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Abstract

Earnings management has received considerable attention in recent times. This is due to its linkage with the reliability of published accounting reports. Indication from the academic literature has shown that the practice of earnings management is quite extensive among publicly traded firms. In response to the demand for greater proportion of independent directors on corporate boards and the need for financial sophistication of audit quality, this study examines the role of independent board of directors, audit quality and board effectiveness in preventing earnings management in Nigeria. Using an experimental research design, the study finds that board dominated by independent non-executive directors brings a greater breadth of experience to the firm and are in a better position to monitor and control managers, thereby reducing earnings management. The study recommends that the financial reporting council of Nigeria should strengthen its role in ensuring higher quality financial reporting. Also, certain measures should be put in place to reduce the tendencies for reporting accountants to outfox the reporting principles for their private benefits. Finally, corporate governance code should be given wider applicability across companies in different sectors.

 CHAPTER ONE

                                        INTRODUCTION

  • Background of the study

Earnings management is an area of accounting research that elicits attention from across a wide spectrum of management and other stakeholders. The Financial Accounting Standard Board (FASB 1990) refers to earnings management as the distortion of the reliability, relevance and predictive value of information presented in financial statement. Schipper (2009) defined earnings management as ‘the process of taking deliberate steps within the constraint of Generally Accepted Accounting Principles (GAAP) to bring about a desired level of reported income. Healy and Wahlen (2009) saw earnings management as when managers use judgment in financial reporting in structuring transactions to alter financial reports, either to mislead some stakeholders or to influence contractual outcomes that depend on reported accounting about the underlying economic performance of the company. The connection between corporate governance and earnings management has been the subject of an ongoing debate. It is believed that the diffuseness of a firm’s ownership structure plausibly serves the firm’s shareholders better than a concentrated ownership structure. The users of financial information are of the notion that managers of organizations utilize earnings management opportunistically for selfish reasons rather than for the benefit of the stakeholders. This misalignment of stakeholders and manager’s interest has cited a basis for the occurrence of earnings management as managers could use the latitude provided by accounting standards to manage income opportunistically therefore, creating a distortion in reported earnings. The very nature of accounting accruals gives managers a great deal of discretion in determining the earnings a firm reports in any given period because of the information asymmetry between managers and owners. Accounting earnings are more reliable and more informative when managers opportunistic behaviours are controlled through a variety of monitoring systems (Dechow, Sloan & Sweeney, 2006). As a result of this misalignment of interest between managers and shareholders, there has been an international trend towards developing and implementing corporate governance to fight against the opportunistic behaviours that have undermined investors’ credibility in
financial report. Corporate governance attributes help investors by aligning the interest of managers with the interest of shareholders and also by enhancing the reliability of financial information and integrity of
the financial reporting process (Watts, 2011). It is against this background that this study is undertaken to exploratively examine the relationship between corporate governance and earnings management in Nigeria.

1.2 STATEMENT OF THE PROBLEM

Several studies on earnings management such as the study carried out by Olayinka (2012), Shehu (2012) and other researchers have highlighted the presence of earnings management practice in Nigeria at different times. These practices include: profit overstatement, account falsification, price manipulation, etc which have led to the distortion of the credibility of financial reports. To mitigate these financial reporting improprieties and enhance the decision usefulness of financial statements, corporate governance emerged as a veritable mechanism to stifle the windows of earnings management. Corporate governance is a mechanism that is employed to reduce the agency cost that arises as a result of the conflict of interest that exists between managers and shareholders. Due to the incessant practice of earnings management in Nigeria, the problem of whether corporate governance variables such as board composition, audit quality, audit committee, board effectiveness, etc. can be used in curbing earnings management arises. This research is embarked upon to critically ascertain the extent to which these governance variables mitigate the existence of earnings management in Nigerian organizations.

