An Interconnection between Earnings Quality and Earnings Management in the Business Environment
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Abstract
This paper reviews the interconnection between earnings quality and earnings management in the business environment, through the use of flexibility in determining the practices and methods as well as accounting estimates, to change the income that affecting disclosure process when preparing the financial statements. Which will be based on many of the misinformation, through corporate management manipulation results of company profits and losses and financial position statement. These multiple reasons include capital market motivations to raise their share prices and attract potential shareholders. In addition, the motives of borrowing loans and funding. All this leads to the loss of the most important characteristics of the quality of representation is sincere of accounting information. Therefore, will negatively affect the quality of accounting profits. This is one of the most important information that concerns the shareholders. By consideration, the earnings quality and earnings management are two related challenging interwoven issues in financial reporting as earnings management is an aspect influencing earnings quality. In this paper, fundamental scientific processes such as analysis, synthesis, induction, and deduction have been utilized in order to achieve the objective of this paper. This paper concluded that earnings management has a negative impact on the quality of earnings if it distorts the information in a way that is less useful for forecasting future cash flows, which in turn result in unreliable financial reports leading to incorrect decision. Also, corporate earnings of high quality are those that have a high level of persistence, are more timely, more predictable, less volatile and have lower level of earnings management. And on the other side it is important to understand that lower earnings quality are not indicators of poor financial situation or the misapplication of accounting policies, judgments, and estimates.
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EL Agha, E. S., & Norfadzilah Rashid. (2023). An Interconnection between Earnings Quality and Earnings Management in the Business Environment. Economit Journal: Scientific Journal of Accountancy, Management and Finance, 3(2), 67-76. https://doi.org/10.33258/economit.v3i2.872
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References
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Ball, R., & Shivakumar, L. (2008). Earnings quality at initial public offerings. Journal of Accounting and Economics, 45(2–3), 324–349. https://doi.org/10.1016/j.jacceco.2007.12.001
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Beyer, A. (2009). Capital market prices, management forecasts, and earnings management. Accounting Review, 1713–1747.
Beyer, A., Guttman, I., & Marinovic, I. (2019). Earnings management and earnings quality: Theory and evidence. The Accounting Review, 94(1), 77–101.
Danisman, G. O., Demir, E., & Ozili, P. (2021). Loan loss provisioning of US banks: economic policy uncertainty and discretionary behavior. International Review of Economics and Finance, 71, 923–935. https://doi.org/10.1016/j.iref.2020.10.016.
Dechow, P. M., & Skinner, D. . (2000). Earnings management: Reconciling the views of accounting academics, practitioners, and regulators. Accounting Horizons, 2(14), 235–250.
Dechow, P. M., Sloan, R. G., & Sweeney, A. P. (1995). Dechow_et_al_1995.pdf. In The accounting Review (Vol. 70, Issue 20, pp. 193–225).
Dechow, P., & Dichev, L. (2002). The Quality of Accruals and Earings: The Role of Accruals Estimation Errors. The Accounting Review, 77(2002), 35–59. https://doi.org/10.2308/accr.2002.77.s-1.61
Dechow, P., & Schrand, C. (2004). Earnings quality. In Research Foundation of CFA Institute. https://doi.org/10.1016/j.jacceco.2010.09.001
Dechow, P., Ge, W., & Schrand, C. (2010). Understanding earnings quality: A review of the proxies, their determinants and their consequences. Journal of Accounting and Economics, 50(2–3), 344–401. https://doi.org/10.1016/j.jacceco.2010.09.001
Fama, E., & C.Jensen, M. (1983). Separation of Ownership and Control. EXtoikos, 26(2), 301–325. https://doi.org/10.1086/467037
Francis, J., Lafond, R., Olsson, P. M., & Schipper, K. (2004). Costs of Equity and Attributes. The Accounting Review, 79(4), 967–1010.
Francis, J., Nanda, D., & Olsson, P. (2008). Voluntary disclosure, earnings quality, and cost of capital. Journal of Accounting Research, 46(1), 53–99. https://doi.org/10.1111/j.1475-679X.2008.00267.x
Francis, J., Olsson, P., & Schipper, K. (2006). Quality as an Attribute of Information in the Capital Markets. Earnings Quality, 266–274.
Ghazali, A. W., Shafie, N. A., & Sanusi, Z. M. (2015). Earnings Management: An Analysis of Opportunistic Behaviour, Monitoring Mechanism and Financial Distress. Procedia Economics and Finance, 28(April), 190–201. https://doi.org/10.1016/S2212-5671(15)01100-4
Gunny, K. A. (2010). The relation between earnings management using real activities manipulation and future performance: evidence from meeting earnings benchmarks. Contemporary Accounting Research, 27, 855–888.
