study provides new insights on the interaction between
financial markets and corporate governance. The paper is organized as follows. Section 2
provides theoretical frameworks for our study. Section 3 describes the related literature and
develops our hypotheses. Section 4 describes data and empirical methodology. Section 5
presents empirical findings and analysis. Section 6 discusses robustness check and Section 7
concludes this study.

2. Theoretical background
2.1 Performativity theory
Performativity assumes market devices engage the society and community by creating
individual reproduction of themselves (Callon and Muniesa, 2005). A market device is a static
entity that is created for an unexercised purpose or a phenomenon that it enacts with its local
and global situations and environment (Callon, 2005; Muniesa and Callon, 2007). Business
organizations use market devices, business techniques and linguistic prescriptions to
improve operations and to identify areas for improvements. Theoretically, firms’ existence,
survival, success and performance depend on the surrounding environment and productivity.
The techniques that portray firms’ success stories depend on the disclosure of the extent of Banks’
their participation in contribution to local communities. Disclosures in the financial and performance
supplementary statements provide opportunities for firms to project their involvements in
ESG activities. Through these activities and disclosures, communities continue to lend their
support to firms’ survival and growth (Skærbæk and Tryggestad, 2010). We postulate that
the extent of mutual support between firms and stakeholders will lead to a momentum on
performance and productivity.
In this paper, we establish a link between the theory of performativity and the extent of 33
disclosing fair-value valuation techniques and social governance issues. More specifically,
we consider the valuation techniques and disclosures as market devices that enact firms’
own environment, that is, the financial market and the stakeholders. Mouritsen (1999) shows
that accounting devices shape the interactions between actors and their environments.
Disclosures and performance tend to be inter-related and their inter-relationship eventually
becomes a successful business technique to improve firms’ operations, survival and to help
make the predictions on their involvements to the communities and stakeholders more
accurate and reliable (MacKenzie et al., 2007).

2.2 Agency theory

Agency theory views a firm as a nexus of contracts between various economic agents who
act opportunistically within an efficient market (Reverte, 2008). Gray et al. (1996) conclude
that managers use a firm’s information to meet or in some cases, manipulate influential
stakeholders to garnish support for survival while Cowen et al. (1987) suggest that
consumer-oriented firms are concerned about their corporate images for improving their
turnover and performance. Cormier et al. (2005) support the notion that the theory focuses
only on firms’ monetary returns or wealth creations. In fact, firms and organizations exist
not just for monetary returns, but also for providing knowledge and awareness to the local
and general public. Reverte (2008) and Yamak and Suer (2005) reveal that this principal-
agent theory may not work for the nonprofit organizations whose main intention is to
provide care and provisions for little or no returns in sight. Similarly, regulated industries,
including financial, utilities, medical services and education, exist to provide adequate social
services to the locals and the needed ones. Even the profit-seeking organizations, apart from
in line with the majority, should care for the interests and well-being of the minority
shareholders and stakeholders. Disclosures on mandatory and voluntary items become a
bridge between principals and agents on understanding and appreciating performativity of
an organization. To gain continuing support, firms use voluntary disclosure items to
compensate for their otherwise lack in performance and image. The intention is to distract
users from firms’ weakness and instead bring attention to firms’ relative strength in other
areas or activities. In this paper, we use the agency theory to assess the extent of agents
using their reporting opportunity to disguise and distract their performance.

2.3 Stakeholder theory

Stakeholder theory implies that a firm is responsible for all the stakeholders (Garriga and
Melé, 2004). Managers tend to cling to their power and authority through their influence
over those who deal directly with the firm including their employees, vendors and buyers.
Their legitimacy of relationships with the firm, and their claims on providing priorities to
those who have the control in power including the regulator and professional bodies
(Mitchell et al., 1997), resources and space have become vague and at times questionable.
The stakeholder theory stipulates that firms tend to prioritize their own stakeholders over
the community or the society as a whole. Deegan et al. (2002) concludes that firms should be
RAF part of a broader social system if they impact, or are impacted by, other groups within and
19,1 outside the communities and society. Continuous interactions should continue for the firms
to grow, co-exist and to expand. Positive, genuine and continuing dialogs between a firm
and its stakeholders will eliminate misunderstandings and mistrust. Because of their vast
and diverse range of stakeholders, firms use disclosures in the financial statements as a
mean to communicate and project their continuing contributions and supports to the
34 communities.

