AN APPRAISAL OF CORPORATE GOVERNANCE AND EARNINGS MANAGEMENT PRACTICES IN THE LONDON STOCK EXCHANGE LISTED FIRMS

Posted: August 26th, 2021

AN APPRAISAL OF CORPORATE GOVERNANCE AND EARNINGS MANAGEMENT PRACTICES IN THE LONDON STOCK EXCHANGE LISTED FIRMS 

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An Appraisal of Corporate Governance and Earnings Management Practices for London Stock Exchange Listed Firms 

1. Introduction

A company’s published earnings have a direct impact on business operations. The reason is that earnings present among the most potent financial statement components that shape the management and investment decisions. Occasionally, a company’s management may be tempted to adjust their earningsthrough manipulation of accounting records to achieve a positive viewto win stakeholders’ desirable incentives.According to Elghuweel et al. (2017), organizations have existing corporate governance mechanisms that may facilitate such a process where managers are provided with numerous incentives that give them the impetus to get involved with earnings management practices. However, firms with robust corporate governance mechanisms have advanced professional conduct in their transactions. As such, this helps limits the chances of having such firms engage in earnings management habits like inflating the stock prices to upscale appeal to the users (González and García-Meca, 2014). Conversely, having a weak corporate governance mechanism allows the management and organization employees to manipulate earnings, thus embracing unethical practices and mismanagement of financial information.

The U.K. is a developed nation, and London is the financial Centre of Europe, which attracts some of the biggest multinational corporations. Of recent, the countryembarked on the Brexit process, which has given a chance for new trade deals with other nations. Such activities are likely to affect business operations in the future (Hunt and Wheeler, 2017).Besides, publishing of required financial reports is essential for accountability and transparency mechanisms. Therefore, companies must embrace this since it is a requirement for proper corporate governance mechanisms for organizations. Also, it serves to increaseinvestors’attraction to the organizations and combat chances of earnings management.

Subsequently, previous scholarly works have established that managers often resort to applying accounting choices that lead to increasing their income levels. In this way, theyconceal poor business performance in the hope that they will have a favorable change in future performance (Habib et al., 2013). Equally, sometimes the management takes advantage of the flexibility of accounting standards such as the generally accepted accounting principles (GAAP) and international financial reporting standards (IFRS) in selecting between the various accounting systems when computing financial performance measures. As such, some accounting principles, such as inventory management and depreciation disclosures, are altered by the management to suit their desired outcomes (Pham, 2015). Therefore, these practices reduce the quality of financial reports, which eventually affects the organization’s reputation. Also, the financial statementstend to give misleading information to the users, especially investors who rely on the reports as primary sources for their financial decisions.

Further, earnings management tends, primarily through intentional manipulation of financial information, tend to hide the precise economic status and contractual benefits, the key aspects that rely on accounting numbers. As noted by Guay et al. (2016), business earnings management practices produce unreliable accounting earnings, hence lacking a true reflection of the company’s financial performance. Therefore, it negatively affects the quality of the reported earnings and their effectiveness when used in making investment decisions. Subsequently, this contributes to dwindling confidence amongst investors in an organization’s financial health. However, if opportunistic behavior among the management were reduced, businesses’ earnings would be the best standards used for monitoring practices. According to Garanina &Kaikova, 2016), corporate governance is a mechanism employed by organizations to minimize agency costs arising from conflicts of interest existing between shareholders and the management. The conflicts are about having control of the business, thus often resulting in the management promoting their selfish interests. Therefore, the study examines the relationship between earnings and corporate governance mechanisms, taking a case of U.K. corporations listed on the London Stock Exchange. The objectives will be achieved by exploring the earnings management and nature of corporate governance mechanisms in the U.K., whether external or internal. Besides, an assessment of the influence of operating decisions and accounting choices of businesses will be further exploited in the study.

1. Research Objectives

The purpose of the study is to examine the relationship between corporate governance processes and earning management in businesses listed on the London Stock Exchange. The goals of the study will be achieved through the following research objectives:

1. To explain the earnings management of U.K. listed firms’ corporate governance mechanisms.
2. To explain corporate governance characteristics for firms listed on the London Stock Exchange-listed firms.
3. To assess the relationship between earnings management and corporate governance for London Stock Exchange U.K. listed firms.
4. To investigate reasons that motivate U.K. managers to engage in earnings management.
   1. Research Questions

            The earnings management or the use of financial reporting manipulation processes is essential to researchers, auditors, legislative boards, industry practitioners, and the businesses as a whole. Subsequently, the application of corporate governance processes and mechanisms is a primary method that will prohibit organizations from releasing erroneous or manipulated financial statements. The study investigates the impact of corporate governance processes on earnings management through these questions:

1. What are the mechanisms for earnings management among firms listed on the London Stock Exchange?
2. What are the characteristics of corporate governance for firms listed on the London Stock Exchange?
3. How does corporate governance influence earnings management of firms listed on the London Stock Exchange?
4. What is the motivation behind earnings management amongst managers of the listed firms onthe London Stock Exchange?
   1. Significance of the Study

The research is highly significant becauseresults obtained shade information crucial to investors, who are the primary users of financial statements. Besides, once completed, it will contribute to the understanding of corporate governance processes and structures that influence financial reporting in industrialized nations and among multinational corporations. Finally, it will act as a sensitization guideline for stakeholders in various economic sectors to focus on attaining robust corporate governance mechanisms that could help maximize wealth.

1. Research Methodologies

            The research methodologies section describes the procedures for collecting and analyzing the information to enhance the response to the research objective. The study will employ a combination of both quantitative and qualitative methods for collecting and analyzing data. First, the literature review will be used to gain an understanding of the trends in the study area. Secondary data will be used to collect data using online sources, including the London Stock Exchange for listed companies,which will be used. Equally, journals, electronic books, and other open online sources will be used in building up the subject content of the study. Specifically, qualitative methods will be utilized in addressing the first, second, and fourth objectives, while quantitative methods will be employed in responding to the third objective. In this case, various statistical methods, including descriptive and regression analysis, will be employed in understanding the relationship between the two variables, that is, corporate governance influence on earnings management. Finally, a justification for the choice of the methods will be done to show the reasons for selecting the methods used in the study.

ReferencesList

Elghuweel, M.I., Ntim, C.G., Opong, K.K., and Avison, L., 2017. Corporate governance, Islamic governance, and earnings management in Oman. Journal of Accounting in Emerging Economies.

Garanina, T., and Kaikova, E., 2016. Corporate governance mechanisms and agency costs: cross- country analysis. Corporate Governance.

González, J.S., and García-Meca, E., 2014. Does corporate governance influence earnings management in Latin American markets?Journal of Business Ethics, 121(3), pp.419-         440.

Guay, W., Samuels, D., and Taylor, D., 2016. Guiding through the fog: Financial statement complexity and voluntary disclosure. Journal of Accounting and Economics, 62 (2-3), pp.234-269.

Habib, A., Bhuiyan, B.U., and Islam, A., 2013. Financial distress, earnings management, and market pricing of accruals during the global financial crisis. Managerial Finance. http://dx.doi.org/10.1108/03074351311294007

Hunt, A., and Wheeler, B., 2017. Brexit: All you need to know about the U.K. leaving the E.U.   BBC News, 25.

Pham, H., 2015. The Differences and Convergences of International Financial Reporting Standards in Vietnam.