Relevance And Application Within Legitimacy Theory In Accounting Essay


How do Social Contract’s Relevance and Application within Legitimacy Theory in Accounting?



This report is aimed to explore the theory of legitimacy in the financial accounting system. In the past years, it has been seen companies were more focused on the profit earning theory and they only want to improve their performance to earn more profit (Omran and Ramdhony, 2015). However, this sole cause has lead to many social and environmental challenges like avoidance of environmental concerns which has caused pollution in the environment and poor waste management in case of industrial operation that has polluted the drinking water. Along with this, the community related poor services like child labour, discrimination and other public issues. These all examples are the real facts that have been seen in the past years. On the other hand, after much retaliation, struggle and opposition today society and environment is an important and integral part of business operation that cannot be ignored anymore in an international level (Omran and Ramdhony, 2015). Strict rules and regulation with an approach to make it a big deal for the reputed companies has highlighted the social contract and legitimacy theory to a new level.

In this report, relation between social contract and legitimacy theory regarding financial accounting has been discussed to outline the importance of society expectation in the legitimacy theory. Furthermore, the application of the legitimacy theory in the organisation’s financial account reporting has also been demonstrated in this study. It will give a brief about the theory of legitimacy and degree of legitimacy within the theory and its application (Mullerat, 2010). It will precisely illustrate the significance of fair and true view in the legitimacy theory with the side effects of portray legitimacy theory concept. Thus, this study overall elucidates the relation of legitimacy theory with the social contract and articulating its application in the financial organisation of an organisation.

Social Contract’s Relevance and Application within Legitimacy Theory in Accounting

German Advisory Council on Global Changes, (2011) highlights that legitimacy theory, stakeholder’s theory and institutional theory are system orientation theories, and these theories are aimed to operate the system of the organisation with the societal values. It examines the role of disclosure and information in the connection between organisation individual states and groups. These theories are very powerful element that pronounces organisational impact on society as well as social impact on organisations in which it operates. In this system, the organisations have several social associations with community and groups that are stakeholders and other public. The stakeholders of the company entail employees, shareholders, interested groups, investors, the public, consumer, industrial bodies, supplier, government and media. All the above theories are also related with and derived from the political economic theory. The political, social and economical framework and aspects that covers the human lives is called as the political economy (German Advisory Council on Global Changes, 2011). In addition to this, the corporate financial reports are the matter related to exchange between environment and organisation plus it cannot be considered as unbiased and neutral. The political economy theory is of two kinds that are bourgeois and classical. Classical theory of political economy is associated with Marx work; it discusses the structure conflicts, class interests, the role of the states and inequality issue. The financial accounting disclosures and reports are intended to manage a good outlook of an organisation by articulating favoured position to the stakeholders by maintaining the control of diminutive resources (German Advisory Council on Global Changes, 2011). Classic theory also focuses on the society’s structural conflict.

On the other hand, Laan, (2009) narrates that bourgeois theory of political economy is relationship between the groups in an important pluralistic world which includes the theory of legitimacy as well. Legitimacy theory is one of the most implemented theories around the world. It includes all the activities which are taken by the organisation to mark their operations as legitimate. The organisations operate within the societal norms and bounds according to their respective societies prospective. The society’s expectation including its norms and bounds are dynamic in nature and thus, the structure system of the organisations also needs to be responsive in nature. It can be used to assists the view on voluntary disclosures which examines the reason to choose it (Laan, 2009). These theories are mainly used by the organisations to manipulate and articulate the relationship between social system and organisation in terms of accounting disclosures. Legitimacy is the status that an organisation tries to achieve with the integration of value system which is accepted by the society. It is simple proving the process and operations of an organisation being valid and legal in front of society. It is also based on a notion that ensures the agreement between the society and organisation. It is very contradictory in the nature, as what is operated and functions in the organisation is not that essential but what is communicated to the society is considered as important for the legitimacy aspect (Laan, 2009). The financial and operations information disclosure is being significantly used to enter into corporate legitimacy.