3. Literature review and hypothesis development

This paper uses the performativity theory, agency theory and stakeholder theory and the
related literature to build the hypotheses on two segments: the relationships between
multiple disclosures – fair value, social responsibility and corporate governance – and the
extent of these disclosures on firms’ performance.
Firms disclose mandatory and voluntary items in their financial statements. Mandatory
reporting arises because of legal requirements or code of compliance, including GAAPs, while
voluntary reporting is at a firm’s discretion. SFAS 157 requires all the US-listed firms to
disclose fair valuation techniques on their assets according to Levels 1, 2 or 3 in their financial
statements. Level 3 asset valuation is at the managerial discretion. Corporate governance is the
internal control mechanism that oversees managers in disclosing items in a fair basis and
ensures managers act in the best interest of the shareholders. Chong et al. (2012) find that the
USA banks use fair value measurement, in particular Level 3 measurement, to manage their
earnings. Song et al. (2010) provide direct evidence that managers are motivated to use fair
values to report earnings greater than the target and to reduce loss positions in the available-
for-sale securities, and the value relevance of fair values is greater for firms with strong
corporate governance. Fields et al. (2001) find banks with weak corporate governance tend to
use various instruments to manipulate their accounting outcomes. Therefore, corporate
governance is expected to be associated with firms’ earnings management activities. More
specifically, we expect that firms with stronger corporate governance will be less likely to
use Level 3 fair-value measurements to manage their earnings. Based on the above discussions,
we develop our first hypothesis as follows:

H1. Bank’s fair-value measurement is related to its corporate governance.

Disclosure of items, mandatory or otherwise, is meant for stakeholders to make sound and
informed decisions. The agency theory and information asymmetry provide the framework
linking various corporate disclosures. Firms can use disclosures of governance and social
responsibility to provide signals on the quality of their management while market
participants might judge the quality of firms’ reported financial information based on
corporate governance and the voluntary disclosure. Both Yamak and Suer (2005), and
Branco and Rodrigues (2008) examine the relationships between disclosures of CSR among
the Portuguese banks for 2004-2005. They conclude that those banks with a higher visibility
tend to disclose more CSR items in the financial statements. Neu et al. (1998) also argue that
borrowers use CSR disclosure as a tool to build their images and reputations on the extent of
their contributions to the well-being of the societies. Greater transparency and
accountability of the individual banks and the banking sector help improve the level of trust
and the continuing financial supports from their investors. When SFAS 157 becomes
effective and fair-value disclosure becomes mandatory, firms can use voluntary disclosures
to project positive image to influence the view of investors on the credibility of their fair-
value measurements. In short, firms can use voluntary disclosures to either convey
transparency of their financial reports or, in the other extreme, distract investors and
disguise their financial performance. With this in mind, we expect an inter-relationship Banks’
exists between fair-value measurement and voluntary disclosures such as CSR disclosures. performance
The exact relationship becomes an empirical issue. Thus, we develop the following
hypothesis:

H2. Bank’s fair-value measurement is related to its social responsibility disclosure.

For the valuation techniques, we assume banks select the best possible methods to optimize 35
the pricing of their assets in reflecting the fair values. From the financial statements, we
assess on how banks select their valuation techniques. The extent of disclosures helps us to
understand the extent of firms using and abusing the fair-value techniques, in particular
Level 3 measurements, on their performance, especially earnings and asset returns. The
performativity process occurs when the valuation techniques are treated as inanimate
objects, written and created for an unexercised purpose and justified by the accounting
profession as a legitimate market device. Further, the performative process involves the
actors, in this case, managers of the banks, who interact with the market devices to allow
them to enact with the environment while trying to comply with the expectations and
regulatory constraints. The intensity of using market devices may have an impact on firms’
returns and performance. The extent of using the device depends on the management in
identifying the valuation techniques that deem to fit well with the firm’s vision, while
creating the most returns, benefits or profits to the stakeholders and communities. This self-
fulfilling prophecy to reflect on their achievements, contributions and images, is in return for
the continuing supports from the stakeholders in particular the stockholders. In view of this,
we expect that firms select the valuation techniques and extent of disclosures that enhance
their firm performance. However, firms may use the discretionary valuation measure to
manage earnings. In line with findings of prior studies (Song et al., 2010; Barth et al., 1990;
Moyer, 1990) on the extent of disclosing Level 3 inputs by the US commercial banks and the
earnings management, Chong et al. (2012) find that the USA banks with poor performance
tend to have higher percentage of Level 3 assets. We speculate that banks use Level 3 of fair-
value measurements to disguise their relatively poor performance. Therefore, we establish
the following hypothesis:

H3. Bank’s performance is related to its fair-value measurement.

