Earnings versus capital ratios management: role of bank types and SFAS 114

Alali, Fatima; Jaggi, Bikki

doi:10.1007/s11156-010-0173-4

Cited by 43 publications

(38 citation statements)

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“…DeFond and Park, 1997;Leuz et al, 2003) as well as financial firms (e.g. Anandarajan et al, 2003;Anandarajan et al, 2007;Alali and Jaggi, 2011). Among others, Lobo and Yang (2001), Kanagaretnam et al (2003) and Hasan and Wall (2004) reveal that managers of US banks save earnings for future periods by increasing loan loss provisions (LLP) in good times and borrow earnings from the future by releasing LLP in bad times.…”

Section: Introductionmentioning

confidence: 99%

Earnings baths by CEOs during turnovers: empirical evidence from German savings banks

Bornemann

Kick

Pfingsten

et al. 2015

Journal of Banking & Finance

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Section: Introductionmentioning

confidence: 99%

Earnings baths by CEOs during turnovers: empirical evidence from German savings banks

Bornemann

Kick

Pfingsten

et al. 2015

Journal of Banking & Finance

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“…Adding to the literature in a fourth way, we exploit the vast dominance of non-listed banks in the German banking market and thus enhance understanding of earnings management incentives in not publicly-held firms (Beatty et al (2002)). Finally, we join Alali and Jaggi (2010) 3 by being among the first to provide evidence on changes in earnings management behavior of banks brought about by the turmoil of the recent financial crisis.…”

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confidence: 99%

“…For banks close to the limit, a release decision may primarily be driven by the aim of retaining managerial freedom of decision-making with respect to 340f reserves in the future. LNTA i,t is the natural logarithm of total assets of bank i at the end of year t. This variable is included since it is used as a control in many earnings management studies, and partly found to be significant (Alali and Jaggi (2010)). Finally, we add CRGDP t , which is the aggregate volume of bank lending…”

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confidence: 99%

Are banks using hidden reserves to beat earnings benchmarks? Evidence from Germany

Bornemann

Kick

Memmel

et al. 2012

Journal of Banking & Finance

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Section 340f of the German Commercial Code allows banks to provision against the special risks inherent to the banking business by building hidden reserves. Beyond risk provisioning, these reserves are implicitly accepted as an earnings management device. By analyzing financial statements of German banks for the period 1995 through 2009, we see these hidden reserves being used to (1) avoid a negative net income, (2) avoid a drop in net income compared to the previous year, (3) avoid a shortfall in net income compared to a peer group, and (4) reduce the variability of banks' net income over time. We (5) find a diminished relevance of avoiding a drop in net income as well as a shortfall relative to the peer group during the financial crisis. Finally, we are (6) unable to confirm any differences in the relevance of hidden reserves for earnings management between listed and non-listed banks. Non-technical summarySection 340f of the German Commercial Code (Handelsgesetzbuch) allows banks to provision against the special risks inherent to the banking business by building hidden reserves (henceforth: 340f reserves). They are built by understating the value of certain types of assets (customer and interbank loans, fixed-income securities, securities bearing variable interest and stocks) designated to the socalled "liquidity reserve". The amount of 340f reserves must not exceed 4% of the understated items' original value. They are referred to as "hidden", because no information on the level of (or changes in) these reserves is visible from banks' financial statements. The decision to create such reserves is the responsibility of the bank management. Beyond their risk provisioning function, 340f reserves are implicitly accepted as an earnings management device, enabling bank representatives to manage net income and earnings.In our study, in which we analyze financial statements of German banks for the period 1995 through 2009, we investigate to what extent discretion is exerted by bank managers when using 340f reserves. In more detail, we examine whether 340f reserves are managed to reach certain income targets derived from prospect theory. Our results are as follows.• Banks with a negative net income pre-340f release 340f reserves to a larger extent than other banks. Thus, managers try to avoid presenting a negative net income in the financial statements of their banks.• Banks with a pre-340f net income below their own previous year's level release 340f reserves to a larger extent than other banks. Thus, managers try to avoid presenting a drop in net income in the financial statements of their banks.• Banks with a pre-340f net income below the level of their peer group release 340f reserves to a larger extent than other banks. Thus, managers try to avoid presenting a drop in net income compared to their peers in the financial statements of their bank.• Banks with a high (low) non-discretionary income release 340f reserves to a lower (larger) extent. Thus, managers over time try to reduce the variability of net i...

