Earnings Management of Acquiring Companies and Non-Acquiring Companies in Gulf Cooperation Council (GCC)

Alghemary, Mahmoud (2021) Earnings Management of Acquiring Companies and Non-Acquiring Companies in Gulf Cooperation Council (GCC). Doctoral thesis (PhD), Manchester Metropolitan University.

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Abstract

This research aims to investigates the factors influencing accruals and real earnings management in the GCC listed companies. These factors are acquisition, external audit quality, institutional ownership, state ownership, and foreign ownership as part of firm level governance mechanisms, and country level mechanism. In addition, this research investigates the effect of the acquisition deals characteristics on the engagement in accruals and real earnings management. For examining the effect of acquisition, corporate governance mechanisms (firm-level) and national governance quality (country-level) on accruals and real earnings management, the sample consists of 308 companies (3210 firm-year observations) for the financial year 2007-2017. To estimate accruals earnings management, this study uses Modified Jones model (1995). This study uses cross-sectional models developed by Roychowdhury (2006) to detect REM proxies in signed values. Specifically, abnormal cash flow from operations (CFO) proxies for sales manipulations, abnormal production costs proxies for overproduction and abnormal discretionary expenses proxies for manipulations of discretionary expenses. The results reveal that the GCC listed companies engage in both accruals and real earnings management. The highest engagement in accruals earning management across the GCC is in Saudi Arabia, whereas the lowest engagement in accruals earning management is in UAE, and Bahrain. This is due to the that the lowest national governance quality across the GCC is in Saudi Arabia, whereas the highest national governance quality is in UAE and Qatar. External audit quality is observed to be an inefficient mechanism in mitigating engagement in accruals and real earnings management. In terms of ownership structure, institutional ownership is obtained to be an efficient tool in restraining engagement in accruals and real earnings management. Likewise, state ownership is found to be an efficient tool in restraining engagement in accruals and real earnings management. However, foreign ownership is observed to be an inefficient mechanism in mitigating engagement in both accruals and real earnings management. In respect of country level governance, national governance quality is found to be an efficient tool in restraining engagement in accrual earnings management. However, it is an inefficient tool in restraining engagement in real earnings management. In terms of acquisition deals characteristics influencing accruals and real earnings management in the GCC, this study found that acquiring companies with cross border deals are likely to engage in accruals earnings management before the acquisition but not in real earnings management. Acquiring companies with unrelated industries deals engage in real earnings management but not in accruals earnings management. The large percentage of ownership acquired was found to be an efficient tool in restraining engagement in accruals and real earnings management. Finally, the cash payment acquisition was found to be an efficient tool in restraining engagement in real earnings management, but not in accruals earnings management. This study has several implications for policymakers, as well as existing and potential investors in the GCC region. The first implication is that investors should take their decision to deal with the acquiring company with consideration that the reported earnings may not be genuine. Subsequently, this issue will appear in the future when they invest in a company and it is found that the performance does not match with their expectations (Dechow et al., 2010b). The second implication is that the GCC companies should be conscious that Big4 auditing firms cannot mitigate the engagement in earnings management. The GCC companies could employ auditing firms who seek provide a high audit quality with low audit fees. The third implication is that the GCC listed companies could benefit from attracting institutional owners and state owners. These types of owners can mitigate the engagement in accruals and real earnings management and therefore, enhance the firm performance. In terms of national governance quality, it is strongly recommended that policy makers concentrate on developing the national governance system as it mitigates the firm’s engagement in earnings management.