Earnings management with cash flow hedge accounting

Book Reviews

This paper studies the impact of intelligent tax supervision on the decision of corporate earnings management. Companies determine earnings management strategies by weighing the marginal benefits and costs of accrual-based earnings management and real earnings management. Existing literature finds that managers prefer real earnings management than accrual-based earnings management because of regulatory pressure. This paper takes tax costs into consideration and adopts that tax will affect the substitution relationship between different earnings management methods.Accrual-based earnings management is realized by accounting methods. But real earnings management has a direct cash flow effect. Compared with accrual-based earnings management, real earnings management is subject to a higher level of book-tax conformity. Real activity manipulation is more costly due to tax incentives. Intelligent tax supervision represented by Golden Tax-III can effectively realize information integration and reduce information asymmetry between taxpayers and tax authorities. It can help to identify companies whose tax burdens deviate from the industry average. So Golden Tax-III can strengthen tax supervision and significantly increase the tax costs of real earnings management. Then, it can affect earnings management strategies. The higher the degree of tax non-compliance, the greater the impact of the implementation of Golden Tax-III.We use the implementation of Golden Tax-III as an exogenous event to construct a DID test. The results show that: Tax-noncompliant companies have a higher level of accrual-based earnings management after Golden Tax-III; tax-noncompliant companies have a lower level of real earnings management after Golden Tax-III; the substitution relationship between the two earnings management strategies in tax-noncompliant companies is mainly reflected after Golden Tax-III.The main contributions of this paper are as follows: (1) It directly examines the impact of tax costs on earnings management strategies, and finds that companies prefer accrual-based earnings management to real earnings management under strong tax supervision. It also expands the previous earnings management model. The research enriches and supplements the literature on earnings management. (2) It constructs a DID test to examine the impact of tax regulation on earnings management based on the implementation of Golden Tax-III. It can help to solve the problem of self-selection and endogeneity and supplement the relevant literature on tax and earnings management. (3) It finds that the intelligent supervision represented by Golden Tax-III can effectively distinguish tax-noncompliant companies and achieve precise supervision. The results help to understand and evaluate the economic consequences of Golden Tax-III, and also provide enlightenment for the development of intelligent tax supervision and taxation regulatory policy.

This study aims to determine the earnings management conducted by the company whether it is efficient earnings management or opportunistic earnings management, because earnings management is common and often done by companies and what factors influence the earnings management behavior of the company. To find out the type of earnings management carried out by the company, it will be measured using Accrual Discretion (DA), while measuring the factors that influence earnings management by the company uses Profitability (Return On Assets (ROA)), Liquidity (Current Ratio (CR)), and Free Cash Flow (FCF). To strengthen researchers' confidence in earnings management carried out by the company, one factor that supports other factors is Perputaran aset tetap (FATO). This research takes data from service companies that have been listed on the Indonesia Stock Exchange during the period 2019-2021 in the Property, Real Estate, and Building Construction sectors. The results of this study indicate that earnings management conducted by companies tends to be opportunistic, profitability and liquidity influence opportunistic earnings management, while free cash flow has an effect on efficient earnings management. Fixed asset turnover does not moderate the effect of the three factors on earnings management.
 Keywords: earnings management, opportunistic, efficient, profitability, liquidity, free cash flow, fix cash flow

Prior studies suggests that earnings management can be distinguished on beneficial earning management or efficient earning management and opportunistic earning management. Although there is a positive motivation of earning management activity, that is the attempt manager to convey private information to shareholders and debtholders in order to reduce the informationgap that occurs in asymmetric information (beneficial or efficient earnings management , but the overall motivation of earnings management tends to be viewed negatively and is triggered by the interests of managers to maximize the interests of himself or the interests of business entities in order to maintain the market price of the stock at a specified value or the particular provisions ofa contract that is likely to prejudice the interests of external users of financial statements (opportunistic earnings management). Various manipulations of accounting scandals such as the case of Enron, WorldCom and others have influenced the way the public thinks, so begin to form the opinion that all the earnings management activities is a negative activity intended to defraud and must be fought. Earnings management can be performed with accrual oraccounting earnings management and real earnings management. Accrual or accounting earnings management have only a consequence of the accruals and will not affect cash flow. While real earnings management will affect cash flow and in some cases also affect accruals. There are some things you can do to reduce the practice of earnings management, which stricter accounting standards, the employment of an external auditor of a public accounting firm that has high integrity with long history and implementing good corporate governance practices. To detect accrual or accounting earnings management can be used several models in which one is best according to Dechow et al. (1995) is amodified Jones models. But Aminul Islam et al. (2011)stated that the Jones model of modification is not effective when applied in Korea and Bangladesh. Meanwhile, to detect the presence of real earnings management can use such a model of Roychowdhury (2006).

