Pacific Perspective
Pacific Perspective
Earnings management
reflects cultural valuesRecent improper accounting reports have added interest to the issue of earnings management. Most of us are interested in knowing why earnings management is necessary.
I am not talking about reporting fraudulent earnings, as was the case of Enron and WorldCom. Rather, I am focusing on legal and accepted manipulations of earnings.
Why does management decide to choose a method that would result in lower or higher reported earnings? Are reasons the same for companies all around the globe?
If not what factors should be considered? Does cultural differences have anything to do with earnings management tactics?
Accountants can choose among sets of accepted methods of reporting earnings. They are able to use different ways of estimating revenues and expenses based on Generally Accepted Accounting Principles (GAAP).
The goal here is to choose the methods representing the most accurate earnings. Empirical evidence shows U.S. companies manage their earnings based on variables such as analysts forecasts, access to debt markets, government regulations, competition, contractual obligations, the direction of stock market, management compensation and bonuses, unrealistic plans and budgets, period-end requests from sup- eriors, excessive profit followed by fear of decline, promotions and job retention.
In the international setting, country-specific accounting methods in most cases mirror GAAP.
Accountants at international companies have the authority and capabilities to manage earnings.
However, the reasons for earnings management can be completely different from one country to another.
For example, earnings management in Japan is heavily affected by the ownership structure of the corporation. Cultural values also may affect accounting practices and earnings management.
Literature has provided examples as to how nations or groups of countries can be classified based on their cultural values.
For example, most countries in Asia Pacific have more conservative (e.g., more saving) and collective cultures than that of the United States (more spending and more individualistic).
Chinese culture is long-term oriented; it focuses on the future, perseverance and the family. This long-term perspective is passed on by the large Chinese population in Pacific Asian countries (such as Malaysia, and Singapore). This long-term orientation also resulted in large amounts of savings and conservative behavior in these cultures.
Thus, it is not too difficult to see the effect of cultural values on accounting. Consider two aspects of accounting: Conservatism (reporting lower earnings) and secrecy (not providing proper disclosure).
If a nation is highly against uncertainty and is highly collective (e.g., China), then that country is more conservative than other countries.
The effect on earnings management can be suggested: The conservative nations on average, choose more income decreasing methods in their earnings management than those that are not as conservative. In another example, if a country is highly secretive, then its accounting information system could provide a greater chance for earnings management.
Recent research done by the faculty at the University of Hawaii College of Business proves these suppositions.
So, cultural factors affect accounting values, which in turn affect earnings management.
Hence, it is important to understand the cultural reasons behind earnings management in different environments, since one of the challenges of globalization may be the understanding and interpretation of earnings reported by companies in different nations.
Hamid Pourjalali is director of the School of Accountancy at the University of Hawaii at Manoa. Reach him at Hamid@cba.hawaii.edu.