As per Dushi and B?rdufi, (2015) legitimacy theory can be defined as fellowship of social norms, belief and attitude in the organisation to take the social validation and for the survival of the business. The organisation and society has an agreement which states that the business operation should be performed under the focus of social desires and expectations in exchange of rewards and objectives of an organisation. This contract helps an organisation in continuous survival of the company without any external social hurdles. Furthermore, it guarantees an organisation in supplying social benefits which are only enjoyed by firms that incorporates the corporate social responsibility and corporate governance in the organisation (Dushi and B?rdufi, 2015). In this theory organisation assumes that the company’s existence is depended on the society’s expectations and validations which also affects the value system of the organisation. It has been assumed that business or any organisation do not have an inherent right over the natural resources or community resources either. Thus, it is the burden on organisation to fulfil the societal expectations and operate the business activities according to social values, norms and perceptions organisation (Dushi and B?rdufi, 2015). In addition to this, the social contract is the integral part of the legitimacy theory; it is the conformity from the economic, legal and social aspect from the public side.

Besides that, Mousa and Hassan, (2015) reports that the social contract within the legitimacy theory is being described in two ways implicit and explicit expectation of the society according to which an organisation should conduct its business. The explicit expectation of society involves the legal requirement which is essential for the survival of the company, whereas rest of the expectation comes into the implicit expectations. In the earlier times, the increment of the performance was measured by the profit maximisation of the organisations. Now, public has changed their perceptions and views, they are more likely to look after the social, human and environmental issues which should be handled by the organisations (Mousa and Hassan, 2015). In other words, the social contract is an agreement that defines that entire resources that is utilised by the organisations in its operations are not their legal or inherent right to use. It is being allowed by the society by approving their operation and employs their community and natural resources by exchanging it with the implementation of social norms and bounds in the organisation (Mansell, 2013). Whereas, the community and natural resources are denoted with the labour, land and every resource that is draw on by the organisation to create the finished goods and services offered to the customers. Therefore, social contract is a concept that helps in augmenting the social values and consent to organisation for continuous survival with benefit from social and environmental resources as well. Social contract is essential for the prior assurance of environmental and social aspect in the operations of the company. It helps in economic, political and social aspect of the organisation (Mousa and Hassan, 2015). The political changes do not affect a company if it is bound with the social norms and values. It acts as protection for the organisations.

On the other words, Islam, (2014) identifies that significance of legitimacy theory is very vast and once the organisation is being accepted by the public, it achieves the sustainability in the market. The legitimacy theory ensures the longevity of the organisation by providing crucial resources and many benefits in the legal aspects. The foremost advantage is to provide the surety of legal compliances in the operations which is not doubted by any of the stakeholders. Legitimacy facilitates transparency and clarity in the financial reporting plus financial status of the company. Moreover, it also increases credibility of the organisation’s operations which helps them in generating capital easily plus establishing new relationship with partners and business financiers (Islam, 2014). The theory also helps in improving the relationship between the stakeholders of the company with the top level management. Incorporating the legitimacy theory gives insight of environmental and social issues that apprehend the knowledge of public. Precisely, it also helps company to attain the competitive advantage as it also integrates the innovation and creativity in the business operations of the organisation. In addition to this, it increases reputation of the organisation and market position in the market with every attempt to collaboration with the social contract in the companies operation. Legitimacy basically influences the values of organisation with impacts the organisational culture and structure entirely. Thus, it can be seen that it is very helpful in creating a positive and energetic environment in the organisational surroundings (Islam, 2014). It encourages an organisation for the future development and growth in the market.

Schaltegger, et al. (2008) explores that it has been observed that the society allows an organisation to be valid until the organisation is operating to satisfy the expectation of the society. And meeting with that requirement is often considered as legitimacy. When an organisation fails to continue the legitimacy due to scarcity of the resources or legal restrictions on operations, the support of the society become difficult to gain and recover. Thus, the solution for the organisation it left with them is to pretend the legitimacy in the operations of the organisation. However, the difficulties in coping up with the social expectations are because of capricious expectations by the community and groups (Schaltegger, et al., 2008). The adaptation and changing management process with the dynamic variables in the expectation leads to failure of compilation. The other reason of failure of performance is the deviation from society’s expectation. The community expectations are a matter of disclosure which organisations failed to convey. Sometimes, the previous unknown information is being revealed or comes into the light via media that encourages the organisation to portray the different picture of the financial accounting in the market (Schaltegger, et al., 2008). This is called as organisation shadow, when some old details that hamper the reputation of organisation, which is responsible for the legitimacy by make public believe that their operations are legitimate whether it’s true or not.