This research investigates the relationship between corporate governance and preference of earnings management selected by Indonesian banking controlling shareholders. This study uses all banks listed on Indonesian Stock Exchange from 2006 until 2011 as samples. The result shows higher real earning managements and lower accruals discretionary in family-controlled banks and private institution compared to government-controlled banks. Government-controlled banks prefer accrual-based earnings management and real activity-based earnings management through operating cash flow. In the other hand, family-controlled banks and private institutions prefer real earnings management through interest expense and discretionary expenses. Foreign-controlled- banks choose earnings management through discretionary expenses. The implementation of corporate governance in Indonesia banking is high and giving negative impacts both to accrual and real-based earnings management. Concentrated ownership gives positive influences toward the accrual earning management and real earning management through discretionary expenses. The bank size has a positive and significant influence on accrual earnings management, yet its effect is negative and significant on real earning management through interest expenses. The findings contribute to the development of financial accounting literatures because there are small numbers of previous research on accrual discretionary on family-owned companies. Company does not indicate the increase of earnings quality, but it is indeed indicating that controlling family pays more attention on choosing the real activity-based earnings management to cover the expropriation. Accrual discretionary-based earnings management is intra-period reversely thus it cannot cover the permanent expropriation of controlling owners. The research also contributes to the studies of real-based earnings management measurement in banking system which has not been become a concern of research on previous studies.

Audit committee features and earnings management

Financial information is one of the most important sources of information used for decision making of internal and external interested parties. Therefore, the quality of financial information determines the quality of decisions based on this information. Managers experience the pressure of various interested parties. On one hand, interested parties expect receiving qualitatively prepared financial reports disclosing precise and true information. On the other hand, managers feel pressure to reach the set targets. Striving to combine expectations of all interested parties may encourage managers using various earning management patterns. The aim of this research is to detect whether Nasdaq Vilnius stock exchange companies are using earnings management and which pattern of earnings management – accrual based or real earnings management – they use. Discretionary accruals estimation model is used for detecting usage of accrual based earnings management. The abnormal cash flow, abnormal production costs and abnormal discretionary expenses valuation model is used for detecting real earnings management. The research in this paper is implemented by using comparative analysis, generalization, content analysis, monography and statistical methods. Prior implemented empirical researches’ analysis shows that managers apply earnings management in order to show better results. Accrual based earnings management is implemented through accounting policy. Real earnings management is implemented through operations that differ from typical structure and timing of the company. The results of this research show that Nasdaq Vilnius stock exchange companies use earnings management by applying both patterns of earnings management - accrual based or real earnings management. The companies did not give priority to any of the pattern of earnings management. The results of this research imply the expediency of evaluation of both pattern[...]

This paper examines the relationship between macroeconomic business cycles and earnings management, specifically, whether firms make more earnings management during the boom period of the macroeconomic business cycle or during contraction period of the business cycle. Earnings management is activities of getting certain benefits by involving in external financial reporting or confusing certain stakeholders through adjustments to accruals without involvement of cash flows or with cash flows through real activities. In examining the relationship, we used the models of Kothari et al. (2005) and Cohen et al. (2008) for accrual-based earnings management (AEM) and real activities earnings management (REM), respectively, for earnings management proxies. We also used composite economic indicators, real GDP growth and BSI for proxies of macroeconomic business cycles. Using a data set for Korean companies listed from 2005 to 2017, we developed and tested a panel regression model with fixed effects to capture the relationship. The results show that companies perform earnings management more often during economic booms than during contraction periods. This is interpreted that firms try to avoid disclosure of lower net income compared to the expectations of analysts or average net income of companies in the same industry. This study is giving insights to external auditors when they perform external audit on the firms’ financial statement, they need to spend more attention on the firms’ earning management behaviors during boom period rather than contract period. It applies the same to analysts of securities.

