1

DEBT RELIANCE AND EARNINGS MANAGEMENT IN THE NIGERIAN LISTED CONGLOMERATES

BY

AHMAD BELLO (PhD)
Department of Accounting
Ahmadu Bello University, Zaria.
belloma2000@yahoo.com
&
JIBRIL IBRAHIM YERO
Department of Accounting
Ahmadu Bello University, Zaria.
jiyero@yahoo.com

ABSTRACT

This study assesses the impact of debt-reliance on earnings management, using all the Nigerian listed
conglomerates. The study measured debt-reliance using leverage ratios and also using the absolute
value of debt. Earnings management is estimated using the modified Jones (Dechow, etal, 1995)
model of discretionary accruals. Panel OLS was then used to estimate the relationship. After
controlling for fixed and random effects, the Hausman specification tests suggested that systematic
difference exists in the estimated coefficients for both the two hypotheses tests of the coefficients, and
as such, we used the results that we controlled for fixed effects. Our main variables of interests-
leverage and absolute value of debt are significantly associated. However, none of our control
variables (returns on asset and firm size) is significant, where we used absolute value of debt. They
are however significant where we used leverage ratios. We thus, concludes that managers of
Nigerian listed Conglomerates manage earnings to avoid incuring the cost of debt agreements
violation and users should factor debt in assessing reported earnings. Further studies may control for
public and private debt.

KEYWORDS: Debt, Earnings, Discretion
1. INTRODUCTION

When one look at the general expectations of a firms stake holder- the share-holders,
potential investors, employees, government, cummunities where the business is domiciled, and so
on- one would be quick in concluding that earnings is the single most important variable which
everyone looked up to, in order to have his expectations met up. As such, studies on firms earnings
are also of equal importance, as the output from which, could go a long way in making reasonable
expectations so as to keep the possibility of disappointments at a minimum. In-so-far-as these
stake-holders continue to look up to reported earnings for their various decisions, and continue to
yield effective outcomes from these earnings based decisions, earnings will continue to remain
relevance. As staunch advocate of continuous contemporaneous accounting (COCOA) such as
Chambers (1966) concurs, for earnings to remain relevant, it must continue to remain effective in
users decision makings. However, evidence from around the world indicates a kind of dwindling
effectiveness/relevance of earnings-based metrics, as users are now gradually turning towards the
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hard numbers(Mamedova, 2007). This dwindling relevance may no be not unconnected to the
practical experience of the users, on the level of effectiveness of their earnings-based decisions.
For instance, Mehta and Srivastavaare (2009) reported that, investors in United States were
caught off-guard by the collapse of giant corporations like Enron, in the previous decade. Despite
the fact that these corporations have been reporting positive and impressive earnings figures, till
year zero, these corporations still went bankrupt and abruptly yielded pathetic losses to
investors, without warnings from the periodic earnings. Similar cases were reported here in
Nigeria in 2007- the Cadburys earning over-statement, and in 2009, when the Central bank
discovered that some banks have used up their capital and started encroaching into depositors
funds, while they continued to report positive earnings figures (which is obviously managed)
throughout the periods (Eagle, 2009). The obvious explanation to this is that, earnings-based
decision is not effective as it used to be- it cannot be relied on as a measure of financial
performance of firms, as it is being subjected to manipulation due to discretions.

The manner in which running the affairs of a firm is structured, poses a serious threat to
the practice of reporting quality accounting earnings. The managers are empowered by the share
holders and by the regulations (generally accepted accounting principles- GAAP and others) to run
the firms using a given level of discretions, and in turns be rewarded based on performance. This
upper hands for the managers, as first line of information, creates information assymetry
situation- people have to use what the managers report. For opportunistic purposes, like trying to
meet target so as to earn their bonuses, or avoidance of debt covenant violations or missing
analyst forcast, both of which are linked to the managers performance, managers may take
advantage of the discretions accorded to the by GAAP and manage the reported earnings.
Managing earnings entails the use of favourable discretions in reporting earnings figures, through
various techniques like structuring transaction or selective applications of option open to the
managers, so as to either mislead users or to influence contractual outcomes that depends on the
earnings report (Healy, 1985). As this cannot be avoided, since the complex nature of modern
corporations demands that affair should be run by experts, and the owners may not have the
requisite expertise; the effect of this can however be neutralised through monitoring mechanism
and other indicators of earnings reliability.

