Earnings management: a strategic adaptation or deliberate manipulation?
| Pages | 369-386 |
| DOI | https://doi.org/10.1108/JFC-07-2019-0098 |
| Date | 28 January 2020 |
| Published date | 28 January 2020 |
| Author | Shathees Baskaran,Nalini Nedunselian,Chun Howe Ng,Nomahaza Mahadi,Siti Zaleha Abdul Rasid |
| Subject Matter | Financial risk/company failure,Accounting & Finance |
Earnings management: a strategic
adaptation or deliberate
manipulation?
Shathees Baskaran,Nalini Nedunselian,Chun Howe Ng,
Nomahaza Mahadi and Siti Zaleha Abdul Rasid
Azman Hashim International Business School, Universiti Teknologi Malaysia,
Johor Bahru, Malaysia
Abstract
Purpose –This study aims to clarify the relationship between ethical orientation and earnings
management perception phenomenon in the organization. It discusses to what extent earnings
management is consi dered as a strategic ad aptation or deliber ate manipulation in an o rganization. The
study also aims to expand the domain of ethical perspective of earnings management by considering
mediating and moderating role of investor sentiment and corporate social responsibility (CSR) as inward
pressure and outward c ommitment surround ing the organization , adopting a combine d perspective of
strategic management and also accounting discipline than is normally found in the ethics and earnings
management literature.
Design/methodology/approach –The study opted for literature synthesis to define key concepts
surrounding ethics and earnings management perception in the organization.Besides, it attempted to
identify influential mediators and moderators in explaining the earnings management phenomenon in
the organization. Consequently, the study identified the gaps in current research to draw upon a more
holistic conceptual framework. The rationale for the research was justified within the body of
research.
Findings –The study suggested research propositions based on the literature synthesisin view of ethics
and earnings management perception in the organization. More specifically, it has proposed a conceptual
framework, explainingthe relationship between ethical orientationand a multi-dimensional view of earnings
management perception. It is envisaged that the mediating and moderating role of investor sentiment and
CSR incorporated in this conceptualstudy will improve the predictive value of the proposed framework and
offer additional insights about factorsthat inhibit or advance ethical orientation and earnings management
practicesin the organization.
Research limitations/implications –This paper suffers from the obvious limitation of lacking
empirical investigation. However, it does provide a theoretical rationale for the argument that
alteration of earnings can be controlled if ethical orientation is emphasized in theorganization apart
from insulating internal and external pressures to manage such phenomenon from happening in the
organization. Perhaps, the most important direction for future research is further extension and
validation of this framework by performing an empirical investigation to produce newer insights into
this phenomenon.
Originality/value –This conceptual study is different from previous studies on the grounds it has
considered unexplored issues linking inward pressures and outward commitments in explaining this
phenomenon further. To bridge the critical knowledge gap of earnings management phenomenon, a
mediating effect of investor sentiment as an inward pressure and a moderating role of CSR as an outward
commitment are also integrated within the model. The proposed model neither formulated nor tested
empirically in previousstudies locally or, perhaps, globally, therefore,stands out as an original contribution
in the study of ethical orientationand earnings management perception.
Keywords Strategic management, Earnings management, Earnings quality, Investor sentiment,
Ethical orientation
Paper type Conceptual paper
Earnings
management
369
Journalof Financial Crime
Vol.27 No. 2, 2020
pp. 369-386
© Emerald Publishing Limited
1359-0790
DOI 10.1108/JFC-07-2019-0098
The current issue and full text archive of this journal is available on Emerald Insight at:
https://www.emerald.com/insight/1359-0790.htm
1. Introduction
Strategic planning and management help firms develop competitive strategies (Johnson
et al., 2008). By implementing strategic plans, firms are able to respond to the turbulent
environment in an appropriate manner, to ensure their continued survival and
profitability, hence, providing the shareholders with value for money invested (Porter,
1998). In spite of continuous pressure to deliver the financial return of the shareholders,
the organizations are also forced to be a responsible corporate citizen while performing
their operations. As the generation progresses, corporations are presented with ways of
taking on responsibilities on how their operations could impact the natural
environment and societies around us. Corporations are also asked to apply certain
principles into how they run their businesses to make them sustainable. In the business
context, sustainability refers to how an organization’s activities, to be conducted
voluntarily, could demonstrate the addition of social and environmental concerns into
both their business operations and relations with stakeholders (van Marrewijk and
Werre, 2003).
In current times, it is considered unacceptable for a corporation to experience
economic growth while ignoring consequences, which are a result of their actions
(D’Amato et al., 2009). For a company to appeal well to the public, it is important for
them to draw the bottom line on how they run their business and focus on being a
good corporate citizen. According to D’Amato et al. (2009), to perform social
responsibilities and fulfilling their financial obligations at the same time,
organizations are forced to reshape their organizational rulebooks, frameworks and
business models. There have been multiple business opinion polls coupled with
notable corporate behaviors, which correlate with the increase in the level of
understanding of having a relationship between running a responsible business and
good business. In addition, the integration of corporate social responsibility (CSR)
activities, which focuses on broad social problems into a company’s business strategy
and performance are seen as an indicator of good management by the financial
markets, as well as investors (Hohnen, 2007).
However, managing multiple responsibilities to ensure continuous improvement of
shareholder wealth in a turbulent business environment is a great challenge to many
organizations. Because of poor performance, organizations are using various techniques to
manipulate and providea positive image about the managerial and financial performanceto
look good in the eyes of shareholders, as wellas various stakeholders and this is commonly
known as earnings management (Purwantiet al., 2015). Earnings management is a strategy
used by the management of a company to deliberately manipulate the company’s earnings
so that the figures match a pre-determined target and to produce financial reports that
present an overly positive view of a company’s business activities and financial position.
This practice is carried out for the purpose of income smoothing to present more consistent
profits each month or year, which is according to Bell and Carcello (2000) is a result of
pressure by others who are interested in the managerial and financial performance of the
organization.
Earnings management, which is a key indicator of financial reporting quality
(Ali and Kamardin, 2018) has become a major concern for the past two decades. The
occurrence of financial scandals and the collapse of high profile companies as a result of
financial reporting fraud have made earnings management a central issue to various
stakeholders who massively use accounting information (Callao et al., 2014). Large
fluctuations in income and expenses may be a normal part of a company’soperations
but the changes may alarm investors who prefer to see stability and growth.
JFC
27,2
370
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