The relationship between disclosure and firm performance has been widely examined but
prior research has arrived at mixed results. Corporate disclosures can provide signals of
firms’ performance and reduce information asymmetry. Corporate engagements in
governance and social responsibility help can improve firms’ images, establish good
relationships with clients and thus, enhance firms’ performance. Studies such as Waddock
and Graves, 1997; Bowman, 1978; Preston, 1978 and Anderson and Frankle, 1980, find a
positive relationship among CSR engagements in firm performance. However, if the costs of
corporate social and governance engagements outweigh the benefits, this will impair a
firm’s performance. Some studies (Griffin and Mahon, 1997; Alexander and Buchholz, 1982;
Aupperle et al., 1985; Ullmann, 1985) find a negative relationship between CSR engagement
and firms’ performance. The measurement difficulty of corporate social and governance
performance leads to many unobserved relationships found in previous studies. For
example, McWilliams and Siegel (2000) argue that there are too many intervening variables
to observe any direct relationship between financial performance and CSR. El Khoury
(2018), among others, examines the impact of corporate governance on the profitability of
banks and finds mixed results on various governance variables. The inconclusive results on
RAF the relationships between corporate governance and social responsibility engagements have
19,1 prompted us to examine whether firms use voluntary disclosures to signal their good
performance or to disguise their poor performance. Our last hypothesis is as follows:

H4. Bank’s performance is related to its corporate governance and social responsibility
disclosure.
36
4. Data and methodology
Our sample includes all the US-listed banks available on Bloomberg from 2007 to 2015.
Bloomberg has its ESG score indicating the disclosure level of the firms in terms of
environment, social and governance. Bloomberg compiles ESG data from published
disclosures and news items and turns into one number – the disclosure score. The
Bloomberg disclosure score measures the transparency: the more information disclosed,
the higher disclosure score. We use Bloomberg’s social responsibility score and governance
score in this study. We also collect fair-value assets of banks from Bloomberg. While
regulators do require financial institutions to disclose the techniques used to value financial
instruments, the data collected in our sample suggest that financial institutions are reluctant
to provide detailed information. Figure 1 indicates the number of banks with reported fair-
value assets and social responsibility score per year. Our sample includes 244 banks. The
number of banks with reported fair-value assets increased yearly from 7 in 2007 to 236 in
2015 while the number of banks with social responsibility disclosure increased more slowly
from 6 in 2007 to 59 in 2015.
For bank performance and other control variables, we collect from Compustat annual
data set. Following previous studies (Waddock and Graves, 1997), we use ROE and ROA to
measure bank performance. Following the Chong et al. (2012), we use the logarithm of firm
assets, leverage, operating cash flow and provision for loan loss as control variables in the
regression of fair-value measurement. In the examination of bank performance, we add tier 1
capital ratio and operating profit margin as additional control variables. Previous studies

250

200

150

100

50

Figure 1. 0
Disclosure sample 2007 2008 2009 2010 2011 2012 2013 2014 2015
size over time # of banks reporng fair value # of banks disclosing social responsibility
(Mehran and Thakor, 2011) show the bank’s capital requirement will affect its financial Banks’
performance. Therefore, we use tier 1 capital ratio as one of our control variables. Table I performance
defines the variables used in this paper.
We use the pool data of banks and run multivariate regressions to examine the interplay
of fair-value measurement, social disclosure and corporate governance. We also run
multivariate regressions on bank performance to investigate the impact of disclosure. To
mitigate the potential multicollinearity and endogenous issues in the regressions, we have 37
conducted multiple robustness tests.

