Investigating earnings management practices and the role of the board and committees in emerging markets: Evidence from Malaysian public companies

• Published date: 01 October 2023
• Author: Muhammad Shaheer Nuhu,Zauwiyah Ahmad,Lim Ying Zhee
• Date: 01 October 2023
• DOI: http://doi.org/10.1002/jcaf.22642

Received: 15 March 2023 Revised: 4 May 2023 Accepted: 13 May 2023

DOI: 10.1002/jcaf.22642

RESEARCH ARTICLE

Investigating earnings management practices and the role

of the board and committees in emerging markets: Evidence

from Malaysian public companies

Muhammad Shaheer Nuhu Zauwiyah Ahmad Lim Ying Zhee

Faculty of Business, Multimedia

University, Melaka, Malaysia

Correspondence

Muhammad Shaheer Nuhu

Email: ms.nuhu@yahoo.com

Abstract

This study was aims to examine the significant elements of the audit and board

committee in predicting earnings management (EM) for the period of 2010–

2021. The study population comprised total number of 775 listed firms on Bursa

Malaysia’s main market. The annual audited financial statements and reports

of the listed firms, firm’s websites, Bloomberg and the Bursa Malaysia website

were used as method of data collection. The analytical method used in the cur-

rent study was descriptive statistic and GLS methods of panel regression. The

findings of this study suggested that firms with effective CG mechanisms such

as, audit committee size (AUDSIZ), audit committee financial expertise (AUD-

FEXPT), remuneration and nomination committee (R&NC), supervisory board

size (SBS), mitigates accrual, and REM. However,the findings also indicated that

gender composition (CGEND) were found to be ineffective in predicting EM.

KEYWORDS

audit committee, earnings management, financial expertise, gender composition, supervisory

board size

1 INTRODUCTION

The misconduct of management has been responsible for

several other corporate failures, most of which involving

earnings manipulation. Such practices tend to mislead

investors, shareholders, and other stakeholders for sev-

eral years before the corporation crumbled and no longer

become sustainable (Puni & Anlesinya, 2020). The result-

ing corporate failures have raised issues with the effec-

tiveness of corporate governance (CG) mechanisms in

curbing manipulation of financial reports (Gerged, A. M.,

Albitar, K., & Al-Haddad, L. 2021;McLaughlin et al., 2021).

It was also argue that the negative consequences of EM

have highlighted the necessity of CG mechanisms in the

business world (Alhadab & Al-Own, 2019; Assenso-Okofo

et al., 2021; Husni et al., 2021; Okour & Choong, 2020).

The tendency for EM is invisible, and only if it goes unde-

tected can be deemed effective. This makes estimating EM

a challenging objective for researchers.

Moreover, it was proposed that EM is less effective

and less aggressive if there is a good governance struc-

ture in place (Almarayeh et al., 2020; Vasilakopoulos

et al., 2018). Furthermore, it has been shown that some

CG mechanisms are associated with lower levels of EM

(Azhar & Islahuddin, 2018; Khalil & Ozkan, 2016; Reguera-

Alvarado et al., 2019; Silvestre et al., 2018). Audit and board

committee (ABC) has long been used as mechanism to

ensure proper governance of corporations and reduce the

conflict of interests between the shareholders and the man-

agement. There is an assumption that effect board and

committee can have a positive impact on a company’s

performance and, ultimately, its value and it is one of

the most essential aspects in ensuring a company’s suc-

cess (Alam & Akhter, 2017; Alqatamin, 2018; Bacha, 2019;

174 © 2023 Wiley PeriodicalsLLC. J Corp Account Finance. 2023;34:174–192.wileyonlinelibrary.com/journal/jcaf

NUHU et al. 175

Chapple, Dunstan & Truong, 2018;Hamdan,2020;Puni&

Anlesinya, 2020). Companies that embrace sound gover-

nance practices have the potential to significantly enhance

and sustain strong performance while eliminating finan-

cial challenges. Then, it was determined that a corporation

that did not employ effective governance had financial

difficulties (Al-Rdaydeh et al., 2018; Okour & Choong,

2020).