Gutiérrez, A. L., & Rodríguez, M. C. (2019). A review on the multidimensional analysis of earnings quality. Spanish Accounting Review, 22(1), 41–60.
Healy, P. M., & Wahlen, J. M. (1999). A Review of the Earnings Management Literature and Its. Accounting Horizons, 13(4), 365–383. https://doi.org/10.2308/acch.1999.13.4.365
Hodge, F. D. (2003). Investors’ perceptions of earnings quality, auditor independence, and the usefulness of audited financial information. Accounting Horizons, 17(SUPPL.), 37–48. https://doi.org/10.2308/acch.2003.17.s-1.37
Hong, Y., & Andersen, M. (2011). The relationship between motivations and actions in corporate social responsibility: An exploratory study. International Journal of Business and Society, 13(3), 461–471. https://doi.org/10.1007/s10551-011-0921-y
Huang, X. S., & Sun, L. (2017). Managerial ability and real earnings management. Advances in Accounting, 39, 91–104.
Jensen, M. C., & Meckling, W. H. (1976). Theory of the Firm: Managerial Behavior, Agency Costs and Ownership Structure. Journal of Financial Economics, 4, 305–360. http://ssrn.com/abstract=94043http://hupress.harvard.edu/catalog/JENTHF.html
Jiraporn, P., & Gleason, K. C. (2007). Delaware Incorporation and Earnings Management: An Empirical Analysis. Journal of Applied Finance, 17, 4051–4061. https://doi.org/10.2139/ssrn.950692
Kanodia, C. (2006). Accounting disclosure and real effects. Foundations and Trends in Accounting.
Khanh, M. T. H., & Thu, P. A. (2019). The effect of financial leverage on real and accrual-based earnings management in Vietnamese firms. Economics and Sociology, 299–312.
Khuong, N. V., Liem, N. T., & Minh, M. T. H. (2020). Earnings management and cash holdings: Evidence from energy firms in Vietnam. Journal of International Studies.
Kirubel, A., & Akmel, S. (2019). Earning Management: From Agency and Signalling Theory Perspective in Ethiopia. Journal of Economics, Management and Trade, September, 1–12. https://doi.org/10.9734/jemt/2019/v24i630181
Kothari, S. P., Mizik, N., & Roychowdhury, S. (2012). Managing for the moment: the role of real activity versus accruals earnings management in SEO valuation.
Leuz, C., Nanda, D., & Wysocki, P. D. (2003). Earnings management and investor protection: an international comparison. Journal of Financial Economics, 69(3), 505–527. https://doi.org/10.1016/S0304-405X(03)00121-1
Li, Y., Eddie, I., & Liu, J. (2010). Boards characteristics, audit committee, external auditor and earnings management: Chinese evidence”, Corporate Ownership & Control. 8(1), 197–209.
Lo, K. (2008). Earnings management and earnings quality. Journal of Accounting and Economics, 45(2–3), 350–357. https://doi.org/10.1016/j.jacceco.2007.08.002
Menicucci, E. (2020). Earnings quality (Vol. 17, Issue SUPPL.). University of Roma Tre. https://doi.org/https://doi.org/10.1007/978-3-030-36798-5
Ohman, R. (2018). The relationship between earnings per share rounding and institutional investors - Evidence from North America.
Ozili, P. K., & Arun, T. G. (2018). Income smoothing among European systemic and non-systemic banks. The British Accounting Review, 50(5), 539–558. https://doi.org/10.1016/j.bar.2018.03.001.
Penman, S. H., & Zhang, X. J. (2002). Accounting conservatism, the quality of earnings, and stock returns. Accounting Review, 237–264.
Radzi, N. J., Islam, A., & Ibrahim, S. (2011). Earning Quality in Public Listed Companies: A Study on Malaysia Exchange for Securities Dealing and Automated Quotation. International Journal of Economics and Finance, 3(2), 233–244. https://doi.org/10.5539/ijef.v3n2p233
Ronen, J., & Yaari, V. (2008). Earnings Management. New York,NY.
Roychowdhury, S. (2006). Earnings management through real activities manipulation. Journal of Accounting and Economics, 42, 335–370.
Sarun, A. (2016). Corporate Governance , Earnings Quality and Firm Value : Evidence from Malaysia (Issue March).
Schipper, K. (1989). Commentary on earnings management. Accoun-Ting Horizons, 3(4), 91–102.
Scott, W. R. (2016). Financial Accounting Theory (Issue 1). https://doi.org/10.1016/0890-8389(88)90123-0
Tasios, S., & Bekiaris, M. (2012). Auditor’s Perceptions of Financial Reporting Quality: The Case of Greece. International Journal of Accounting and Financial Reporting, 2(1), 57. https://doi.org/10.5296/ijafr.v2i1.1286
Teets, R. W. (2002). Quality of earnings: An introduction to the issues in accounting education special issue. Issues in Accounting Education, 335–360.