5. Results
Table II presents the descriptive statistics of our variables. On average, 4.79 per cent of the
assets use Level 1 input while 2.96 per cent uses Level 3 input. This statistics indicates that
banks use Level 2 inputs for valuing the majority of their assets. At the 25th percentile, we
find that there is a zero percentage for Level 3 inputs, indicating at least 25 per cent of banks
do not use Level 3 inputs to value their assets. Since the variable of Level 3 percentage is

Variable symbol Variable definition

L1% The percentage of assets classified as Level 1 under FAS fair valuation
L2% The percentage of assets classified as Level 2 under FAS fair valuation
L3% The percentage of assets classified as Level 3 under FAS fair valuation
ROA Annual net income from the income statement divided by the total assets
ROE Annual net income divided by shareholder’s equity
SOCIAL Social responsibility disclosure score
GOV Corporate governance disclosure score
LGTA The logarithm of total assets
LEV The ratio of total liability to total assets at the end of the year
OCF Annual operating cash flows scaled by the total assets
PFLL Annual provision for loan loss scaled by the annual net income
PM Operating profit margin
CAPR1 Capital ratio-tier 1 Table I.
DUMMY Dummy variable = 1 if the firm has social responsibility disclosure score and 0 otherwise Variable definition

Variable Mean 5th Pctl 25th Pctl 50th Pctl 75th Pctl 95th Pctl SD

L1% 0.0479 0.0000 0.0001 0.0068 0.0403 0.2073 0.1169

L3% 0.0296 0.0000 0.0000 0.0050 0.0252 0.1406 0.0684
ROA 0.7755 0.2724 0.6186 0.8778 1.0936 1.5026 0.7818
ROE 6.8929 4.5682 5.1902 8.0779 10.4290 14.9252 9.6054
SOCIAL 11.7666 3.3333 3.3333 8.3333 11.6667 36.6667 12.2350
GOV 50.1632 48.2143 48.2143 48.2143 51.7857 57.1429 4.7591
LGTA 8.2368 6.4565 7.1816 7.8948 8.7545 11.7064 1.5621
LEV 0.8893 0.8396 0.8780 0.8948 0.9104 0.9300 0.0489
OCF 0.0120 0.0055 0.0086 0.0127 0.0170 0.0297 0.0211
PFLL 0.7837 1.6749 0.0517 0.1968 0.5299 3.1791 8.0452
PM 8.6182 0.0002 0.0444 0.2134 0.7791 7.1768 57.3168
CAPR1 13.1656 8.8400 11.0200 12.6900 14.4100 18.6200 3.5371 Table II.
DUMMY 0.3265 0.0000 0.0000 0.0000 1.0000 1.0000 0.4691 Descriptive statistics
RAF quite skewed, those extreme values may bias our results. We winsorize the Level 3
19,1 percentage at 5 and 95 per cent in regressions.
The average social disclosure score of our sample is 11.77 with a range of 3.33 (5
percentile) and 36.37 (95 percentile). The average corporate governance score of our sample
is about 50 with small variations. The voluntary disclosure score on banks’ social
responsible activities is much less than the disclosure score of corporate governance. The
38 mean (median) size of our sample banks in terms of logarithm of total assets is 8.24 (7.89).
The average financial leverage of our sample is 89 per cent. The mean (median) of ROA is
0.78 per cent (0.88 per cent) while the mean (median) of ROE is 6.89 per cent (8.08 per cent).
The average cash flow from operation as a percentage of total assets is about 1.2 per cent.
The median allowance for loan loss is about 20 per cent of net income with a large standard
deviation. The profit margin of banks in our sample has a large variation with a median of
21 per cent. The average tier 1 capital ratio is about 13 per cent. In our sample, only about
one-third of banks disclose their engagements in social responsibility.
We present the Pearson correlations between variables in Table III. The percentage of
Level 3 assets is negatively correlated with ROA and ROE, indicating banks with higher
level of leverage 3 assets tends to have lower performance. The percentage of Level 3 assets
is negatively correlated with corporate governance score. These correlations indicate that
firms with stronger governance tend to use less Level 3 fair-value inputs. The negative
correlation between the percentage of Level 3 assets and social disclosure score is
insignificant, but the dummy variable of social disclosure shows a significant negative
correlation with the percentage of Level 3 assets, indicating firms who disclose social
responsibility have less percentage of Level 3 assets than firms who do not disclose any
social responsibility activities. The high correlation between social disclosure score and
governance score is observed, suggesting that firms with stronger governance tend to be
more likely to voluntarily disclose their social responsibility activities. The potential
multicollinearity issue because of this high correlation will be considered in the following
regressions. In addition, the Level 3 percentage is positively correlated to firm size and
negatively correlated to tier 1 capital ratio. The ROA and ROE are significantly negatively
related to governance score but insignificantly related to social disclosure score. We also
find banks with social disclosures tend to be larger banks, and larger banks tend to have
stronger corporate governance.
To examine how the disclosure of social responsibility and corporate governance affect
banks’ usage of Level 3 fair value, we run ordinary least square regressions and control for
explanatory variables found in the previous literature and year-fixed effect. Considering the
possible clustering effect in the sample, we use heteroscedasticity-robust standard errors
clustered by firm. Table IV presents the results of regressions. Consistent with Chong et al.
(2012), L3per cent is significantly positively associated with firm size (LGTA) while
significantly negatively associated with leverage and ROA (column 1). When we add the
corporate governance score into the regression (column 2), L3per cent is negatively and
significantly associated with corporate governance, suggesting that banks with stronger
governance tend to use lower Level 3 inputs for asset valuation. Similarly, we find L3per
cent is negatively related to the social disclosure score (column 3), but the relationship
becomes insignificant after the control of governance score (column 4). The alternative
dummy variable of social disclosure is negatively related to L3per cent even after the control
of corporate governance. Our results indicate that banks with voluntary disclosure on their
social responsibility activities tend to have less assets using Level 3 measurement. These
results support our H1 and H2 that there is a relationship between multiple corporate
Variable L1% L3% ROA ROE SOCIAL GOV

