Purpose -We analyze how debt burden and income taxes affect the earnings quality of Portuguese SMEs, using earnings persistence as a proxy for earnings quality. More specifically, we intend to find out whether the high indebtedness of these firms causes a greater tax effect than debt effect.Theoretical framework -While credit banks represent the main source of financing for SMEs, they tend to reduce their earnings in order to avoid taxes. However, this activity can be costly for their development, given that banking institutions demand earnings persistence to reduce the risk of default, in accordance with contract theory.Design/methodology/approach -We collect data for 140 Portuguese SMEs over the period from 2015 to 2021 to run panel data regressions.Findings -Debt and earnings persistence are negatively related, so this relationship tends to degrade earnings quality, which is inconsistent with capturing bank confidence. Furthermore, debt maintains the negative effect with income taxes in the model. However, in this combination, income taxes become significant to explain the negative influence on earnings persistence, which is consistent with tax avoidance. Finally, we control for firm size, which is positively associated with earnings persistence. Overall, taking together the determinants of debt, income tax and size, Portuguese SMEs do not have persistent earnings.Practical & social implications of research -This study may be useful for several stakeholders of Portuguese SMEs, namely tax authorities, creditors, managers and academics, as it shows that debt and especially taxes have a negative impact on the earnings persistence, which signals a decrease in the quality of financial reporting.Originality/value -In the most leveraged Portuguese SMEs, debt is not a governance mechanism to control managers' decisions, as more debt reduces earnings persistence, meaning that managers are not sensitive to capturing creditors' confidence. In addition, the tax effect is more relevant than the debt effect for earnings persistence. Faced with interest rate rigidity, managers exploit the discretionary nature of tax decisions.
While financial statements are the primary source of information about a firm, they tend to be under earnings management practices, namely to avoid paying tax. Therefore, we aim to examine whether taxes still affect earning persistence in an era of prevalent digital information. For that purpose, we use book–tax differences considering the deductible temporary differences and the taxable temporary differences. In addition, we analyze which of the two earnings components are more affected by taxes, specifically cash flow or accruals. We estimate econometric regressions using panel data to test our hypotheses. Through a sample of 421 small- and medium-sized (SME) Portuguese firms, between 2016 and 2020, we found empirical evidence that earning persistence tends to be lower when deductible temporary differences increase, while taxable temporary differences produce no statically significant effect. Furthermore, our results suggest that cash flow component increases more earning persistence than accruals. Therefore, deductible temporary difference may be an indicator of earnings management activities in these firms. These results are relevant, given the potential negative consequences of earnings management for the efficient decision making of stakeholders and even more because SMEs represent a substantial number of firms in European countries, particularly in Portugal.
Previous research has found that, when firms engage in environmental sustainability practices, they tend to give a consistent signal to external stakeholders by acting in a more responsible, transparent, and ethical manner, and these firms tend to exhibit high earnings quality. However, other studies have found that those activities may mask a poor earnings quality. On the other hand, firms with high debt levels face constraints in raising funds. In this study, we expect these firms, when involved in environmental reporting practices, to reveal an increase in their earnings quality in order to improve their ability to capture financing. Thus, we analyze whether the level of environmental disclosure and a firm’s debt increase earnings quality. To analyze the former association, we develop an environmental sustainability reporting index (ESReporting), based on GRI standards, using the content analysis for Portuguese firms from 2016 to 2020. We use earnings persistence as a proxy for earnings quality because it is a fundamental characteristic to determine firm value. Regarding debt, we include a financial indicator to analyze its effect on earnings persistence. To test the hypotheses, we estimate a multiple linear regression, applying panel data. Our results suggest that ESReporting and debt tend to positively affect earnings persistence. In addition, our evidence suggests that ESReporting produces a higher positive impact then debt. These results show that ESReporting and debt may be used as regulating mechanisms of earnings management. Besides, this article brings some insights to the improvement of earnings quality resulting from a higher commitment to environmental disclosure and contributing to monitoring managers’ activities.
O presente estudo analisa a relação existente entre as características de Governo Societário e o nível de endividamento das empresas portuguesas. A amostra é constituída por 9.170 empresas, não financeiras e corresponde a 100.870 observações, no período de 2008 a 2018. Os dados foram recolhidos por consulta da base SABI e foram analisados através de modelos de regressão de efeitos aleatórios, considerando o modelo de dados em painel, com recurso ao programa de software de desenvolvimento integrado para R – RStudio, versão 1.2.5001. A análise dos resultados fornece evidências no sentido de concluirmos que as características de governo influenciam a escolha da estrutura de capital das empresas portuguesas. Este estudo visa contribuir para o debate e o enriquecimento da discussão sobre as características de Governo e a estrutura de capitais e pode ser muito útil para accionistas, administradores, credores e outros investidores, assim como para académicos e reguladores.
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