Fiscal Support and Earnings Management

Abstract

Additional information:Use policyThe full-text may be used and/or reproduced, and given to third parties in any format or medium, without prior permission or charge, for personal research or study, educational, or not-for-prot purposes provided that:• a full bibliographic reference is made to the original source • a link is made to the metadata record in DRO • the full-text is not changed in any way The full-text must not be sold in any format or medium without the formal permission of the copyright holders.Please consult the full DRO policy for further details. Fiscal Support and Earnings ManagementAbstract: It is well documented that firms tend to manipulate earnings before IPO (initial public offerings) and SEO (seasoned equity offerings). This study contributes to the literature by providing the first evidence on whether and how fiscal support in the form of preferential tax treatment and financial subsidy affects a firm's earnings management behaviors. Using data for Chinese firms that have conducted IPO and SEO, I find that firms have a lower level of earnings management prior to the offerings if they enjoy more preferential tax treatment or more financial subsidies from local governments. My results are consistent with the view that firms that receive stronger fiscal support have smaller demand for earnings management, which is a costly tool for a firm to achieve its desired earnings targets.JEL classification: M41; M48; G14; G15; G18; H32

The Effect of Fiscal Incentive on Earning Management among Listed Companies in Indonesia

“…This result is consistent with He 8 , who found that the higher (lower) a company's tax saving is, the less (more) likely a company is to be engaged in earnings management. Both findings show that the correlations are insignificant due to the more dominant variation of the cross-section effect compared to the time-series effect that will influence the estimation of panel data regression.…”

“…Hence, it is easier and less costly for companies to conduct accrual earnings management [20][21][22] . He 8 explains that the risk of earnings management activity is not limited to litigation, but also reputation in the long term. In addition, an early indication of earnings management which is detected by public or DGT will lead to inspections and investigations.…”

“…This incentive will benefit the company by reducing its income tax and creating tax saving. Based on He 8 , the amount of tax saving the company can have is the difference between income tax expense with the normal rate and the actual income tax expense with the reduced rate. Whereas the tax saving rate (TAXSAV) is calculated with equation below: …… (2) where TAXSAV = tax saving rate, in rupiah; pretax income = commercial profit before tax, in rupiah; income tax expense = commercial income tax expense, in rupiah; net income = commercial net income, in rupiah.…”

“…Whereas the tax saving rate (TAXSAV) is calculated with equation below: …… (2) where TAXSAV = tax saving rate, in rupiah; pretax income = commercial profit before tax, in rupiah; income tax expense = commercial income tax expense, in rupiah; net income = commercial net income, in rupiah. He 8 argumented that TAXSAV will represent how far tax saving contributes to an increase of a company's reported net income. This research will also use a dummy variable (TAXSAV_DUM).…”

“…Earnings management practices are mostly motivated by the urgency of management to comply with covenants, as well as the presence of compensations attributable to certain target net incomes 5 . Ideally, a company can reduce its costs and achieve the targeted net income by properly utilizing fiscal incentives; the more a company receives in fiscal incentive, the less it will engage in earning managements 8 . The utilization of fiscal incentives is less likely to be prone to future litigation issues than engaging in both real and accrual earnings management.…”