Samples and Research Hypothesis

538 Av3 i =| reclassification of cash flow hedge derivatives i||net income i | Av: average, i: firm year Multiple linear regression analysis As an additional examination for robustness, we conducted multiple linear regression analysis considering the factors that are presumed to affect the reclassification of other comprehensive income items. Model: Yit= + 1 LVit+ 2 PBRit+ 3 D1it+ 4 D2it+ 5 YD1it+εit… Yit= + 1 LVit+ 2 PBRit+ 3 D1it+ 4 D2it+ 5 YD2it+εit… Yit= + 1 LVit+ 2 PBRit+ 3 D1it+ 4 D2it+ 5 YD3it+εit… Yit: |reclassification of available-for-sale-securities i ||net income i | of firm i in year t LV: liability to equity ratio PBR: Price to book ratio D1: if net income is negative or decreased more than 30 decrease over the previous year, 1. otherwise 0. D2: if there is more than 20 difference between reported net income and forecasted income, then 1; otherwise 0. YD1:if 1995~1998,then 0; otherwise 1 YD2:if 1995~2004,then 0; otherwise 1 YD3:if 1999~2004, then 0; otherwise 1 εit: disturbance term If the liability to equity ratio is high, it can be expected that managers tend to increase earnings in order to decrease interest rate or to borrow more loans, etc …. On PBR, if the firm ‘s growth potential is high, managers try to increase earnings in order to make it look like their firm keeps growing. When earnings are negative, decrease or have a large difference between its forecasted income, it is presumed managers tend to increase earnings. YD1, YD2, YD3 are dummy variables to examine whether there is a difference of earnings management by other comprehensive income items before and after introducing reporting comprehensive income. 5. Results and Implication 1 Results form t-test Figure 1 shows that before introducing comprehensive income reporting 1995~1998, the average of reclassification related to available-for-sale-securities is 18.702. On the other hand, after adopting comprehensive income reporting, the average is 12.567. And the difference between them is statistically significant 5. This result suggests that there is a possibility that the adoption of reporting comprehensive income affects the magnitude of earnings management with available- for-sale-securities and managers do not manipulate net income as much as before 77 . 77 It is conceivable that the tendency of reclassification of available-sale-security is influenced by the stock market trend. Then we examined it by analyzing the relation between the reclassification of available-sale-security per share and the average of Nikkei. The result is that the correlation coefficient is 0.11 and t-value is 0.382. Consequently, we conclude there is no strong relation between them. 539 Figure 2 presents the direction of earnings management by available-for-sale- securities. We sort out the reclassification of available-for -sale-securities per total asset each year into two categories, a positive and negative category, and accumulate each category each year. According to Figure 2, it is implied that ,except between 1999 and 2003, earnings managements in order to increase income are conducted more often. Then, for analyzing the trend of the earnings management, we separate the examination period into three parts 1999~2001, 2002~2004, 2005~2007, and compare the average of the reclassification of available-for-sale-securities in each period with one in 1995~1998, the period in which had not adopted comprehensive income reporting. The result is presented in Figure 3. First, the average in1999~2001 is very close to the one in 1995~1998 in Figure 1. Second, the average in 2002~2004 is less than in 1995~1998, but the difference between them is not statistically significant. On the contrary, the average in 2005~2007 is 6.704 and the difference is statistically significant 1. This implies that soon after introducing comprehensive income reporting, managers did not care about it so much, but gradually got to be conscious of the change and restrained themselves from manipulating net income by managing available-for-sale-securities 78 . Additionally, we conducted the same examination including the reclassification of exchange translation differences on foreign currency net investment and cash flow hedge derivatives in 2002~2007 and compared to the average in 1999~2001. The implication form the result was almost the same as Figure 4 shows. 2 Results and implications from the multiple linear regression analysis Figure 5, 6 and7 show the results form the multiple linear regression analysis. First, as the previous researches implied, when firms have a high leverage ratio, negative or less net income, managers tend to sell available-for-sell-securities to manage net income. The result is the same when firms have a large difference between forecasted net income and reported one. Second, from figure 5 and 6, in the beginning of the period when comprehensive income reporting is introduced, there is no statistically significant change for the reclassification of available-for-sale-securities, but after 2005 it is presumed that there is decreasing of earnings management for net income, because the coefficient of YD2 is negative and statistically significant 1. Figure 7 presents the result from the analysis that includes reclassification of exchange translation differences on foreign currency net investment and cash flow hedge derivatives. In this analysis, it is implied that managers restrain manipulation of net income by using other comprehensive income items, because the coefficient of YD3 is negative and statistically significant 5. 