The moderating role of firms’ litigation environment on the association between gender diversity and financial reporting quality

Boahen, E.O. and Mamatzakis, Emmanuel (2025) The moderating role of firms’ litigation environment on the association between gender diversity and financial reporting quality. International Journal of Managerial Finance 21 (2), pp. 546-583. ISSN 1743-9132.

Abstract

Purpose: This paper examines the interaction between female members on the board as measured by an index of gender diversity and litigation environment on financial reporting quality. Design/methodology/approach: This study draws on a sample of U.S. firms to examine the effect of gender diversity and litigation environment on financial reporting quality. Firm-specific financial data come from Compustat. To measure the firms’ litigation environment, we use state-level datasets from the Lawsuit Climate Survey conducted for the U.S. Chamber Institute for Legal Reform by the Harris Poll. Findings: Findings suggest that firm litigation environment complements gender diversity, as defined by female members on the board to subdue our first proxy for financial reporting quality (accruals-based earnings management) but our second proxy for financial reporting quality (real-activities manipulations) increases in a firm’s litigation environment. To the extent that our results hold after controlling for firms’ reputation indicates that female members on the board are sensitive to reputational loss and protect firms’ reputation in the short-term to the detriment of long-term cash flows, shareholder value, and firms’ future competitiveness. Research limitations/implications: The study is based on a specific country, limiting the generalizability of the findings. Practical Implications: The findings provide support for promoters and advocates of gender diversity in corporate boards. Specifically, it shows the importance of gender diversity policies in business and society. Originality/value: This study is the first to interact gender diversity and litigation environment. The study provides novel evidence and shows that the interaction between gender diversity and litigation environment improves financial reporting quality in the short-term (by decreasing accruals manipulation) but decreases firms’ future cashflows, shareholder value and firms’ future competitiveness in the long-term (increasing real activities). When female members on the board are constrained to engage in accruals earnings management, they shift to value-destroying and costly real activities to maintain reputation and firm performance. To the extent that we control for the potential effects of reputation and financial performance, our findings suggest that ethical concerns are likely to drive female members on the board to produce high-quality financial reports.

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