Objective – This study aims to examine the relationship between ownership structure (determined by institutional and foreign ownership) and earnings management in the context of Bangladeshi Pharmaceuticals and Chemical firms. Methodology/Technique – Out of 32 listed firms, this study examined 29 firms from the pharmaceuticals and chemical industry of Bangladesh from 2014 to 2018. Three firms are omitted as they got listed in 2018 and 2019 respectively. This study uses discretionary working capital accrual to measure earnings management that is the dependent variable. Ordinary least square regression analysis is conducted to assess the result of this study. Institutional and foreign ownership are independent variables. ROA, size, cash flow from operation, and leverage are control variables. Findings – It is found that institutional ownership is negatively related to earnings management and foreign ownership is positively related to earnings management but none of them are statistically significant indicating institutional and foreign ownership do not help in resolving or reducing the earnings management problems in the context of Bangladeshi pharmaceuticals and chemical firms. Novelty – Previous studies in Bangladesh deal only with the techniques of earnings management. To my knowledge, it is the first study that tries to assess the relationship of ownership structure defined by institutional and foreign shareholdings with earnings management in the context of Bangladeshi pharmaceuticals and chemical firms. These two ownership patterns are selected because they are supposed to increase the quality of financial information and also because in Bangladesh state and general shareholders are too dispersed to monitor the governance issues. The practical implications of this study is that investors should not consider institutional and foreign ownership percentage as a determining factor of good governance when considering investment decisions rather should look for other firm-specific factors as institutional and foreign shareholders are found to be inactive in increasing the quality of financial information in the context of Bangladesh. Policymakers should identify why institutional and foreign shareholders are not active and should revise the governance mechanisms accordingly. Type of Paper: Empirical Keywords: Ownership structure; Institutional Shareholdings; Foreign Shareholdings; Earnings Management; Bangladesh. Reference to this paper should be made as follows: Hossain, D.A. 2020. Ownership Structure and earnings management: Empirical evidence from listed pharmaceuticals and chemical firms of Bangladesh, J. Fin. Bank. Review, 5 (2): 58 – 69 https://doi.org/10.35609/jfbr.2020.5.2(3) JEL Classification: G40; G41; G49.

PurposeIt is largely believed that stock pricing is influenced by disclosure of earnings. This motivates the corporate to exercise earnings management practices. This paper aims to analyse and detect the earnings management practices of Indian firms over earnings cycles. The earnings behaviour of the firms has been analysed at three levels of earnings cycles for the pricing effect: complete, incomplete and prospective. In India, the corporate ownership model is promoter-dominated shareholders’model (PDSHM) which highlights the relevance of the study for earnings-management motivation. This paper contributes by examining earnings management of the units at three levels of earnings cycle with regard to stock pricing. Earnings cycles have been decomposed into three components: complete, incomplete and prospective. While earnings management has been studied extensively, virtually all studies have focused on firm-specific effects. This study relates earnings management to the cycle of the earnings for stock-price effect.Design/methodology/approachThe cash-flow model has been used for the computation of accruals (Collins and Hribar, 1999), and D’Angelo model (for calculating discretionary accruals) has been used for detecting earnings management in the present study, being comprehensive in nature and detailed in approach. The results of the “complete earnings cycle”are measured by net income. The results of the “incomplete earnings cycle” are measured by the ratio of gross margin over sales multiplied by inventory. It yields an approximate measure of the unrealized holding gains and losses. The “prospective earnings cycle” stems from the management decision to choose a rate of income growth. Statistical tools have been used for testing the results. These include regression analysis and descriptive statistics like arithmetic mean, median and standard deviation.FindingsAn examination of the units shows that firms report more discretionary accruals (DACC) at complete cycle, i.e. when financial markets are more certain about their future prospects which influence their securities’ pricing. It verified that unrealized income and growth prospects have very little role to play in determining returns. The results indicated that each of the components of the earnings cycle has a relevance factor for returns. In complete earnings cycle, DACC had the highest significance on returns than operating cash flows (OCF) and non-discretionary accruals (NDACC). Its determination content is the highest. So, the firms report more negative DACC when financial markets are less certain about their future prospects. Stock-price responses to earnings surprises are moderated when firm-level uncertainty is high, consistent with performance being attributed more to chance rather than performance.Research limitations/implicationsThe present study could be confined to only top 12 profit-making corporate enterprises in the private sector in India, leaving all other enterprises due to data non-availability. Of 25 enterprises, there were public sector undertakings too which had to be excluded. The period in the study is of five years (from 2003-2004 to 2007-2008) to highlight earnings management motivation. This period is best suited to identify the effects of global recession on the practice of earnings management in India. Researchers may like to select a different time-period based on their perspective.Practical implicationsIt is hoped that the study would improve the understanding of the manner in which the capital markets process the publicly available earnings and its components for global firms. The findings of this study are significant not only for organisations that function in India but also for other companies that are based in economies with relatively mature corporate governance mechanisms. So, the authors’ findings have important policy implications for the Western world, as the sample companies are multinationals and operate globally. Similar efforts in other countries would be rewarding in controlling the management of reported earnings and enhance the reliability and transparency of reported earnings to promote economic efficiency.Social implicationsEvidence on this issue could bring a new dimension to how the capital markets interpret these reported earnings and its components (cash flows, DACC and NDACC) at different levels of earnings cycles for minority shareholders in particular. Further, the evidence could also provide insights into the economic incentives for discretionary accounting choice and disclosure of the results of these earnings cycles.Originality/valueIt is an original paper which highlights the earnings behaviour and its motivation in Indian corporate enterprises for earnings cycles with regard to stock pricing.

