Accrual-Based Earnings Management in State Owned Companies: Evidence from Italy and Implications for Transnational Accounting Regulation
Accounting, Auditing & Accountability Journal, Vol. 7 issue 6, 2014, pp 1026-1040
Posted: 24 Mar 2015
Date Written: March 24, 2015
Purpose - - European Union is setting a transnational regulation to harmonize its Members States national accounts throughout the transition from cash to accrual basis. The risk that the increased discretion that the accrual basis will take into public sector accounting might result in an increase in window dressing activities, might obstruct that regulation. This paper aims to contribute to solving the doubt analysing whether state owned enterprises already operating under an accrual based accounting manage their earnings, if they do it more than privately owned enterprises and the conditions under which it is more likely to occur.
Design/methodology/approach -- This paper measures earnings management for a large sample of unlisted Italian state and privately owned enterprises using a framework developed by Stubben (2010). We use regression analysis to estimate the variables which predict abnormal accruals including firm size, leverage and profitability.
Findings - - We provide evidence that Italian state owned enterprises manage their earnings. We also find that state owned enterprises manage their earnings less then privately owned enterprises. Finally, we provide evidence that earnings management by state owned enterprises decreases with firm size and increases with profitability.
Practical implications - - The European Union (EU) recently introduced a new transnational accounting directive in which it prescribes the preparation of financial statements based on accrual accounting for all European public sector entities, arguing that it reduces the window dressing that is allowed by cash accounting. Since Italian state owned enterprises already prepare their accounts on an accruals basis, by analysing their accounting behaviour we are able to determine the variables which predict when earning management is more likely to occur in a public sector accrual accounting environment, and therefore we provide guidance which may be useful in shaping the transition process from cash accounting to accrual accounting by identifying the types of entities whose accounts should be subject to greater regulatory scrutiny.
Research limitations/implications -- While our study is the first to examine earnings management in a public sector accrual accounting environment for a sample of European firms, namely Italian firms, we call for more research into this issue examining public entities in other EU member states or public entities other than State owned enterprises. Contributing to the relations between state ownership and earnings management is likely to ease the acceptation of transnational regulation.
Originality value -- Earnings management in a public sector accrual accounting environment had been analysed only for Chinese listed companies. We extend previous analysis to a sample of European (Italian) state owned enterprises which are unlisted. We also extend previous work by determining the characteristics of firms which manage their earnings.
Paper type: research paper.
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