Determinants of Earnings Management and Its Implications on the Integrity of the Financial Statements

Abstract

This study aims to estimate and analyze the effect of corporate governance, audit quality, firm size, and leverage towards earnings management and its implications on the integrity of the financial statements, either partially or simultaneously. The research method used is panel data regression analysis. By using purposive sampling method, there are six companies that consistently follow corporate governance perception index (CGPI) program from 2010 to 2015 and listed on the Indonesia Stock Exchange.The results show that, in the first model, CGPI partially has a significant negative effect, audit quality partially has a significant negative effect, firm size partially has a significant negative effect, leverage partially has a significant positive effect, on earnings management. CGPI, audit quality, firm size, and leverage simultaneously have significant effect on earnings management. In the second model, CGPI partially has a significant negative effect, audit quality has a significant negative effect, firm size has a significant negative effect, leverage has a significant positive effect, on earnings management. CGPI, audit quality, firm size, leverage, and earnings management simultaneously have significant effect on the integrity of the financial statements. According to these results, the company should maintain and improve corporate governance practices, uses the auditor services that have six quality factors (competence, independence, specialization, audit tenure, peer review, and affiliation), convey positive information related to the company and apply low debt ratio with good planning. The investor should choose to invest in the companies that implement good corporate governance, using qualified audit services, investment priorities in large companies, and companies with low leverage.

The Moderating Effect of Firm Characteristics on the Relationship between the Audit Style and Firm-pair Earnings Comparability: An Evidence from Listed Firms on the Egyptian Stock Exchange

“…Firm size, leverage, and profitability are considered firm characteristics that are commonly used among prior studies (e.g., Agyei-Mensah, 2013;Priharta & Rahayu, 2019;Ross et al, 2019;Soyemi & Olawale, 2019) as determinants of the quality of the financial statements which applies, also, to the comparability as one of the qualitative characteristics of the accounting information.…”

“…They are also often audited by Big 4 audit firms that are concerned with improving the quality of financial reports of their clients. Moreover, larger firms have more financial capabilities than small firms which enable them keeping more automated financial reporting process, and well-structured internal control systems (Agyei-Mensah, 2013;Priharta & Rahayu, 2019;Ross et al, 2019;Soyemi & Olawale, 2019). However, from the agency theory's perspective, larger firms have more agency problems which may negatively affect the quality of their financial statements.…”

“…However, from the agency theory's perspective, larger firms have more agency problems which may negatively affect the quality of their financial statements. Also, they may have incentives to manage earnings for tax avoidance (Lanouar et al, 2013;Priharta & Rahayu, 2019).…”

“…Regarding the leverage ratio, firms with high debt ratios are subject to debt covenants which would motivate them to produce high-quality financial statements with detailed disclosure (Agyei-Mensah, 2013). However, from the perspective of the positive accounting theory, highleverage firms are more likely to manage their earnings to meet the more restrictive debt covenants (Priharta & Rahayu, 2019).…”

“…To the best of the researcher's knowledge, prior studies conducted on this issue have focused on the firm-specific characteristics as control variables. However, firm characteristics are broadly used among prior studies (e.g., Agyei-Mensah, 2013;Priharta & Rahayu, 2019;Ross et al, 2019;Soyemi & Olawale, 2019) as determinants of financial statements' quality. Accordingly, from the viewpoint of the researcher, firm characteristics can interact with the audit style in enhancing firms' earnings comparability.…”