Tran, D. V., Hassan, M. K., & Houston, R. (2020). Discretionary loan loss provision behavior in the US banking industry. Review of Quantitative Finance and Accounting, 55(2), 605–645. https://doi.org/10.1007/s11156-019-00854-z
Tucker, J., & Zarowin, P. (2005). Does Income Smoothing Improve Earnings Informativeness?.
Zang, A. . (2012). Evidence on the trade-off between real activities manipulation and accrual-based manipulation. Accounting Review, 87, 675–703.
Ahmadpour, A., & Shahsavari, M. (2016). Earnings management and the effect of earnings quality in relation to bankruptcy level. Iranian Journal of Management StudieJMS), 9(1), 77–99.
Ball, R., & Shivakumar, L. (2008). Earnings quality at initial public offerings. Journal of Accounting and Economics, 45(2–3), 324–349. https://doi.org/10.1016/j.jacceco.2007.12.001
Bellovary, J., Giacomino, D., & Akers, M. (2005). Earnings Quality: It’s Time to Measure and Report. The CPA Journal, 75(11), 32. http://proquest.umi.com/pqdweb?did=928795481&Fmt=7&clientId=23852&RQT=309&VName=PQD
Berle, A., & Means, G. (1932). The modern corporation and private property. Macmillan,New YORK.
Beyer, A. (2009). Capital market prices, management forecasts, and earnings management. Accounting Review, 1713–1747.
Beyer, A., Guttman, I., & Marinovic, I. (2019). Earnings management and earnings quality: Theory and evidence. The Accounting Review, 94(1), 77–101.
Danisman, G. O., Demir, E., & Ozili, P. (2021). Loan loss provisioning of US banks: economic policy uncertainty and discretionary behavior. International Review of Economics and Finance, 71, 923–935. https://doi.org/10.1016/j.iref.2020.10.016.
Dechow, P. M., & Skinner, D. . (2000). Earnings management: Reconciling the views of accounting academics, practitioners, and regulators. Accounting Horizons, 2(14), 235–250.
Dechow, P. M., Sloan, R. G., & Sweeney, A. P. (1995). Dechow_et_al_1995.pdf. In The accounting Review (Vol. 70, Issue 20, pp. 193–225).
Dechow, P., & Dichev, L. (2002). The Quality of Accruals and Earings: The Role of Accruals Estimation Errors. The Accounting Review, 77(2002), 35–59. https://doi.org/10.2308/accr.2002.77.s-1.61
Dechow, P., & Schrand, C. (2004). Earnings quality. In Research Foundation of CFA Institute. https://doi.org/10.1016/j.jacceco.2010.09.001
Dechow, P., Ge, W., & Schrand, C. (2010). Understanding earnings quality: A review of the proxies, their determinants and their consequences. Journal of Accounting and Economics, 50(2–3), 344–401. https://doi.org/10.1016/j.jacceco.2010.09.001
Fama, E., & C.Jensen, M. (1983). Separation of Ownership and Control. EXtoikos, 26(2), 301–325. https://doi.org/10.1086/467037
Francis, J., Lafond, R., Olsson, P. M., & Schipper, K. (2004). Costs of Equity and Attributes. The Accounting Review, 79(4), 967–1010.
Francis, J., Nanda, D., & Olsson, P. (2008). Voluntary disclosure, earnings quality, and cost of capital. Journal of Accounting Research, 46(1), 53–99. https://doi.org/10.1111/j.1475-679X.2008.00267.x
Francis, J., Olsson, P., & Schipper, K. (2006). Quality as an Attribute of Information in the Capital Markets. Earnings Quality, 266–274.
Ghazali, A. W., Shafie, N. A., & Sanusi, Z. M. (2015). Earnings Management: An Analysis of Opportunistic Behaviour, Monitoring Mechanism and Financial Distress. Procedia Economics and Finance, 28(April), 190–201. https://doi.org/10.1016/S2212-5671(15)01100-4
Gunny, K. A. (2010). The relation between earnings management using real activities manipulation and future performance: evidence from meeting earnings benchmarks. Contemporary Accounting Research, 27, 855–888.
Gutiérrez, A. L., & Rodríguez, M. C. (2019). A review on the multidimensional analysis of earnings quality. Spanish Accounting Review, 22(1), 41–60.
Healy, P. M., & Wahlen, J. M. (1999). A Review of the Earnings Management Literature and Its. Accounting Horizons, 13(4), 365–383. https://doi.org/10.2308/acch.1999.13.4.365
Hodge, F. D. (2003). Investors’ perceptions of earnings quality, auditor independence, and the usefulness of audited financial information. Accounting Horizons, 17(SUPPL.), 37–48. https://doi.org/10.2308/acch.2003.17.s-1.37
Hong, Y., & Andersen, M. (2011). The relationship between motivations and actions in corporate social responsibility: An exploratory study. International Journal of Business and Society, 13(3), 461–471. https://doi.org/10.1007/s10551-011-0921-y
Huang, X. S., & Sun, L. (2017). Managerial ability and real earnings management. Advances in Accounting, 39, 91–104.
