Audit quality and real activities
manipulation in Europe
8th Annual Graduate Student
Conference
PhD Candidate
Imen BENSLIMENE
Dissertation Supervisor
Pr. Pascal DUMONTIER
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PRESENTATION OUTLINE
INTRODUCTION
RESEARCH QUESTION
RESEARCH OBJECTIVE
LITERATURE REVIEW
HYPOTHESES
RESEARCH DESIGN
CONCLUSION
2
INTRODUCTION
Information
asymmetry
Managers
Stakeholders
Stock price
Accounting Numbers
Audit Quality
Earnings Management
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Acounting-based
earnings management
Earnings
management
Discretionary
accruals
DeAngelo (1986) ; Jones (1991) ; Dechow et
al.(1995) ; Dechow et al. (2003) ;Piot et
al.( 2005)
And /Or
Healy and
Whalen, 1999
Real earnings
management
Real activities
manipulation
Roychowdhury (2006), Zang (2007) , Gunny
( 2005 – 2009), Cohen et al. ( 2010)
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RESEARCH QUESTION
What is the impact of audit quality on
strategy choice for earnings management
(accruals and / or real activities
manipulation)?
5
RESEARCH OBJECTIVE
To investigate whether constraints imposed
on accounting-based earnings management
by audit quality indirectly increases real
activities manipulation in Europe
6
LITERATURE REVIEW
Subramanyam
et al. (1998 )
Becker et al.
(1998)
Audit quality and
Accounting
based earnings
management
Francis et al.
(1999)
High quality
auditing constrains
accounting –based
earning
management
Ehrabim (2001)
Mrad (2004)
Piot and Janin
(2004)/(2008)
Ben Othman and
Zeghal (2006)
High quality auditing
does not constrain
accounting –based
earning
management
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Hypothesis 1
• Clients of high quality
auditors engage in
less accounting based
earnings management
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LITERATURE REVIEW
Graham et al.
(2005)
Audit quality
and real
activities
manipulation
Gunny (2005)
Cohen et al.
(2007)
Accrual
constraints exerted
by high
quality audits can
motivate managers
to switch to REM
Yu ( 2008)
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Hypothesis 2
• Clients of high quality
auditors engage in
more real activities
manipulation
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RESEARCH DESIGN
Sample
• Initial sample consists of all listed firms in
original 15 European Union countries
Period
• 2007 to 2010
Databases
• OSIRIS and Thomson Financial
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Measures of accrual-based earnings management
(Modified Jones model)
Total accruals
ACCT = EBXI – operating CFO
Normal
accruals
ACCND t /TA t-1= 1(1/ TA t-1) + 2
(Δ CA/ TA t-1) +3 (Immob. t/ TA t-1)
Discretionary
accruals
ACCD t = ACCT /TA t-1 – ACCND i
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Real Activities Manipulation (Roychowdhury, 2006)
Sales
manipulation
Acceleration of the timing of sales through
increased price discounts or more lenient
credit terms
Reduction of
discretionary
expenses
Decreases in discretionary expenses
including advertising, R&D, and SG&A
expenses
Overproduction
Reporting of lower cost of goods sold
through increased production
Abnormal CFO
(ab_CFO),
(ab_PROD) and
(ab_DISX) are
computed as the
difference
between actual
values and normal
levels
Step 3
Normal levels of
CFO,
discretionary
expenses ,
and production
costs
(Dechow et
al.,1998;
Roychowdhury,
2006)
Step 2
Step 1
Measures of Real Activities Manipulation
(Roychowdhury, 2006)
RM combines
the three
individual
measures of
RAM
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AUDIT QUALITY MESURES
•Big 4 /N Big 4
•Audit fees
•Industry specialization
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RESEARCH MODEL
Institutional factors
• Legal attributes (La Porta et al.,
1998 , Leuz et al., 2003)
• Specific regulation of the
national audit market
Control
•
•
•
•
•
Size of firm
Leverage
ROA
ABS ACCRUALS
MTB
EM
Audit quality
• Audit fees
• Industry specialization
• Big 4/ N Big 4
H1
AEM
REM
H2
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INTEREST OF RESEARCH

Analyze the behavior of earnings management in
Europe
 Analyse the role of audit quality on trade off
between REM and AM
 Examine the effects of member state audit
environment on one hand and earnings management
on the other
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Research Agenda / Difficulties
• Research Agenda
Continue running the model
Start writing results
• Difficulties
Database: certain variables are un-available
(changed to available variables)
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THANK YOU FOR YOUR
ATTENTION
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