L3% 0.0652 (0.0327)

ROA 0.0455 (0.1364) 0.0940 (0.0021)
ROE 0.0393 (0.199) 0.0895 (0.0034) 0.9489 (<0.0001)
SOCIAL 0.1566 (0.0033) 0.0299 (0.577) 0.0048 (0.9294) 0.0037 (0.9447)
GOV 0.0874 (0.0042) 0.1535 (<0.0001) 0.0654 (0.0323) 0.0620 (0.0425) 0.7601 (<0.0001)
LGTA 0.0424 (0.1657) 0.0686 (0.0248) 0.0148 (0.6288) 0.0117 (0.7018) 0.1559 (0.0035) 0.0125 (0.682)
LEV 0.0137 (0.6534) 0.0111 (0.7164) 0.0109 (0.7205) 0.0026 (0.9314) 0.0365 (0.4956) 0.0075 (0.8056)
OCF 0.0028 (0.9269) 0.0048 (0.8765) 0.0041 (0.893) 0.0040 (0.8966) 0.0491 (0.3602) 0.0218 (0.4759)
PFLL 0.0148 (0.631) 0.0034 (0.9122) 0.0296 (0.3355) 0.0268 (0.3833) 0.0229 (0.6708) 0.0051 (0.8681)
PM 0.0533 (0.0822) 0.0418 (0.1729) 0.0120 (0.697) 0.0054 (0.8616) 0.0334 (0.5373) 0.0507 (0.0981)
CAPR1 0.0540 (0.0783) 0.1008 (0.001) 0.0813 (0.0079) 0.0260 (0.3976) 0.1123 (0.0376) 0.1114 (0.0003)
DUMMY 0.0564 (0.0649) 0.2411 (<0.0001) 0.0416 (0.1733) 0.0408 (0.1815) 0.5145 (<0.0001)

Note: This table presents correlation coefficients with p-values in parentheses and significant correlations are in italic
(continued)

Table III.
Banks’

Pearson correlation
39
performance
 40
19,1
RAF

Table III.
Variable LGTA LEV OCF PFLL PM CAPR1

L3%
ROA
ROE
SOCIAL
GOV
LGTA
LEV 0.0249 (0.4148)
OCF 0.0803 (0.0085) 0.0053 (0.8631)
PFLL 0.0234 (0.4459) 0.0538 (0.0799) 0.0840 (0.0062)
PM 0.4971 (<0.0001) 0.0131 (0.6685) 0.0593 (0.0529) 0.0012 (0.9702)
CAPR1 0.0354 (0.2481) 0.0268 (0.3825) 0.0078 (0.7994) 0.0086 (0.7808) 0.0046 (0.8813)
DUMMY 0.0847 (0.0055) 0.0417 (0.1723) 0.0064 (0.835) 0.0281 (0.3611) 0.0810 (0.0082) 0.1109 (0.0003)
Dependent variables L3%(1) L3%(2) L3%(3) L3%(4) L3%(5)