Earnings management is the practice of deriving certain benefits by intervening in external financial reporting or misleading certain stakeholders through adjustments to accruals without cash flow involvement or with affecting cash flows through real activities. Using the models of Kothari et al. (2005) and Cohen et al. (2008) for accrual-based earnings management (AEM) and real activities earnings management (REM), respectively, we examined whether relationships exist between key financial indicators, such as cash flows from operations, operating income, and debt dependency level, and AEM and REM in the ready mixed concrete (RMC) industry in Korea. This study is the first to investigate earnings management in Korea’s RMC sector. Results showed that operating income and cash flows from operations are significantly negatively related to AEM and REM, consistent with the findings of previous research. By contrast, debt dependency exhibits no significant relationship with AEM and REM, contradicting the findings of most previous studies. As a moderating variable, operating income affects the relationship between cash flows from operations and earnings management with only REM. On these bases, we can infer that earnings management in the Korean RMC industry responds differently to key financial indicators with regards to AEM and REM practice. Overall, companies in the industry implement aggressive earnings management depending on operating income and cash generation ability level rather than debt dependency level. These findings provide important insights for people who are interested in accounting information on the RMC industry in Korea.

The vast area of managers' authority and their different activities and utilizing realization and adjustment principles and using estimation, and forecasting are among factors that affect earnings' quality. Methodology: The present research has three hypotheses. First hypothesis: by presenting cash flow forecast, earnings management will decrease through earnings' elements. Second hypothesis: by presenting cash flow forecast, real activities' earnings management will increase. Third hypothesis: by presenting cash flow forecast, expectations' management will increase towards target earnings. The time period for this research was 8 years (from early 2004 to late 2011). Firms investigated in this research were 115 firms. By analyzing the collected data, we dealt with studying and testing research hypotheses. Results: Results of analyses showed that on the whole the first and second research hypotheses were approved and the third research hypothesis was rejected. Based on findings in this research it can be suggested to investors in Tehran Stock Exchange to rely on firms the present their cash flows and it can be shown that the earnings presented show firms' real earnings. The investors and creditors should pay more attention to firms' cash flow because it is one of managers' control tools to reduce earnings management. The investors should consider the factors and real signs of real earnings management and pay attention to their effects on cash flows as an index of firm's performance when they are making decisions to invest in firms. Regarding that real earnings' management discovering is done by auditors with much difficulty, it is suggested that Iranian Official Accountants' assembly and auditing organization, as active agents in accounting field in the country, should inform firms under investigations about future outcomes of earnings management through manipulating real activities, by training their own auditors. Stock Exchange Organization should introduce those firms that tend towards real earnings management by an appropriate informing format to investors and potential investors and let them invest or refuse investment consciously and based on their own short-term and long-term goals in such companies. Conclusion: Obligating firms enlisted in Stock Exchange to present cash flow forecasts results in increasing information transparency and increasing qualitative levels of researches.

