The effect of internal control quality on real and accrual-based earnings management: evidence from France

This paper examines the effect of internal control (IC) quality, measured by IC weakness disclosures, on the quality of financial statements’ information, measured by real and accrual-based earnings management. The sample consists of 686 firm-year observations of French non-financial companies liste...

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Bibliographic Details
Published in:Journal of management control 2022-12, Vol.33 (4), p.545-567
Main Authors: Boulhaga, Mounia, Bouri, Abdelfettah, Elbardan, Hany
Format: Article
Language:English
Subjects:
Accounting/Auditing
Business and Management
Business Strategy/Leadership
Business Taxation/Tax Law
Earnings management
Financial statements
Generalized method of moments
Operations Management
Organization
Original Paper
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Summary:This paper examines the effect of internal control (IC) quality, measured by IC weakness disclosures, on the quality of financial statements’ information, measured by real and accrual-based earnings management. The sample consists of 686 firm-year observations of French non-financial companies listed in the SBF 120 index during the period between 2012 and 2018. Using ordinary least squares (OLS) and generalized method of moments (GMM) regression, our empirical results indicate that IC weakness disclosures are positively and significantly related to real activities manipulation and negatively associated with discretionary accruals. This provides empirical evidence that a good system of IC reduces accrual-based earnings management activities and improves the reliability of financial statements; however, it cannot control real earnings management (REM). The research findings are of practical interest not only to financial analysts, auditors, and investors—guiding them to pay attention to REM activities in case of disclosures of IC weaknesses—but also to regulators, who may consider additional disclosure requirements when reporting material IC weaknesses and designing policies that could help in reducing REM practices.
ISSN:2191-4761
2191-477X
DOI:10.1007/s00187-022-00348-5