Intercept 0.0666 (0.0338)** 0.0231 (0.035) 0.1179 (0.0792) 0.0594 (0.0836) 0.0178 (0.0353)
LGTA 0.0015 (0.0007)** 0.0015 (0.007) *** 0.0052 (0.0015) *** 0.0048 (0.0015) *** 0.0012 (0.007) *
LEV 0.0745 (0.037) ** 0.0692 (0.036) ** 0.1586 (0.0864) * 0.1515 (0.0859) * 0.0743 (0.0355) **
ROA 0.0014 (0.0010)* 0.0015 (0.0015) 0.0052 (0.0029) * 0.048 (0.0029) * 0.0012 (0.0014)
OCF 0.0298 (0.0529) 0.0215 (0.0515) *** 0.1636 (0.1342) 0.1682 (01334) 0.0227 (0.0507)
PFLL 0.0001 (0.0001) 0.0001 (0.001) 0.0001 (0.003) 0.0001 (0.0003) 0.0001 (0.0001)
GOV 0.0017 (0.0002) *** 0.0012 (0.006) ** 0.0010 (0.0003) ***
SOCIAL 0.0003 (0.0002) 0.0001 (0.0003)
DUMMY 0.0155 (0.0027) ***
Year fixed effect Yes Yes Yes Yes Yes
Adjusted R2 0.1063 0.1502 0.1890 0.1966 0.1754

Notes: Significance at: *1, **5 and ***10 per cent levels. The dependent variable is the percentage of assets classified as Level 3 under FAS fair valuation and
winsorized at 5% and 95%. Heteroscedasticity-robust standard errors clustered by firm are reported in parentheses

fair value
Table IV.
Banks’

41

Regression of L3%
performance
RAF disclosures. We find banks with stronger governance and voluntary social responsibility
19,1 disclosure have less assets valued using Level 3 measure.
To explore the information contents of the fair-value measurement and social or
governance disclosures, we examine their impact on bank performance in terms of ROA and
ROE. This impact can help understand the potential purpose of firms using various
corporate disclosures. Table V Panel A presents regression results of ROA while Panel B
42 presents regression results of ROE. For our control variables, only firm size is significantly
positively related to ROA and ROE. Bank performance is not significantly related to
corporate governance. Higher Level 3 percentage (column 2) has lower returns on assets and
lower returns on equity. These relationships remain the same even after controlling for
governance and social disclosures. These results support our H3 that fair-value
measurement is related to firm performance. Banks with higher percentage of Level 3 assets
have lower ROA, confirming the negative relation found in the Pearson correlation Table III
and regression results of Table IV. Our results suggest that banks use fair-value
measurement to disguise their poor performance. The social disclosure score is not
significantly related to bank performance as shown in the column 3 and 4 as coefficients on
social score or dummy variable for social disclosure are insignificant. Our results do not
support our H4 because we do not find significant impact of voluntary disclosures on bank
performance. The measurement issue of corporate governance and CSR may explain the
unobservable relationship. Our results may be biased because of relative small sample
size of voluntary disclosure. In addition, the voluntary disclosure of social responsibility
may be used for firms to influence investors and thus affect firm’s stock price that deserves
future research.

6. Robustness check
We conduct a robustness check for our empirical studies in the following dimensions. First,
we examine the potential impact of outliers. As shown in the summary statistics of Table II,
the Level 3 percentage has many extreme values, so we winsorize the variable at 5 and 95
per cent and use the winsorized data in the regressions. The results without winsorization
do not materially change[3]. Second, we consider potential multicollinearity issues in our
regressions. Firm size may be correlated with the type of assets held by banks, and capital
ratio may correlate with the manager’s choice of valuation levels (Song et al., 2010). In
addition, we found a high correlation of firm size with firm’s profit margin in Table III. We
run additional regressions without firm size or capital ratios but all of our results still
hold[4]. Third, we explore the potential endogeneity issue for disclosures. It is likely that
disclosure decisions are because of manager or firm characteristics that are either
unobservable or omitted in our regressions. It would be difficult to address endogeneity
issue fully in our study. One method to address endogeneity is to use fixed effect. However,
our sample has different banks in different years, and the time-series variation in disclosure
variables is small. Therefore, we cannot adopt fixed effect regressions. The two-stage least
square is an alternative method to address endogeneity but exogenous instrument variables
for disclosures are difficult to find. As shown in Table III, the correlation of corporate
governance disclosure score and social responsibility disclosure score is 0.76. The main
concern in our study is there are unidentified variables related to all three disclosures in our
study. Therefore, we attempt to partially mitigate endogeneity of disclosures by running
regressions of each disclosure on the other disclosure to capture the part that contributes to
both disclosures. Then, we use the residue of regression that is orthogonal to the
independent disclosure variable in the regression. Table VI reports main results of
Dependent variables ROA(1) ROA(2) ROA(3) ROA(4) ROA(5) ROA(6)

