Internal Control Weaknesses and Evidence of Real Activities Manipulation

Does late 10K filing impact companies’ financial reporting strategy? Evidence from discretionary accruals and real transaction management

“…Second, the study provides additional insights by examining late filers’ trade‐offs between earnings management techniques in the post‐late filing period in three specific economic situations: first, when late filers have clear incentives to meet or beat earnings targets in the post‐late filing year; second, when they continue to be audited by higher‐quality Big 4 auditors; and third, when they have material internal control weaknesses. Finally, it complements prior studies that demonstrate firms’ substitution between earnings management techniques in response to various institutional and firm‐specific events (e.g., Brown et al., ; Chan et al., ; Chi et al., ; Cohen et al., ; Cohen & Zarowin, ; Garg, ; Järvinen & Myllymäki, ; Lenard et al., ; Roychowdhury, ; Shi et al., ).…”

“…() find evidence that clawback adoption incentivizes firms to reduce accruals management and use more RTM in the post‐adoption period. In a similar vein, other research shows that firms engage in higher levels of real activity management when they anticipate negative stakeholder reaction to their disclosure of material ICW (Järvinen & Myllymäki, ; Lenard et al., ), or when firms comply with internal control certification requirement (Garg, ), or when firms are subject to high‐quality external audits (Chi et al., ). However, Shi et al.…”

“…Garg's () study is similar in nature to Järvinen and Myllymäki () and Lenard et al. () in the US context in that the firms disclosing material internal control weaknesses under SOX 404 are more likely to engage in real activity manipulation at a higher level. In a related study, Brown, Pott, and Wompener () find evidence of the positive effect of mandatory internal control and risk management reform on earnings‐based attributes of German companies.…”

“…Prior studies use research settings in which the sample firms tend to use opaque forms of earnings management and manipulate real activities as a proactive measure to avoid enhanced scrutiny and mitigate adverse stakeholder reactions. Such studies relate to clawback adopters’ proactive action to make trade‐offs between AM and RTM in a post‐adoption period (Chan, Chen, Chen, & Yu, ), real earnings management by firms’ disclosing material internal control weaknesses (ICW) under SOX Section 404 (Järvinen & Myllymäki, ; Lenard, Petruska, Alam, & Yu, ), trade‐offs between two earnings management techniques by firms subject to higher‐quality audits (Chi, Lisic, & Pevzner, ), and the role of real earnings management in firms’ overvaluation at the time of seasoned equity offerings (Kothari et al., ). Recently, Garg () finds that while Australian firms complying with internal control certification requirements (ICCR) for the first time generally engage in higher earnings management than those having continuing disclosure from a voluntary period, they use more real activity management in place of accruals management to improve perceived earnings quality.…”

Deteminants of Reliability of Financial Statements of School Operational Grant: Indonesian Evidence

“…Modlin (2012) states that the problems in government financial reporting are related to weak internal controls. Lenard et al (2016) state that weak internal controls will cause manipulation activities that impact on the quality of financial reporting. Some studies in Indonesia regarding internal control systems of government agencies find that the quality of financial reporting is influenced by government internal control systems (Herath, 2014).…”