Jensen, M. C., & Meckling, W. H. (1976). Theory of the Firm: Managerial Behavior, Agency Costs and Ownership Structure. Journal of Financial Economics, 4, 305–360. http://ssrn.com/abstract=94043http://hupress.harvard.edu/catalog/JENTHF.html
Jiraporn, P., & Gleason, K. C. (2007). Delaware Incorporation and Earnings Management: An Empirical Analysis. Journal of Applied Finance, 17, 4051–4061. https://doi.org/10.2139/ssrn.950692
Kanodia, C. (2006). Accounting disclosure and real effects. Foundations and Trends in Accounting.
Khanh, M. T. H., & Thu, P. A. (2019). The effect of financial leverage on real and accrual-based earnings management in Vietnamese firms. Economics and Sociology, 299–312.
Khuong, N. V., Liem, N. T., & Minh, M. T. H. (2020). Earnings management and cash holdings: Evidence from energy firms in Vietnam. Journal of International Studies.
Kirubel, A., & Akmel, S. (2019). Earning Management: From Agency and Signalling Theory Perspective in Ethiopia. Journal of Economics, Management and Trade, September, 1–12. https://doi.org/10.9734/jemt/2019/v24i630181
Kothari, S. P., Mizik, N., & Roychowdhury, S. (2012). Managing for the moment: the role of real activity versus accruals earnings management in SEO valuation.
Leuz, C., Nanda, D., & Wysocki, P. D. (2003). Earnings management and investor protection: an international comparison. Journal of Financial Economics, 69(3), 505–527. https://doi.org/10.1016/S0304-405X(03)00121-1
Li, Y., Eddie, I., & Liu, J. (2010). Boards characteristics, audit committee, external auditor and earnings management: Chinese evidence”, Corporate Ownership & Control. 8(1), 197–209.
Lo, K. (2008). Earnings management and earnings quality. Journal of Accounting and Economics, 45(2–3), 350–357. https://doi.org/10.1016/j.jacceco.2007.08.002
Menicucci, E. (2020). Earnings quality (Vol. 17, Issue SUPPL.). University of Roma Tre. https://doi.org/https://doi.org/10.1007/978-3-030-36798-5
Ohman, R. (2018). The relationship between earnings per share rounding and institutional investors - Evidence from North America.
Ozili, P. K., & Arun, T. G. (2018). Income smoothing among European systemic and non-systemic banks. The British Accounting Review, 50(5), 539–558. https://doi.org/10.1016/j.bar.2018.03.001.
Penman, S. H., & Zhang, X. J. (2002). Accounting conservatism, the quality of earnings, and stock returns. Accounting Review, 237–264.
Radzi, N. J., Islam, A., & Ibrahim, S. (2011). Earning Quality in Public Listed Companies: A Study on Malaysia Exchange for Securities Dealing and Automated Quotation. International Journal of Economics and Finance, 3(2), 233–244. https://doi.org/10.5539/ijef.v3n2p233
Ronen, J., & Yaari, V. (2008). Earnings Management. New York,NY.
Roychowdhury, S. (2006). Earnings management through real activities manipulation. Journal of Accounting and Economics, 42, 335–370.
Sarun, A. (2016). Corporate Governance , Earnings Quality and Firm Value : Evidence from Malaysia (Issue March).
Schipper, K. (1989). Commentary on earnings management. Accoun-Ting Horizons, 3(4), 91–102.
Scott, W. R. (2016). Financial Accounting Theory (Issue 1). https://doi.org/10.1016/0890-8389(88)90123-0
Tasios, S., & Bekiaris, M. (2012). Auditor’s Perceptions of Financial Reporting Quality: The Case of Greece. International Journal of Accounting and Financial Reporting, 2(1), 57. https://doi.org/10.5296/ijafr.v2i1.1286
Teets, R. W. (2002). Quality of earnings: An introduction to the issues in accounting education special issue. Issues in Accounting Education, 335–360.
Tran, D. V., Hassan, M. K., & Houston, R. (2020). Discretionary loan loss provision behavior in the US banking industry. Review of Quantitative Finance and Accounting, 55(2), 605–645. https://doi.org/10.1007/s11156-019-00854-z
Tucker, J., & Zarowin, P. (2005). Does Income Smoothing Improve Earnings Informativeness?.
Zang, A. . (2012). Evidence on the trade-off between real activities manipulation and accrual-based manipulation. Accounting Review, 87, 675–703.