The Predictive Power of K-Nearest Neighbor (KNN): The Effect of Corporate Governance Mechanisms on Earnings Management

Abstract

This study investigates the long-run effect of corporate governance mechanisms on earnings management of listed companies in Nigeria and Ghana. The study uses Ant Colony Optimization (ACO) and K-Nearest Neighbor (KNN) in establishing a long-run effect of good corporate mechanisms in reducing earnings management practice by corporate managers. ACO selected four major corporate governance mechanisms: Board Procedure Index, Board Disclosure Index, Ownership Structure Index, and Shareholders’ Rights Index; these were the key corporate governance mechanisms that influence the reduction in earnings management activities. KNN produced a strong significant longitudinal effect of implementing good corporate governance mechanisms in decreasing the manipulating behavior of managers. Quality corporate governance mechanisms’ implementation reduces the opportunistic behavior of corporate managers in manipulating earnings. Therefore, the study alert policymakers the urgency in setting up appropriate policies to enhance the reduction in earnings management practices to provide accurate financial information for stakeholders’ financial decision-making. The use of ACO and KNN in the study is a great novelty, which presents a calibration and prediction of the impact of corporate governance mechanisms on earnings management showing the rate of reduction.

Corporate Governance and Capital Structure: Moderating Effect of Gender Diversity

“…The failure of Lehman Brothers, followed by the historical corruption scandals such as Maxwell, Enron, and Worldcom, elevated the concern among the investors and other stakeholders regarding governance mechanism, especially; the functioning and composition of the corporate Board. The Sarbanes Oxley Act 2002, formulated for the protection of investors from the management fraudulent practices and safeguard shareholder’s wealth, also turned the academic debate toward the demographics and other characteristics of the Board composition (Wu et al, 2020). Advancing further, the composition of gender diverse board was made mandatory by Norway, India, and Spain (Carter et al, 2003; Terjesen et al, 2009).…”

The Impact of Ownership Structure on Earnings Management: The Case of Vietnam

“…Nguyen et al (2020) reveals that state ownership has a positive impact on earnings management whereas management’s ownership has a negative impact on it. Wu et al (2020), Tran (2020) warn the necessity in designing proper policies for reducing earnings management behaviors from policy makers for providing reliable financial information. Saona et al (2020) find the evidence of earnings management reduction in case of high vote rate of shareholders and a negative relationship between ownership of employees and earnings management.…”

Prediction of Earnings Manipulation on Malaysian Listed Firms: A Comparison between Linear and Tree-based Machine Learning

“…The results indicate that the accuracy rates of the prediction model for the industries range between 81 percent; chemical product to 57 percent; non-metallic mineral product. More recent study by [50] investigates the ability of corporate governance features in signalling the earnings management activities of listed companies in Nigeria and Ghana. This study uses 4 corporate governance indexes as inputs for contructing K-Nearest Neighbor (KNN) prediction model.…”

“…In general, the results of prior studies show that accuracy of artificial intelligence method including via machine learning is greater than traditional statistical especially regarding nonlinear patterns [47]. Despite the wiser use of artificial intelligence methods in financial sector, research on earnings management prediction using such methods are limited [23][48]- [50].…”