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“…Since Wall and Koch (2000), emerging studies have examined several issues in the loan loss provisioning literature including: provisioning behaviour during fluctuating business cycles and crisis periods (Laeven & Majnoni, 2003;El Sood, 2012;Agenor and Zilberman, 2015), how procylical LLPs contribute to systemic risk and financial system instability (Borio, Furfine, & Lowe, 2001, pp. 1e57;Wong, Fong, & Choi, 2011), dynamic provisioning to mitigate LLP procyclicality (Saurina, 2009;Perez et al, 2011), the role of LLP in bank earnings management, regulatory capital management, signalling and tax management (Lobo & Yang, 2001;Kanagaretnam, Lobo, & Yang, 2005;Anandarajan, Hasan, & McCarthy, 2007;Perez, SalasFumas, & Saurina, 2008;Ozili, 2015Ozili, , 2017aAndries, Gallemore, & Jacob, 2017), bank manager's provisioning discretion under different accounting and regulatory regimes (Alali and Jaggi, 2011;Hamadi, Heinen, Linder, & Porumb, 2016;Kilic, Lobo, Ranasinghe, & Sivaramakrishnan, 2012;Leventis, Dimitropoulos, & Anandarajan, 2011;Marton & Runesson, 2017;Ryan & Keeley, 2013;Wezel, Lau, & Columba, 2012), provisioning and competition (Dou, Ryan, & Zou, 2016), provisioning under different auditor type, reputation and specialism (Dahl, 2013;Kanagaretnam, Lim, & Lobo, 2010;Ozili, 2017a), provisioning discretion under strong corporate governance mechanism and institutional controls (Fonseca and Gonzalez, 2008;Bouvatier, Lepetit, & Strobel, 2014;Curcio & Hasan, 2015) and provisioning behaviour in several country, regional and international contexts (Pain, 2003;…”

Section: Introductionmentioning

confidence: 99%

Bank Loan Loss Provisions Research: A Review

Ozili¹,

Outa

2017

SSRN Journal

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We review the recent academic and policy literature on bank loan loss provisioning (LLP) to identify several advances in the literature, to highlight some challenges in LLP research and suggest possible directions for future research with some concluding remarks. Among other things, we observe some major advancement in country-specific and cross-country analyses and substantial interaction between LLPs and existing prudential, accounting, institutional firm characteristic, cultural, religious, tax and fiscal framework. We observe that managerial discretion in provisioning does not necessarily generate LLP estimates that reflect the true and underlying economic reality of banks' credit risk exposure but rather managerial discretion in provisioning is strongly linked to income smoothing, capital management, signalling and other objectives. We also address several issues including the ethical dimensions of income smoothing, motivations and constrains to income smoothing, methodological issues in the bank loan loss provisions literature and the dynamic loan loss provisioning experiment. Moreover, we suggest several avenues for further research such as: finding a balance between sufficient LLPs which regulators want versus transparent LLPs which standard setters want; the sensitivity of abnormal (specific and general) LLPs to changes in equity; the persistence of abnormal LLPs following CEO exit; country-specific interventions that induce LLP procyclicality in emerging countries; investigating LLP behaviour in the post-financial crisis sample period; the impact of Basel III on banks' provisioning discretion; LLP behaviour among systemic and non-systemic financial institutions; etc. We conclude that, because provisioning models are only as good as the assumptions underlying such models as well as the accuracy of the inputs included in such models, regulators need to pay attention to how much discretion banks and lending institutions should have in determining reported provision estimates, and this has been a long standing issue.

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Earnings versus capital ratios management: role of bank types and SFAS 114

Abstract: Banks, Earnings management, Capital management, Bank size, Bank risk, C21, G21, G28, M41, M48,

Cited by 43 publications

References 44 publications

Earnings baths by CEOs during turnovers: empirical evidence from German savings banks

Earnings baths by CEOs during turnovers: empirical evidence from German savings banks

Are banks using hidden reserves to beat earnings benchmarks? Evidence from Germany

Bank Loan Loss Provisions Research: A Review

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