Panel A. ROA
Intercept 0.0935 (0.4457)** 0.8945 (0.2831)*** 1.4672 (1.3438) 0.9345 (0.288)*** 0.9897 (0.4245)** 1.1501 (0.4342)***
LGTA 0.0269 (0.0157)* 0.0251 (1.23)* 0.0452 (0.0248)* 0.0244 (0.0160)* 0.252 (0.0153)* 0.0223 (0.0156)
LEV 0.3420 (0.2861) 0.3347 (0.2758) 1.0355 (1.5356) 0.3633 (0.2785) 0.3329 (0.2761) 0.3556 (0.2574)
PM 0.0005 (0.0005) 0.0005 (0.0005) 0.0004 (0.0006) 0.0005 (0.005) 0.0005 (0.005) 0.0004 (0.0005)
CAPR1 0.0096 (0.0101) 0.0011 (0.0105) 0.0022 (0.0171) 0.0102 (0.0101) 0.0109 (0.0105) 0.0111 (0.0104)
GOV 0.0003 (0.0069) 0.0020 (0.0066) 0.0048 (0.0074)
L3% 1.0157 (0.6930)* 1.0702 (0.7903)* 0.9598 (0.7345)*
SOCIAL 0.0011 (0.043)
DUMMY 0.0573 (0.0634) 0.0645 (0.0777)
Year fixed effect Yes Yes Yes Yes Yes Yes
Adjusted R2 0.1221 0.1242 0.1974 0.1232 0.1234 0.1237
Dependent variables ROE(1) ROE(2) ROE(3) ROE(4) ROE(5) ROE(6)
Panel B. ROE
Intercept 10.3344 (5.4563)** 8.9883 (3.4933)** 3.5257 (16.751) 4.9703 (0.87) 10.8416 (5.3537)** 12.3145 (5.4556)**
LGTA 0.2780 (0.1826)* 0.2605 (0.1823)* 0.4150 (0.2828)* 0.2312 (1.05)* 0.2629 (0.1798)* 0.2428 (0.1839)*
LEV 2.8278 (3.4087) 2.7798 (3.4549) 2.7871 (19.183) 0.4398 ( 0.07) 2.7460 (3.4387) 0.2.9544 (3.2680)
PM 0.0049 (0.0058) 0.0042 (0.0058) 0.0139 (0.063)** 0.0042 (0.0057) 0.0044 (0.0058) 0.0039 (0.0057)
CAPR1 0.0233 (0.0916) 0.0088 (0.0951) 0.0791 (0.2254) 0.0161 (0.0922) 0.0115 (0.0954) 0.0092 (0.0956)
GOV 0.0230 (0.086) 0.0380 (0.0827) 0.0642 (0.0969)
L3% 8.6116 (5.1430)** 9.6747 (6.2105)* 8.6604 (5.1814)*
SOCIAL 0.0243 (0.0540)
DUMMY 0.4224 (0.8042) 0.5920 (1.0152)
Year fixed effect Yes Yes Yes Yes Yes Yes
Adjusted R2 0.0956 0.0964 0.1450 0.0959 0.0959 0.0956

Notes: L3% is winsorized at 5% and 95%. Heteroscedasticity-robust standard errors clustered by firm are reported in parentheses. Significance at: *1; **5 and
***10 per cent levels

Table V.
Banks’

Regression of bank
43

performance
performance
RAF Dependent variables L3% Dependent Variables ROA ROE
19,1
Intercept 0.1202 0(0.0768) Intercept 1.6294 (1.2974) 5.759 (15.911)
LGTA 0.0048 (0.0015)*** LGTA 0.0507 (0.0255)** 0.4826 (0.2936)*
LEV 0.1515 (0.0859)* LEV 1.1905 (1.4914) 0.7268 (18.312)
ROA 0.0048 (0.0029)* PM 0.0001 (0.0007) 0.0104 (0.0082)
OCF 0.1682 (0.1334) CAPR1 0.0039 (0.0185) 0.1645 (0.2415)
44 PFLL 0.0001 (0.0003) L3% 1.1281 (0.6621) 17.1744 (26.025)
GOV (residue) 0.0023 (0.0008)*** GOV (residue) 0.0135 (0.0191)* 0.1704 (0.2578)*
SOCIAL (residue) 0.0008 (0.0004)* SOCIAL (residue) 0.0017 (0.0102) 0.0451 (0.131)
Year fixed effect Yes Year fixed effect Yes Yes
Adjusted R2 0.1966 Adjusted R2 0.1987 0.1463