The phenomenon of the megadolar case that occurred in Enron Corporation and the profits stated over stated at PT. Kimia Farma caused by earnings management. Earning management results in reporting on financial statements asymmetry with the actual situation. This can bring huge losses to shareholders because financial statements are the main basis for shareholders in conducting business transactions. Utami (2005) in his research stated that Indonesia is the country with the most rice earning management. Thus, it is important for investors and shareholders in Indonesia to look at things that can trigger earnings management and what can prevent earnings management. In this study the researchers tested the effect of good corporate governance, free cash flow, and leverage on wealth earning management and shareholders. The researcher examines the effect of good corporate governance as a variable that can prevent earnings management and test free cash flow and leverage as triggers for earnings management. In this study using a sample of 178 service sector companies taken through the Yamane method with a sampling method namely purposive sampling in the 2016-2018 period. Data analysis and hypothesis testing in this study using the Partial Least Square Path Modeling (PLS-SEM) method. The results showed that good corporate governance proved to have a significant negative effect on earnings management while shareholders in wealth had a significant positive influence. Free cash flow proved to be insignificant to earning management while shareholder wealth had a significant positive effect. The leverage variable proved to have a significant negative relationship to earnings management as well as wealth shareholders.

PurposeThe purpose of this paper is to investigate the relationship between earnings management and chief executive officers’ (CEOs) compensation. Owing to the fact that earnings management does not have only opportunistic effects, but signaling effects, this study focuses on accruals quality to examine earnings management incentives. Thus, accruals quality is described against future cash flow. The empirical evidences suggest that a positive relationship between discretionary accruals and future cash flow provides predictive elements for earnings management, whereas a negative relationship between discretionary accruals and future cash implies to opportunistic elements for earnings management. Should there is no significant relationship between discretionary accruals and future cash flow, there will be no earnings management, and such a result suggests that incentives and managers’ performance in these firms differ.Design/methodology/approachThe statistical population of this research consists of all listed companies on the Tehran Stock Exchange during 2009–2016. Panel data method is applied in order to estimate the research model.FindingsFindings of the study show that there is no significant relationship between discretionary accruals and future cash flow in pharmaceutical and food industries, thus they have neither predictive nor opportunist earnings management, while the results evidence a negative significant relationship between discretionary accruals and future cash flow in machineries, automobile, mineral and chemical industries. Furthermore, it can be alleged that there is no significant difference between CEOs’ compensation in firms with opportunistic earnings management (OEM) and other types of earnings management. It shows that firms do not have appropriate plans for CEOs’ compensation. Moreover, the relationship between earnings management and stock return has been investigated in this study. We document that stock return is influenced by accruals quality and its components. In other words, stock return significantly differs in firms with OEM and firms without any kind of earnings management.Research limitations/implicationsThe authors’ findings provide contributions; for managers, it is noticeable that stock markets have sufficient comprehension about financial statements and the undertaken procedures on them, resulting in a higher return base on fair information. For investors and regulators, using the findings, may have deeper understanding to distinguish between industries that are recognized as opportunistic and non-opportunistic, which, in turn, results in better decision and regulation.Originality/valuePrevious studies have been mostly investigated OEM, while the current study examines both signaling and opportunistic aspects of earnings management.

The phenomenon of the megadolar case that occurred in Enron Corporation and the profits stated over stated at PT. Kimia Farma caused by earnings management. Earning management results in reporting on financial statements asymmetry with the actual situation. This can bring huge losses to shareholders because financial statements are the main basis for shareholders in conducting business transactions. Utami (2005) in his research stated that Indonesia is the country with the most rice earning management. Thus it is important for investors and shareholders in Indonesia to look at things that can trigger earnings management and what can prevent earnings management. In this study the researchers tested the effect of good corporate governance, free cash flow, and leverage on wealth earning management and shareholders. The researcher examines the effect of good corporate governance as a variable that can prevent earnings management and test free cash flow and leverage as triggers for earnings management. In this study using a sample of 178 service sector companies taken through the Yamane method with a sampling method namely purposive sampling in the 2014-2016 period. Data analysis and hypothesis testing in this study using the Partial Least Square Path Modeling (PLS-SEM) method. The results showed that good corporate governance proved to have a significant negative effect on earnings management while shareholders in wealth had a significant positive influence. Free cash flow proved to be insignificant to earning management while shareholder wealth had a significant positive effect. The leverage variable proved to have a significant negative relationship to earnings management as well as wealth shareholders.  K eyword:  good  corporate  governance,  free  cash  flow,  leverage  earning management, shareholder wealth. Â