The Effect of Consolidated Financial Statements Principal Auditors’ Characterist ic on Real Earings Management
Asian Tax Journal Vol. 15 No. 4 (2014), pp. 9-45
Abstract
This paper provides the empirical evidences that investigate the relation between the determinantsof consolidated financial statements’ audit quality and real earnings management by using twoproxies (i.e., the principal auditor’s size and coverage ratio of consolidated financial statement)related to the qualities of principal auditors. Although there are a lot of evidences that managersmanage earnings through real activities, prior research focuses on the relation between thedeterminants of consolidated financial statement’ audit quality and accruals management. Thus, weanalyze the relation between the size and coverage ratio of principal auditors and real earningsmanagement by using the sample for the three years. According to the empirical results, there is a negative relation between real earnings managementand the size of principal auditors except abnormal CFO. The results imply that consolidated auditquality is further strengthened by the size of the principal auditors, thus the improved audit qualityreduce real earnings management due to avoiding litigation and maintaining reputation. Meanwhile,there is a significantly negative relation between the coverage ratio of principal auditors andabnormal CFO only. This results indicate that the increased coverage ratio of principal auditorsrestrict the way of real earnings management that releases credit terms or offers cash discount. Our research makes some contributions. First, we consider both the size of principal auditors andthe coverage ratio of principal auditors and analyze the effect of the principal auditors relatedcharacteristics on real earnings management, while previous literature focuses on the relationbetween the determinants of consolidated audit quality and accruals management. Furthermore, weprovide early evidences about real earnings management using the financial data from consolidatedfinancial statement, while prior research use financial data from individual financial statement.
Keywords
- Audit quality of consolidated financial statement
- Size of principal auditor
- Coverage ratio of principal auditor
- Real earnings management
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