6. Conclusion From the analysis above, we can draw these conclusions and implications. Firstly, when leverage is high or earnings are negative or less than previous year, managers tend to manipulate earnings by using other comprehensive income items, but the magnitude is getting smaller lately. Secondly, soon after introducing comprehensive income reporting, there is no significant decreasing of earnings management by using other comprehensive income, 78 For testing its robustness, we conducted the same examination using total asset instead of net income. The result was the same. 540 but these days we can find some statistically significant evidences for it. Therefore, we can conclude that it took time for FAS130 to function well as standard-setter expected. In other word, managers needed time to recognize that the extent of transparency for financial reporting was changed by FAS130. However, we cannot deny that there are some limitations to these conclusions. Our samples are Japanese firms which adopt SEC standard in 東証一部. Besides, we need to distinguish discretionary parts from non-discretionary parts more precisely in order to get more accurate results. Figures: Figure1: The trend of reclassification related to available-for-sale securites 1995-1998 1999-2007 Average 18.702 Average 12.567 Standard error 2.633 Standard error 1.392 Median 5.197 Median 4.441 Standard deviation 21.716 Standard deviation 22.068 Variance 471.593 Variance 487.015 Number of samples 68 Number of samples 251 Figure 2: Direction of earnings management of the reclassification related to available-for-sale-securities Figure 3: Average and results of the test each year statistically significant 1 Figure 4; Result including other comprehensive income items 1999 －2001 2002 －2004 2005 －200７ Average 18.719 14.058 6.704 Variation 519.174 596.544 306.138 Number of samples 68 89 94 Degrees of freedom 134 151 125 T-value -0.0046 1.2574 3.758 1999 －2001 2002 －2004 2005 －2007 Average 35.262 15.674 8.935 Variation 2428.200 444.792 973.753 Numbers of Sample 68 89 94 -0.08 0.06 - 0.04 - -0.02 0.02 0.04 0.06 0.08 0.1 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 541 statistically significant 10 Figure 5: Results of the multiple linear regression analysis reclassification of available- after 1999 Coefficient t-value Intercept -8.958 -0.825 LV 35.136 2.903 PBR 4.38 1.305 D1 19.151 2.563 D2 5.951 1.067 YD1 -1.449 -0.38 Adjusted R 2 0.049 - Number of Samples 315 - statistically significant 5, statistically significant 1 Figure 6: Results of the multiple linear regression analysis reclassification of available- after 2005 Coefficient t-value Intercept -1.924 -0.192 LV 32.851 2.747 PBR 3.687 1.111 D1 17.974 2.434 D2 7.866 3.394 YD2 -15.474 -2.788 Adjusted R 2 0.072 - Number of Samples 315 - statistically significant 5, statistically significant 1 Degrees of freedom － 69 71 ｔ-value － 1.029 1.736 542 Figure 7: Results of the multiple linear regression analysis reclassification of other comprehensive income Coefficient t-value Intercept -5.611 -0.477 LV 42.479 3.062 PBR 2.975 1.877 D1 21.185 2.486 D2 3.313 0.536 YD2 -14.665 -2.428 Adjusted R 2 0.077 - Number of Samples 322 - statistically significant 10, statistically significant 5, statistically significant 1 References: Accounting Standards Board ASB, Financial Reporting Standards No3FRS3, Reporting Financial Performance , ASB, October 1992. Burgstahler, D., I. Dichev , ―Earnings Management to Avoid Earnings Decreases and Losses,‖ Journal of Accounting Economics , Vol.97, 1997. Collins, D.W., E. L. Maydew and I.S. Weiss, ―Changes in the Value-Relevance of Earnings and Book Values over the Past Forty Years, ‖ Journal of Accounting Economics, Vol.24No.1, December, 1997. Dechow, P. M., R.G. Sloan and A. P. Sweeney, ―Detecting Earnings Management,‖ The Accounting Review , Vol, 70 No.2, April 1995. Dechow, P.M., Kotari, S.P., Watts, R.L, ―The Relationship Between Earnings and Cash Flows,‖ Journal of Accounting Economics , Vol.25, 1998. Financial Accounting Standards BoardFASB, SFAC No.5, Recognition and Measurement in Financial Statements of Business Enterprises , FASB, December 1984. FASB, FAS No.130, Reporting Comprehensive Income , FASB, June 1997. Hirst, D. E. and P. E. Hopkins, ―Comprehensive Income Reporting and Analyst‘s Valuation Judgments, ‖ Journal of Accounting Research, vol.36, supplement, 1998. Hutton, J., R. Libby, C. Mazza, ―Financial Reporting Transparency and Earnings Management,‖ SSRN, February 2004. IASB and FASB, Discussion paper Preliminary Views on Financial Statement Presentation, IASB and FASB, 2008. Jones, J. J., ―Earning Management During Import Relief Investigations,‖ Journal of Accounting Research , Vol.29No.2, Autumn 1991. Lee, Y., K. Petroni, M. Shen, ―Cherry Picking Financial Quality, and Comprehensive Income Reporting Choices: The Case of Property-Liability Insurers, ‖ SSRN, April 2004. Financial Reporting and How to Extend to Them,‖ Journal of Accounting Economics Vol.21, 1996. Roychowdhury, S., ― Earnings Management through Real Activities Manipulation,‖ Journal of Accounting Economics , Vol.42, 2006. Satoh, M., Nakagawa, T., ‗‘Zaimujyouhou no shinraisei to rishitubunseki‖ Zaimujyouhou no Shinraisei ni kansuru kenkyu , Japan Accounting Accusation working group, final report, 2006. Wakabayashi, H., ―Houkatsurieki ni kansuru riekichousei koudou‖ Accounting, 2006. 543 THE EFFECT OF CORPORATE NAME CHANGES ON THE EARNINGS MANAGEMENT IN KOREA Soon Suk Yoon 79 , Min Kyong Park 80 Abstract Recently, corporate name changes by loss-reporting firms are increasing among the KOSDAQ market firms. We first examine the current trend of and reasons for corporate name changes. Second, we examine empirically whether name change firms are associated with particular patterns of discretionary accruals. We divide the reasons for corporate name changes into cosmetic change, industry change, and largest stockholder change to examine whether there are differences in earnings management practices. From a sample of 401 name change firms over the period of 2004 to 2008, we find that bad operating performance is followed by corporate name changes. Many of the firms changing their names are plagued by embezzlements or financial fraud by management. Also many of the firms changing corporate names are administrative issues in the KOSDAQ market. Some firms change their names following major structural changes like industry change, CEO change or largest stockholder change. We find that name changes are negatively related with discretionary accruals, particularly when they change names due to accumulated losses. Our study adds to the literature in the sense that it is the first attempt to examine the characteristics of firms changing their names and to investigate the impact of corporate name changes on discretionary accruals. Keywords: corporate name change, loss-reporting firms, earnings management. 79 Professor, Chonnam National University E-mail: yoonsschonnam.ac.kr 80 Ph.D. Candidate,, Chonnam National University E-mail: cake9hanmail.net 544

