The Impact of Corporate Governance on Earnings Management

1. The Impact of Corporate Governance on Earnings Management

Table IV.5 show the results of the regression between corporate governance variables and control variables on earnings management which represented in discretionary accruals proxy. F value for each regression model was significant. In addition, models 1 and 4 have the highest adjusted R2 is equal to 14.7%. It means that variables on the chairman and board of directors could explain the dependent variable (earnings management) as much as 14.7%. The rest of 85.3% is explained by other factors.

The test results from model 1 to 6 show the chairman financial background (CFB) and board size (BDSZ) have significant effect on earnings management at the level 10%. Simultaneously effect of independent variables toward dependent variable is known by comparing Sig coefficient. If Sig coefficient is less than The test results from model 1 to 6 show the chairman financial background (CFB) and board size (BDSZ) have significant effect on earnings management at the level 10%. Simultaneously effect of independent variables toward dependent variable is known by comparing Sig coefficient. If Sig coefficient is less than

Table IV.5 Linear Regression (A)

0.188 0.198 R 2 -Adj.

a: Significant at 1%, b: Significant at 5%, c: Significant at 10%

has insignificant negative effect to earnings management. Hypothesis 1a stated the chairman tenure is significantly related to earnings management is not accepted. This finding is consistent with study by Cornett et al. (2007) who found similar result that chairman tenure is insignificant, but it is different from previous study by Hazarika et al. (2009) who found that chairman tenure is negatively significant related to earnings management. A possible explanation for this result because, the average score of chairman tenure in the sample is very low (seven years only) so there is not enough influence on constraining earnings management.

The chairman financial background (CFB) is positively significant to earnings management at 0.10 level in model 1. Hypothesis 1b stated the chairman financial background is significantly related to earnings management is accepted. In contrast, from model 4, 5, and 6 show insignificant effect related to earnings management which means the impact is inconsistent. The result is not suported by Xie et al. (2003) who claimed that earnings management is less likely to occur in firms that are run by a member of boards who have a corporate and financial background. This finding is supported on study by Isidro and Goncalves (2011) who found that chairman with management and finance background was more prone to manage earnings. The result proves that Malaysia companies have different chairman characteristic. Besides the benefits, financial knowledge could have negative effect because the chairman so much

insignificant negative effect to earnings management. Hypothesis 1c stated the executive chairman is significantly related to earnings management is not accepted.This result is consistent with other study by Ismail et al. (2010) who found that executive chairman is insignificant related to earnings management. It can be explained that the involvement of a chairman on executive position has no impact on constraining earnings management and that is probably because the families still dominate the mangement decisions in Malaysia companies. In contrast, there is a different result from study by Gordon and Henry (2005) who found that executive chairman is negatively and significantly related to earnings management.

This study find that proportion of independent board (BDIND) is consistenly has insignificant positive effect related to earnings management. Hypothesis 2a stated the proportion of independent board is significantly related to earnings management is not accepted. This finding is however consistent with previous study in Malaysia by Abdul Rahman and Ali (2004) who found that with the high presence independent directors on the board have no impact on earnings management. They claims that the role of the board of directors in Malaysia companies is inefficient in performing their monitoring duties due to management dominance over board matters. The results is different with another study by Beasley (1996) and Xie et al. (2003). Both of them find a negative association between proportion of independent board and earnings management.

significant effect to earnings management at the 0.10 level. Hypothesis 2b stated the board size is significantly related to earnings management is accepted. But, from other models show insignificant effect which means the impact is inconsistent. The result is supported by Kao and Chen (2004) in Taiwan, who found a significant positive relationship between board size and earnings management. A possible explanation for this because company with large board of directors would provide a lack of coordination and communication between the members and also proves that board characteristic in Malaysia is different than in Taiwan.

This study found that the number of board meeting (BDME) consistenly has insignificant negative effect to earnings management. Hypothesis 2c stated the board meeting is significantly related to earnings management is not accepted. This result different from previous study by Chtourou et al. (2001) who found that meeting number is significantly positive related to earnings management. The results is consistent with study by Habbash (2010) found that number of meeting not restrict earning management practices. He argues that frequent meetings not always be a characteristic of an active board of directors. Board meetings are not necessarily functional because the limited time in meeting restrict the important exchange of ideas among directors or with managers (Lipton and Lorsch, 1992).

All six models explained that nomination committee independence (NOM)

related to earnings management is not accepted. The result is different by Habbash (2010) who found negative relationship between nomination committee independence and earnings mangement. However, this finding is consistent with prior study by Chtourou et al. (2001) that majority of independent members on nomination committee has insignificant effect on the level of earnings management. Klein (2002) argues that nomination committee assignments are influenced by board size, which means large boards have more directors to contribute to the sub-committees and this enables the work load to be distributed over a greater number of directors.

Remuneration committee independence (REM) consistenly has insignificant positive effect to earnings management. Hypothesis 3b stated the remuneration committee independence is significantly related to earnings management is not accepted.This finding however consistent with study in United Kingdom by Habbash (2010) that remuneration committee independence is insignificantly positive related to earnings management. In contrast, the result is different with previous study in USA firms by Klein (2002) who found positive relationship between nomination committee independence and earnings mangement. Habbash (2010) argues that even though the remuneration committee has been introduced in many countries to carry out an essential part of the governance required, these committees have not yet achieved the degree of independence that enables them to discharge their duties adequately.

positive effect to earnings managemen. Hypothesis 3c stated the audit committee independence is significantly related to earnings management is not accepted. This result confirm Klein (2002) conclusion that maintaining a whole independent audit committee is not be necessary in constraining earnings management. Larger audit committee which has more resources and capability could be better than number of independent members in performing the required duties including to prevent earnings management. However, the result is different with study by Lin and Hwang (2010) which identifies a negatively significant relationship between audit committee independence and earnings

management. The result show the coefficient for family involvement (FAM) is consistenly negative and has insignificant effect to earnings management. Hypothesis 4a stated the family involvement is significantly related to earnings management is not accepted.The result is not supported with prior study by Ho and Wong (2001) who found that companies with a higher proportion of family members on the board is more likely to have lower earnings management. Jiraporn and DaDalt (2007) argues that family involvement has impact on earnings management because founding families will limit the ability of managers to manipulate earnings, and there will be less pressure on management to manage earnings to look good in the short term since the controlling family will have a long-term interest in the firm.

positive effect to earnings management. Hypothesis 4a stated the family ownership is significantly related to earnings management is not accepted. The result indicates that family board members who own shares are not effective constraining earnings management. This results is different with study by Hosseini (2012) who found that family ownership had significant effect to earnings management. Earnings management is higher in countries where family ownership concentration is higher because of weak investor protection (Leuz et al., 2003). Based on sample studies show that only a small number of directors who have own shares in firms which means have no influence to earnings mangement.

Among the control variables, company size (AST) consistenly has positive significant effect to earnings management except for model 4 and 6 where the result show insignificant. The models show that leverage (LEV) consistenly has negative significant effect to earnings management in all six models.

Table IV.6 show the results of the regression between each corporate governance variables which consists of chairman and board of directors. The result from model 2 show that only chairman financial background (CFB) has significant effect related to earnings management which means this variable has consistent result matching from previous table. The other variables which consist of chairman tenure (CTE), executive chairman (CEX), proportion of independent board (BDIND), board size (BDSZ), board meetings (BDME) is