Managing Earnings Management: A Framework of Standards, Governance and Ethics

Abstract

Manipulating earnings to superficially represent financial reports is a flagrant violation of management's assertions about the fairness of financial statements. Therefore, auditors have developed objectives to counter management assertions to ensure that financial reporting is credible and free from earnings management practices (EMP).  This study examines the role of an integrated system of auditing standards and corporate governance surrounded by a framework of ethical values and principles in reducing EMP through the use of a sequential explanatory mixed method. Through this approach, the results obtained from 131 surveys were used as input for the interviews to add a more in-depth understanding of this phenomenon and find fruitful ways to reduce EMP. The results revealed that management's assertion on “accuracy, valuation and allocation” was most involved in EMP, thus, requiring a high degree of exercising professional skepticism. While “objectivity” was the ethical principle most respected by auditors, the results showed that the most serious threat to auditor independence that poses a challenge to the audit profession is the threat of intimidation. Moreover, the study showed that exercising the supervisory role in holding management accountable and following up on the work of auditors to uncover EMP requires real independence of the audit committee from the executive members. The findings have implications for economic policymakers in emerging countries where the sustainability of the audit profession and public companies is critical to economic development and stability. The study provides insights and guidance in mapping corporate governance for the future and benefiting from the experiences of developed countries as outlined in the study’s conclusion.