Integrated reporting and earnings management
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Keywords
Integrated reporting ; Accrual earnings management ; Real earnings management ; Financial reporting ; Non-financial reportingAbstract
The purpose of this thesis is to examine the impact of the presentation of financial information and corporate sustainability information, based on Integrated Reporting (hereafter, IR) on the mitigation of earnings management (hereafter, EM) practices. Integrated Reporting is a modern corporate reporting framework that aims to provide a holistic view of a company’s performance by combining its financial and non-financial data into a single report. Specifically, by integrating its financial performance with its environmental, social and governance (ESG) aspects, the company aims to create value in the short, medium and long term, as defined by the International Integrated Reporting Council (IIRC).
The motivation for our research stems from the increasing adoption of IR by firms over the past few decades (Eccles et al., 2015), despite the fact that its adoption remains voluntary, except in countries like South Africa, where IR is mandatory for firms listed on the Johannesburg Stock Exchange. Voluntary adoption of IR, aiming to provide transparent information on business performance, enhances corporate transparency, thereby attracting stakeholders such as investors, shareholders, employees, creating long-term value for the firm and fostering long-term prospects. Therefore, it is evident that IR could be used by firms as a tool to prevent management from adopting short-sighted behaviors and implementing earnings management techniques aimed at presenting a manipulated image of the firm.
Our empirical research focuses on a sample of firms from the Eurozone, where the implementation of integrated reporting is not mandatory, covering the period from 2005 to 2023. The data used for this analysis were retrieved from Refinitiv Database, specifically from Worldscope and ESG datasets.
In our study, we examine the relationship between IR and earnings management by measuring these variables as follows. First, we consider a company to have voluntarily adopted the practice of integrated reporting if it discloses it’s environmental, social, and governance (ESG) data. To measure IR, we use a dummy variable that takes the value of 1, if the firm incorporates IR its annual report in the Management Discussion and Analysis (MD&A) section and 0, if it does not. As far as the measurement of earnings management is concerned, we focus first on accrual-based earnings management by applying the Jones Model (1991), the modified Jones Model by Dechow et al. (1995) and ROA-adjusted Jones and modified Jones Model by Kothari et al. (2005). Then, we examine earnings management based on real operating activities, following the methodology suggested by Roychowdhury (2006). Our models also include additional variables that influence firm performance and are related to Integrated Reporting to enhance the validity and reliability of our results. We use the ESG performance index, both as an aggregate score and decomposed into its three aspects (environmental, social, and governance), which is provided by the database. Additionally, we use a dummy variable derived from the database to indicate whether a company publishes a separate sustainability report, assigning the value 1 if it does and 0 if it does not.
The results of our analysis are robust and indicate a strong, statistically significant, and negative relationship between the adoption of IR and earnings management through real operating activities. In contrast, no statistically significant relationship is observed between the adoption of IR and accrual-based earnings management. This can be explained by the fact that integrated reporting, requiring companies to disclose both operational and non-financial performance data, enhances transparency at both the operational and sustainability levels, making techniques contrary to this goal more visible. Such techniques are derived from the manipulation of real activities rather than accrual-based earnings management techniques, which are used in financial reports that are already subject to strict compliance with specific accounting standards.
Furthermore, we observe that the negative effect of IR on managing real activities is more pronounced in countries with high levels of law enforcement. This occurs because in these countries, where regulatory and legal frameworks are stringent and laws and standards are strictly enforced, oversight and supervision by regulatory authorities are greater, making it less likely for techniques that contravene these frameworks to be employed. Strong enforcement mechanisms in a country thus help ensure the transparency promoted by the integrated reporting framework.
The conclusion of this thesis highlights the importance of adopting integrated reporting for corporate transparency and the quality of corporate earnings. Its contribution is particularly significant in preventing earnings management through operating activities, enhancing operational transparency, and fostering long-term value creation. However, the effectiveness of IR in reducing earnings management largely depends on the institutional framework of the country, as countries with strong regulatory mechanisms exhibit a greater impact of IR on earnings quality. Therefore, this research teaches us that a comprehensive approach to corporate reporting is necessary, one that integrates the financial and non-financial aspects of a firm while also taking into account the institutional framework of the country where it operates.
Postgraduate Studies Programme
Χρηματοοικονομική και Τραπεζική με ειδίκευση στη Χρηματοοικονομική και Τραπεζική ΔιοικητικήDepartment
Σχολή Χρηματοοικονομικής και Στατιστικής. Τμήμα Χρηματοοικονομικής και Τραπεζικής ΔιοικητικήςNumber of pages
85Language
English
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Αναφορά Δημιουργού-Μη Εμπορική Χρήση-Όχι Παράγωγα Έργα 3.0 Ελλάδα
Αναφορά Δημιουργού-Μη Εμπορική Χρήση-Όχι Παράγωγα Έργα 3.0 Ελλάδα