1.3 OBJECTIVE OF THE STUDY

The broad objective of this study is to investigate the relationship between earnings management and corporate governance as well as the effect of corporate governance on earnings management. The following are the specific objectives:

  1.     To ascertain if there is a significant relationship between board composition and earnings management.
  2.     To determine if there is a significant relationship between audit quality and earnings management.
  3.     To find out if there is a significant relationship between board effectiveness and earnings management.

1.4 RESEARCH HYPOTHESES

HO:   There is no significant relationship between the proportion of independent board of directors and earnings management.

HI:    There is significant relationship between the proportion of independent board of directors and earnings management.

Hypothesis Two

HO:   There is no relationship between audit quality and earnings management

HI:    There is relationship between audit quality and earnings management

Hypothesis Three

HO:   There is no significant relationship between the board effectiveness and earnings management.

HI:    There is significant relationship between the board effectiveness and earnings management.

1.5 SIGNIFICANCE OF THE STUDY

  1.     The research work is relevant to investors in carrying out investment decisions in relation to organizations as the variables affecting earnings management can be used to detect the presence of opportunistic earnings management in an organization and also whether to invest in such organization or not.
  2.     The work will enlighten financial analyst about the likelihood of the occurrence of earnings management in organizations. It will also serve as a guide to financial analyst in making recommendations to its client about investment decisions with respect to the reported earnings of firms.
  3.     It will assist managers in knowing the consequent effect of the practice of earnings management on the goodwill of the organization and the investing public.
  4.     It will assist policy makers in formulating policies that will enable organizations adopt a more rigid corporate governance hence, reducing the practice of earnings management.
  5.     Subsequent researchers and academicians will find the research work useful by using it as a guide and reference point in carrying out further studies.

1.6 SCOPE AND LIMITATION OF THE STUDY

This study basically seeks to investigate the relationship between earnings management and corporate governance among quoted companies on Nigerian Stock Exchange. Hence, the population of the study is the total 210 companies listed on Nigerian Stock Exchange while the sample consist of twenty selected companies listed on Nigerian Stock Exchange between 2006 and 2015. The population is not adequately represented as a result of the smallness of the sample size and the sample period covered. Also, the limited number of variables used for the research work poses a limitation to the study as a larger number would help elucidate the significance of corporate governance in curbing earnings management. Finally, inability to use a wider geographical scope as the study is limited to companies operating in Nigeria.

1.7 DEFINITION OF TERMS

Earning Quality: Earning quality simply mean the degree to which management’s choices of accounting estimate can affect imported income (thus choice occurs every period) some of such estimate may be difficult quantify given the company the lee way (opportunity) to report a wide range of periodic earnings.

Corporate Governance: Corporate governance is a combination of laws, regulations, listing rules and voluntary private sector practices that enable the corporation to attract capital, perform effectively, generate profit and meet both legal obligation and general societal expectation. It is all the corporation relationship among capital, product, services and even society at large.

Performance Management: This is a process for establishing a shared workforce understanding about what is to be achieved in an organization level. It is about aligning the organization objectives with the employees agreed measures, skills, competency requirements, development plans and the delivery of results. The emphasis is on improvement in order to achieve the overall business strategy and create a high performance workforce.

Management: Is a distinct process consisting of planning, organizing, starring, directing, coordinating, reporting and budgeting, performed to determine and accomplished stated objectives with the effective use of human and other resources.

Firm: A business concern, especially one involving a partnership of two or more people. It’s a business organization, such as a corporation, Limited Liability Company. Firms are typically associated with business organizations that practice law, but the term can be used for a wide variety or business operation units.

1.8 ORGANIZATION OF THE STUDY

This research work is organized in five chapters, for easy understanding, as follows

Chapter one is concern with the introduction, which consist of the (overview, of the study), historical background, statement of problem, objectives of the study, research hypotheses, significance of the study, scope and limitation of the study, definition of terms and historical background of the study. Chapter two highlights the theoretical framework on which the study is based, thus the review of related literature. Chapter three deals on the research design and methodology adopted in the study. Chapter four concentrate on the data collection and analysis and presentation of finding.  Chapter five gives summary, conclusion, and recommendations made of the study.

 

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