Does internal control quality improve earnings persistence? Evidence from China's a-share market

Abstract

l We examine whether the improvement of internal control quality can enhance the earnings persistence after mandatory disclosure of internal control self-evaluation and internal control audit in China's listed companies. We aim to see the economic effect of this policy. l For a more detailed analysis, we first divide the accounting earnings into cash flows and accruals, then we group the whole sample by ownership structure —— SOEs and Non-SOEs. l We build the internal control quality comprehensive index from the view of external investors. So only the internal control quality data which can obtained from public is chosen in our modeling. l Not surprisingly, the impact of internal control quality on accruals persistence is stronger than that on cash flows persistence. Investors believe that comparing with cash flows, accruals is easier been manipulated by management. So, higher internal control quality can better improve accounting estimates accuracy and enhance the accruals persistence. l What surprising us is that the improvement of internal control quality makes accruals for SOEs more sustainable, and makes cash flows more persistence for non-SOEs.