Ownership pattern, board composition, and earnings management: evidence from top Indian companies

Abstract

This paper empirically examines the linkage between ownership pattern, board composition and earnings management of Indian firms using the system Generalized Methods of Moments (GMM) by considering panel data 364 non-financial firms from 2017 to 2019, comprising of 1092 firm-year observations. The study also uses Pooled OLS and Fixed Effects model to compare the results with the system GMM in examining board composition–earnings management relation. The study reveals that board independence and diligence of independent directors do not play any role in curbing earnings management. Also, busy independent directors and persons with multiple directorships are not necessarily useful in arresting earnings management. However, earnings management practice is more prevalent in firms where the same person enjoys the power of a CEO as well as chairman. An increase in promoters' shareholding also leads to an increase in earnings management. While earnings management is not influenced by FII shareholding, it increases with the increase in DII shareholding. This study is important for several reasons. First, since this study considers the period after the implementation of a new financial reporting system in India (popularly known as IND-AS), the findings of this study reflect the earnings management behavior of Indian firms in light of new financial reporting practices. Second, the study considers the period when significant governance initiatives are taken after the implementation of the New Companies Act, 2013. This study contributes to the literature by addressing the recent governance norms and aligning the relevant policy implications accordingly. The findings of this study reveal a clear understanding as to which board level and governance parameters are useful in constraining earnings management and disclosing quality earnings by companies in an emerging market context. The outcomes are also explained further for relevant policy implications. Board of directors, managers, investors, regulators, and policymakers can find these outcomes useful for making critical governance-related decisions. Finally, the study contributes to the existing literature by providing evidence on what board level and governance parameters are useful in constraining firms' earnings management in an emerging economy under the regime of new financial reporting practices.