In the opinion of Idowu and Filho, (2009) legitimacy are often expounded in three phases that is gaining the legitimacy phase, maintaining legitimacy phase and repairing (defending) the lost legitimacy phase. The gaining legitimacy phase has a liability of being innovative while pursuing business operations. The communication is the key to make the society believe that organisation is integrating the social expectations and are committed to the social norms and bounds. The community and societal acceptance will only be decided with the effective communication in the gaining legitimacy phase. In case of maintaining legitimacy phase, this is the phase where organisations should track down the changing and new perception and needs of society and community (Idowu and Filho, 2009). The maintenance is related with the continuity and determined towards what you are doing already. Thus, the organisation should also perpetually follow the changes and trend with the social expectations. It also encourages the organisation to involve more and more on the trade on its legitimacy. It is very important for the organisation to make people believe on their commitment and communicate on the social value persistently which is necessary to be assembled in the operations. The last is the repairing stage that suggests regaining of the legitimacy which is a reactive process of invisible and unanticipated challenges. The expectation of society is being incorporated or communicated by implementing newness in the operations and application of damaged control in the previous mistakes or exposure should be made (Omran and El-Galfy, 2014). This phase is fully related with the researches that are being made to legitimacy theory.

As per the view of Unerman, et al. (2010) it has also been seen that legitimacy can be considered of limited use and with time it has to be abandoned. It has been researched that it creates over burden for an organisation to survive in a threat of social consequences. And the expectations are not at all static which makes it a complex process. In the previous times, it was realised in the case of a tobacco manufacturer case in Australia in the Tilling and Tilt’s research in 2010. Therefore, it can be assumed that legitimacy is not an appropriate approach to deal with the market challenges. Sometimes over burden of the expectation neglects the legitimising efforts and destroys many good and growing firms. Apart from this, it also pushes organisation to follow the unethical attempts to just being accepted by the society. The main reason of this stage of loss attempt is increment in the legitimacy gap (Unerman, et al., 2010). Legitimacy gap is related with the behaviour or actual action of the organisation synchronised with the social expectations. It has been found that the social expectation are ever changing concept and it the organisation does not contend with the same speed of time, it creates a gap between the organisations actions and expectations of the society. Along with this, social gap persuade management to pretend the falseness in the accounts and operation just to validate the social support. The gap of the legitimacy arises and the legitimate facts of the organisations behaviour disappear (Unerman, et al., 2010). It cause huge trouble after the revealing the past information by the media or researchers.

According to Bhattacharyya (2015), when any organisation failed to attempt the legitimacy theory incorporation in the organisation’s operation, many consequences occurs that can impede the survival or existence of an organisation. In other words, society lose interest from the business activities of the organisation which results in the minimisation of demand of the products and services offered by the firm, lose of labour and low applicants for new jobs and hiring. Furthermore, it may loss in the capital by expenses of the losses from the law suits or fulfilling legal requirements (Bhattacharyya, 2015). In addition to this, the organisation fails to secure his market position in the competitive stage which also causes the loss of reputation and credibility of the company. The lost credibility influences the investment and related parties that adds capital to the organisations. Investors, banks, loan providers and financers do not rely on the organisations intensions and refuse to finance or invest the organisation. Therefore, it can be felt by the above discussion that legitimacy is prime aspect that can save the resources of the company. Not only, it guaranteed the existence of the organisation, but also it ensures the public support and legal support to the company (Bhattacharyya, 2015).