Notes: To address the endogeneity of disclosures, we regress GOV on SOCIAL to obtain the residue as
GOV (residue) and we regress SOCIAL on GOV to obtain the residue as SOCIAL (residue). L3% is
Table VI. winsorized at 5% and 95%. Heteroscedasticity-robust standard errors clustered by firm are reported in
Robustness checks parentheses. Significance at: *1; **5 and ***10 per cent levels

regressions using residues of disclosure variables[5]. The main results of variables of

interest do not materially differ from our previous results.

7. Conclusions
Banks are the major contributing sector to support economic stability and growth of a
community and nation. They have high visibility to the public and have a wide range of
stakeholders. The extent of transparency and accountability of an individual bank and the
sector as a whole are crucial for improving the level of trust, accountability, transparency
and commitments to the financial markets and society. Corporate disclosures are the only
mean that banks could transmit their results, contributions and activities to the
stakeholders. The extent and choice of corporate disclosure could provide signals to outside
stakeholders. Investors and individual customers rely on the trust and confidence that they
have on their financial suppliers while the regulators constantly assess performance and
extent of reliability of disclosure. All the listed firms, including banks, are obligated to
disclose the mandatory disclosure items in their financial statements. This includes the fair-
value measurements techniques. For the voluntarily disclosure items, firms may use these
as options to disguise their performance or to project a much positive image to boost
confidence to the stakeholders and regulators.
This study is the first to examine the interplay between different disclosures of banks.
We examine the relationship between mandatory disclosure (fair-value techniques) and non-
mandatory disclosure (corporate governance and social responsibility) of the US-listed
banks. SFAS 157 requires firm to disclose the valuation techniques of their assets and
liabilities but leaves room for the firms to choose valuation techniques. The intensity of the
use of different level of fair value becomes the discretion of the firm and has found in
previous studies to be related to corporate earnings management and firm performance. We
find banks with higher disclosure score of social responsibility and stronger corporate
governance use less Level 3 valuation. However, banks with higher Level 3 fair-value
measurements tend to have lower financial performance. Our results suggest that banks
with stronger corporate governance use voluntary disclosures as a device to convey the
good practice of the firm to investors to build their image, but banks may use the fair-value
measurements to disguise their poor performance.
 In line with other research, this study suffers the limitation of using information solely Banks’
from one source: the financial institutions. Future research could extend the comparisons performance
between sectors and across international borders. Another approach is to engage small
groups of professionals and regulators in semi-structured interviews and forum discussions
to understand the underlying rationales of using the valuation techniques and the impact on
disclosure. Dialogs with firms will help financial statements users understand the
underlying reasons and criteria for selecting a particular fair-value techniques and 45
voluntary items for the disclosure purposes. Use and abuse of disclosures may benefit the
reporting firms but may cause confusions to users to focus on significant and material items
in the financial statements (Chong, 2015). More specifically, the findings allow us to deepen
our comprehension of the relationships between the intensity of our constructs, namely,
intensity of disclosing governance and social responsibility issues that may have
ramifications and the financial and non-financial issues. The quest for more answers and
having continuing conversations with the stakeholders including regulators, stockholders
and preparers should continue.

Notes
1. Level 1 inputs are quoted prices in active markets, Level 2 inputs are data adjusted for similar
items traded in active markets, or from identical or similar items in markets that are not active
and Level 3 inputs are unobservable and generated by the entity itself.
2. Mark-to-model means that the firm uses a valuation model to derive the fair value of the asset.
This is unlike mark-to-market that uses market prices of an identical asset as the fair value of the
asset. As an aside, we note that the so-called “toxic assets” of banks are almost always mark-to-
model assets.
3. Results will be provided upon request.
4. Results will be provided upon request.
5. To save space, only main results are reported and complete results will be provided upon request.

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Corresponding author
Yi Zhang can be contacted at: yizhang@pvamu.edu

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