1. Introduction

Recently, the financial press reports the trend that increasing number of firms change their names. Twenty four KOSDAQ firms have changed their names twice in a year and three firms have changed their names up to five times over the period of 2004 to 2008. Corporate name is supposed to serve as a signal to convey information about a firm ‘s major business or product lines. Investors will be better served as long as corporate names can be associated with major businesses or product lines. According to the Korea Exchange, about one eights of KOSDAQ firms have changed their names in 2008. Why do they change their names despite non-trivial cost associated with name changes? The value of a firm would be increased if corporate name change positively conveys the plan of real changes in the firm‗s business activities, restructuring or reorganization. Facing the rapid increase in corporate name changes, investors are advised to exercise caution when they make investment decisions in the firms which change their names, particularly when they purchase the securities of name change firms to disguise accumulated losses. According to our investigation, there is a big increase in corporate name changes by loss-reporting firms even though it is accompanied by non-trivial costs such as consulting fees and corporate identity costs. Some of firms changing their names are involved in litigations such as fraud or embezzlement. Some of them are administrative issues in the KOSDAQ market. Some of them change their names following the largest stockholder changes. Especially, firms for which the largest stockholders are changed more than twice a year are designated as firms that need a special attention. The KOSDAQ market has some features that can be distinguished from the KSE market. KOSDAQ firms are smaller and younger than KSE firms. The disclosure environment of the KOSDAQ market is inferior to the KSE. As a result, we believe the information asymmetry in the KOSDAQ would be worse than the KSE. Yoon 2005 finds that KOSDAQ firms tend to manage earnings more aggressively than KSE firms. So there is an increasing concern on the reliability and transparency of the financial statements of KOSDAQ firms. We find that corporate name changes in the KOSDAQ market are more frequent than in the KSE market, particularly there is a big increase in KOSDAQ market. The 545 announcements of corporate name changes in KOSDAQ have started since 2000 and they have announced reasons of changing definitely since 2007. The KOSDAQ market have enforced that firms changing name frequently should announce the details to prevent investors confusion whether they had changed corporate name within 2 years since 2007 and its one part of announcements management consolidation. The prior literature of corporate name changes is almost about the relationship between corporate name change and stock price but they are scarce and the results in Korea are inconclusive. In this paper, we examine the purpose of the managements who change corporate name, different from the prior study. We first examine the current trend of corporate name change; how many firms have changed corporate names, how they have changed, why they change and who change corporate name. Second we examine empirically whether corporate name change firms are associated with discretionary accruals. We further divide the reasons of corporate name change into cosmetic change to hide negative earning, industry change or consolidation and change of the largest stockholders and examine whether there are differences among the corporate name change reasons. Our study adds to the literature in the sense that it is the first attempt to examine the characteristics of firms changing their names and to investigate the impact of corporate name changes on discretionary accruals. We expect that our empirical results can play a role for the investors to let them know about corporate name changes by loss-reporting firms which increasing recently.

2. Background and Hypothesis Development

2. 1. Background Most of the prior study about corporate name changes is about the relationship between corporate name change and stock price. Previous studies have shown mixed results about corporate name changes and valuations. Song1991 studied the stock price reactions to corporate name change announcements of 74 announcements for the period from 1980 to 1990. He found that weak positive stock price reaction to the announcement and he also suggests that findings are sensitive to sample selection.