RELIGION AND EARNINGS MANAGEMENT - Some ... - Unitec

activities such as interest-bearing loans, the companies will disclose more information
regarding the non-permissible elements to show whether or not they are within the
benchmarks (Sulaiman, 2003). Therefore, if such accountability and full disclosure
concepts are demanded in Islam, then the focus of Islamic corporate reporting
practices would be far wider and more reliable than conventional reporting practices.
A common measure of accounting quality is abnormal accruals (Dechow and
Schrand, 2002). Higher abnormal accruals are seen as a signal of earnings
manipulation. If Shariah firms abide by a strict code of ethics, then there will be no
need for earnings manipulation as these firms will be working in the interest of the
community, rather than just any particular interest such as the owner and/or the
management. Furthermore, even if the firm does encounter poor performance issues,
its managers should report truthfully, per Shariah. Thus, there will be no earnings
manipulation. Finally, Shariah firms are expected to provide full disclosures relating
to their performance. Based on these reasons, we hypothesize that:
H1: Shariah firms have lower levels of higher earnings management.
To test this hypothesis, we control for variables that could influence earnings
management decisions or affect the level of abnormal accruals. First, we control for
firm size. Large firms often receive more media attention, have higher analyst
following and face regular political scrutiny. Therefore, they would tend not to
manage their earnings upwards. Second, we control for debt. Firms with higher levels
of debt would have their earnings scrutinized by debt providers or their agents, e.g.,
trustees, such that they do not inflate earnings to benefit the shareholders or mangers
at the expense of the debt providers through dividends and earnings-based
compensations. Third, we control for growth. Growth firms are likely to have higher
accruals because of increased revenue-generating activities, such as credit sales.
Fourthly, in Malaysia there are firms that have significant government ownership. The
incentives of their managers and shareholders are different to those of private
enterprises, and are less likely to manage earnings using abnormal accruals. Fifthly,
strong ownership of managers is common in Malaysia. High managerial ownership
reduces the need to provide earnings information for outsiders, reducing the need for
earnings management. Because EM ft (earnings management) is computed by year and
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