Abstract
This study aims to examine the effect of audit quality and ownership structure on earnings management through real activities. The audit quality tested is the size of the public auditor's office and auditor independence. The ownership structure that has been examined for its impact on management management is institutional ownership, managerial ownership, and foreign ownership. Earnings management through real activities is measured by three methods, namely abnormal cash flow from operation (CFO), abnormal discretionary expense, and abnormal production cost. The sample of this research is manufacturing companies listed on the Indonesia Stock Exchange from 2016 to 2018. With the purposive sampling method, the final sample is 175 company-years. The results showed that auditor quality and ownership structure had no effect on earnings management as measured by abnormal CFO. Meanwhile, abnormal production cost is not proven to be influenced by ownership structure but is negatively affected by audit quality as measured by Auditor Firm size. Ownership structure and audit quality are proven to have an effect on earnings management, which is measured by abnormal discretionary expense.
Highlights
This study aims to examine the effect of audit quality and ownership structure on earnings management through real activities
This study focuses on the effect of audit quality and ownership structure in minimizing earnings management practices through real activities
The test results on the abnormal cash flow from operation (CFO) model show that auditor quality and ownership structure have no effect on earnings management
Summary
Agency theory explains the relationship or contract between the principal and agent. The principal is the shareholder or owner of the company while the agent or management is the party the owner pays to manage the company. Financial report audit by auditor acts as monitoring to test the credibility of accounting information produced by management. This study uses a measure of earnings management which is carried out through real activities. Some researchers refer to real transaction earnings management as “real activity manipulation” (eg, Roychowdhury, 2006; Cohen and Zarowin, 2010). Manipulation of real activities is carried out through: 1) giving discounts to increase temporary sales that have an impact on reducing operating cash flow (abnormal CFO), 2) overproduction to report costs that are lower than the cost of goods sold (abnormal production costs), and 3) delaying various operational expenses, including research and development costs, are included in the abnormal discretionary expenditure group (Roychowdhury, 2006; and Cohen and Zarowin (2010). This study uses two indicators to describe the quality of auditors, namely Auditor Firm Size and auditor independence
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