Is Earnings Management in the South Korean Defense Industry Sustainable?

Kyoungkook Lim,Giseok Nam

doi:10.3390/su9112023

Abstract

Recently, the defense industry in South Korea has been regarded with strong suspicion since a company responsible for producing parts for the aviation sector is being investigated for cost irregularities. Many people are concerned about these issues and the government is distrustful of defense industries. If the current situation continues, the defense industry market in South Korea (henceforth “South Korea”) will be hard to maintain. The South Korean government will have to rely on importing from abroad instead of buying products in the local market. This study looked at the sustainability of earnings management adopted in the defense industry of South Korea, exploring options for the government to maintain the scheme’s soundness. In particular, we used Kothari’s discretionary accrual as a proxy of earnings management and OLS method to analyze the relationship between them. The results are as follows. Firstly the firms with a high percentage of defense sales showed significant discretionary accruals; the higher the profit, the more likely it was that earnings adjustments were made; secondly, firms that had been certified by the government for defense cost-management were proven to be effective, because the earnings management activities were low compared to those of firms that did not have the defense cost-management certification; lastly, based on the accounting rules for the cost of defense products, it was found that significant results confirming defense firms were exercising their influence, through earnings management, on the improvement of the government system.

Highlights

In South Korea, defense scandals have recently become problematic [1]
We studied the unique cost structure of the defense industry, which compensates for profits based on the costs incurred, and examined the cost-management certification system in terms of the share of defense sales, the political cost hypothesis, and the characteristics of defense firms arising from the asymmetry of cost information between the government, which is the consumer, and the defense industry, which is the supplier
This study aimed to examine the earnings management behavior of firms in the defense industry in South Korea and find a solution for the government to reduce the earnings management

Summary

Introduction

In South Korea, defense scandals have recently become problematic [1]. The company that produces parts for the aviation sector is being investigated for cost irregularities. There is mounting suspicion that illegal costs in the defense industry are rising. Many people are concerned about these issues and the government is distrustful of defense industries. The defense industry market in South Korea will be hard to sustain. Preventing earnings management in the defense industry is thought to be the first step to achieving transparency to help strengthen South Korean military power. The South Korean government will need to rely on importing instead of buying products in the local market. The relationship between the characteristics of domestic defense firms and earnings management in South Korea were examined

Objectives

Results

Conclusion