Apart from this, Songini, et al. (2013) describes that the legitimacy is only related with majority of the people’s belief and accepted values. Thus, it can be modified and altered according to the management of the organisation. The only concern should be related with make people understand what is being communicated to them. It has also been suggested by Dowling and Pfeffer, that when the legitimacy is being threatened, there are three steps which can be undertaken by the organisations as follows:

  • Legitimacy can be communicated by evincing the goals, methods, output and objectives of the organisation according to the social expectation
  • The current practice of procurement of goals, values and output is being communicated in such a way that changes the interpretation towards the social legitimacy (Songini, et al., 2013)
  • Legitimacy should be concept that is used with symbols and values in the organisation which should be attempted via articulation

These steps are in order to gain the legitimacy for the first time. The social contract and binding should be articulated with the newness in an attempt to show public about the intentions of the company and their obligation towards community and the environment challenges. This theory is also being used to maintain the legitimacy in the organisation and benefit with resources provided by the society. This theory will help the firm in survival and even being competitive in the market pressures (Songini, et al., 2013).

Along with this, Hayek, (2013) explains that Lindblom has also illustrated some strategies that might be adopted and integrated in the business operations by the managers, if legitimacy is threatened in the below discussion:

  • Every change that may or may not occur as an attempt to establish the social contract should be informed and enunciated by educating the community properly
  • The perception should be focused to implement the legitimacy and not necessarily behaviour (Hayek, 2013)
  • The issue or damaged problems should be covered by manipulating the perception and diverting it to some new issue which is not related with the legitimacy or social contract aspect
  • The legal or external expectations should be changes or should be communicated to the relevant public as a portray to be changed

This theory has two important words that are ‘relevant public’ and ‘portray’. The relevant public is the targeted audience which can be influenced easily by the organisation and management (Hayek, 2013). The communication tactics is the only principle to handle the social expectation in this regard. Nevertheless, portray is to make people believe that organisation is making efforts and giving outputs according to the expectations. These strategies are related with the public disclosures of information which is one of the most paramount aspects (Hayek, 2013).

Lastly, Bather, and Tucker, (2011) illustrates that application of legitimacy theory has some points that should be kept in mind while incorporating the concept of social contract. The time parameter of the behaviour in an attempt to execute the legitimacy practices is very essential. The social expectation and organisations behaviour should support on changes is very necessary keeping the time in view. The legitimacy gap can cause problem and encourage the organisation to portray the social norms and bounds in the operations. Although, this theory is very materialistic and only communication is the tool to influence the potential public, yet ethical value is what which can stay long and prosper the organisations business. The consideration of environmental as well as community challenges should be endeavour with an aim to solve the global problem that can help the organisation to integrate social contract in the organisation. The objectives and goals of the organisations can also be depending on the legitimacy theory and with an aim to improve the social relationship with the community and environment as well. The strategies of the legitimacy are full of contradiction and its framework is very complex (Bather, and Tucker, 2011). There is a very little difference in the manipulation of facts or opportunity to influence public with effective communication skills to decisive. Organisational standards and norms should be complied with the social requirements that create interest of public in creating good reputation and image of the organisation. It can also be repeated again, that social contract is between organisation and society; therefore it is up to organisation how it manipulates the social expectation and its impact on the growth and development of the organisation. Besides that, the legitimacy theory can be applied to any of the operation and in a very creative ways. It will give liberty to the management to operate its operation smoothly with a little effort. Compliance of social norms and attempts to make it legitimate is not tough, if the business is based on the standards, policies and ethics (Bather, and Tucker, 2011).


From the above discussion, it can be inferred that social contract is an integral part of the legitimacy theory. Legitimacy theory is managing the social norms and values in the operation of the organisation, to ensure the survival of the company. Moreover social contract is the agreement between the organisation and society which states that the resources used by the organisation are not belong to them inherently. In the favour of utilising the community and natural resources such as raw material of the product, land, labour, waste and every physical asset the organisation should consider the interest of public and environment issues. It has been concluded from the literature that there are various benefits that can offer development and growth to the organisation. More than this, it helps the organisation to attain the competitive advantage and build good reputation among competitors. However, social expectations are an ever changing process that can create legitimacy gap if not watched closely. The legitimacy gap causes the failure in attempt to cope up the changes. It hampers the existence or survival of the organisation and many legal challenges resulting in financial losses. The strategies and Dowling steps to handle the failure and application of legitimacy will help the organisation to implement the legitimacy theory in the operations of the organisation.


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