There is evidence that many Malaysian companies are

experiencing EM issues due to CG weaknesses, with sev-

eral indication of CG mechanisms challenges (Abdullah,

2022; Al-Absy et al., 2020; Al-Zaqeba et al., 2022;Nasiri&

Ramakrishnan, 2020; Zakaria et al., 2022). With the global-

ization of businesses and financial markets, there has been

a strong demand for high-quality information from busi-

ness corporations throughout countries so that investors

can compare risk and return across markets, placing

higher significance on good CG mechanism. Nevertheless,

previous literaturestended to explain audit and board com-

position separately although these two components work

together synergistically in ensuring CG effectiveness (Al-

Haddad & Whittington, 2019; Alhossini et al., 2021;Eldaia

et al., 2023; Gerged et al., 2021; Hernawati, 2021; Inaam &

Khamoussi, 2016; Mardjono & Chen, 2020; Zalata et al.,

2018, 2022; Zehri & Zgarni, 2020). These studies indicate

a gap in the current literature.

Based on past literatures, mixed empirical evidences

related to EM could be found. For example, in the studies

of Al-Absy et al. (2020); Beuselinck et al. (2019); Kjær-

land et al. (2020); Lopes (2018), Surbakti and Shaari (2018);

Priharta and Rahayu (2019); it was determined that ele-

ment of CG mechanisms jointly reduce EM. Furthermore,

Özcan (2019) found that CG mechanisms significantly and

negatively related with likelihood of EM. These studies

documented that the CG mechanisms lower the level of

EM. While in the study of Al-Haddad and Whittington

(2019); Azhar and Islahuddin (2018); Waweru and Prot

(2018) internal governance mechanisms was found to have

insignificant effect on EM. These studies established that

CG is not effective in reducing the level of EM practice.

Thus, the above results signify inconsistent findings in the

relationship between audit and board committee and EM.

Hernawati (2021)andHusnietal.(2021) argued that

ignoring CG mechanisms such as audit committee exper-

tise and external audit quality may be responsible for

the mixed empirical evidence in prior studies, thereby

increasing the need for studying audit and board com-

mittee in relation to EM more comprehensively. Other

studies have reported that differences in legal and regu-

latory frameworks, historical and the structure of other

factors and product markets, all influence the effective-

ness of CG mechanisms (Daghsni et al., 2016;Ghafran

& O’Sullivan, 2017). A number of studies have been con-

ducted to examine CG mechanisms and EM practices

in Malaysia. For examples, studies conducted by Nasiri

and Ramakrishnan (2020), Mohamad et al. (2020), Hasan

et al., and Hamid (2019) examines the effect CG mech-

anisms on EM in Malaysia. The studies used different

industries. Mohamad et al. (2020) used thirty five firms of

Government-linked companies (GLC), while in the stud-

ies of Nasiri and Ramakrishnan (2020) and Hasan et al.

(2019) Bursa Malaysia listed firms for the sample of 84

and 35 firms were used respectively. Thus far, CG mecha-

nisms which have been found significant in past literatures

have not been adequately investigated in the Malaysian

contexts. The influences audit and board committee on

EM among local corporations have not received much

attention

In several ways, this current study advances the body

of existing research. The influence of audit and board

committee on EM practices has been neglected in the

Malaysian studies, despite the significance of these mech-

anisms in controlling EM. Past studies are based on very

limited samples (Abdullah, 2022; Al-Absy et al., 2020;Al-

Haddad & Whittington, 2019; Nasiri & Ramakrishnan,

2020; Okour & Choong, 2020; Zakaria et al., 2022; Zalata

et al., 2018). First, it provides new insights on the crucial

policy debate relating to audit and board committee on

both accrual and real EM practices. While extant litera-

ture suggests that the audit committee is associated with

less EM (Hamdan, 2020; Kjærland et al., 2020; McLaugh-

lin et al., 2021;Widagdo,etal.,2021). This current study

analysis extends these literature by documenting that less

EM practices can be better achieved if the role of audit

and board committee have been included in the model. In

order to minimise and constrain manager’s opportunistic

behaviors, the current study hopes that its findings would

motivate firms to provide additional thought to establish-

ing an excellent audit committee and board composition.

Second, this study is the first to use five primary estimates

to quantify EM in Malaysian listed firms. The five prox-

ies for EM measured and employed in this study, include

Jones model, modified by Dechow et al. (1995), Kothari

et al. (2005) model and Roychowdhury (2006) model

estimated using (cash flow from operating activities, pro-

duction cost and discretionary expenses). Moreover, the

five empirical models have been developed to investigate

the links with audit and board committee’s components.

The validity and reliability of the data improved by using

five proxies for EM in this study. The statistical analysis of

this study strengthened by the consistent results observed

between these proxies. Finally,the study is first in Malaysia

to control for asset tangibility (ASTANG),firms size (FSIZ),

management efficiency (MEFF), firms age (FAGE), lever-

age, and corporate tax which will strengthens the validity

of the research results.