In corporations where owners are separate from managers, monitoring mechanism comes
in handy in ensuring alignment between the conflicting interests of managers and those of the
stake-holders. Literature suggests that debt owners could be a good monitoring tool for the
managers opportunistic tendency. It is expected that, debt-owners monitors the activities of the
firms to which they gives out loan and thus forcing the managers to act in such a way that the
stake of these creditors are safeguarded (sweeney, 1994). They make sure that they secure a
conducive atmosphere, such that will ensure the safe return of their investment from the firm they
loaned out to. They make sure that they impose conditions that will ensure the generation of
permanent earnings, sufficient enough to facilitate the loan servicing and the pricipal repayment
over a sustained period of time. One may argue that certain conditions such as the minimum
figures by which the working capital of the lending firm must not fall below, has the potency to
induce the managers into manipulating receivables/accruals, upward for example. Of course this
is possible, but looking at the firm from a going concern perspective, one could see that in long-
term (and bear in mind that loans are of long-term nature), any inflation and postponement of the
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accrual figures beyond reasonable point is as good as burbles waiting to burst. It could culminate
into liqudity squeeze (which the debt-owners are against) which may in turns metamopose into
insolvency and bankruptcy. Logically, it is only when the cow (firm) stay healthily alive that the
milk (managers pay) will keep coming. Notwithstanding the above notion, the degree to which a
firm relies on debt as measured by the absolute figure or as debt-to-equity ratio (i.e leverage) is
viewed as a strong incentive for managers to manage earnings upward, so as to avoid the cost of
violating debt agreement. Even if the lenders conditions induce managers to manage earnings, it
means that debt still has an impact on earnings management, though a positive one. Thus, debt
reliance can still be used in assessing the reliability of the reported earnings.

Going by the above, it is plausible to assume that monitoring or inducing potentials of debt level,
which can be viewed either from the angle of the total debt figures, or as the ratio of borrowed
funds to the total equity, could either moderate the managers ability to manage earnings, or
enhance it. If this is so, it may be tentatively correct to say that debt reliance level impacts on
earnings management, and by extention, it will hence impact on the relevance of reported
earnings, since it signals to the users of earnings reports as to way the managers are expected to
conduct themselves. Thus, there is a need to look up for indicators of earnings reliability; if for
nothing else, at least for the purpose of safe-guarding the usefulness of an accountants most
important variable, as the entire accounting processes and efforts are normally directed towards
producing it.

While it is a laudable achievement that researches identified that earnings management
reduces the reliability and hence the relevance of reported earnings, and that debt reliance signals
the reliability of earnings, available evidence abound to show that investors still incur losses as a
result of basing their decisions on the reported earnings. This may be attributed to the mixed
result that exist as regards to the relationship between debt and earnings management. While
some researches concluded with evidence that debt/leverge level negatively impacts on earnings
management (Wasimullah, Toor and Abbas, 2010), others documented a positive relationship
(Defond and Jiambalvo, 1994). Thus, users assuming negative relationship whereas it is actually
positive, may asssess earnings reliability with error and hence yield ineffective decision output.
Based on these inconclusive results, we intend to find out to what extent that debt or leverage
impact on earnings management? As our objective is set towards ascertaining the impact of
debt/leverage on earnining management, we thus formulate our hypotheses as follows:
Ho1: Debt reliance does not have a significant impact on earnings management, when debt to
equity ratio is used.

Ho2: Debt reliance does not have a significant impact on earnings management, when absolute
value of debt is used.

The rest of paper is structured into 4 sections. Section 2 covers Literature review and
Theoretical frame-work. Section 3 discusses the methodogy adopted and model overview. The
result is presented and discussed in section 4 and finally, cocluding remarks follows in section 5.



4

2. LITERATURE REVIEW AND THEORETICAL FRAME-WORK
From the literature, it appears that there exist mixed views about the position of earnings
that are managed. Strong among the view, is the notion that earnings management is actually
detrimental particularly by reducing earnings relevance in its association with capital market, and
in general, to the economic well being of firm- to the share holders, potential investors and other
stake holders (see Bugshan, 2005; Cohen and Zarowin, 2008; Loomis, 1999 and Wasimullah, etal,
2010).

A weak view claims that accrual earnings management especially when it is not carried out
for opportunistic reasons of the managers is beneficial to investors as it communicate future cash
flow potentials of the firm (e.g. Xue, 2003). The question here is how do we know when earnings
management is not opportunistic? There is no known evidence (as far as this research can tell),
that empirically documented earnings management that is not opportunistic. However, this
research came across several researches that provided evidence suggesting that managers
manage earnings opportunistically, to earn their bonuses (Sun and Sun, 2007), to beat analyst
forecast (Comprix, Mills and Schimidt, 2007), to avoid reporting losses or declines in earnings
(Burgstahler and Dichev, 1997), during IPO, to secure favourable subscription (Teoh, Wong and
Rao, 1998), and so on. Nevertheless, there exist a reasonable evidence that income smoothing
(which is also a form of earning management) helps in stabilizing a firms share price due to the
consistency in reporting less volatile earnings, which makes investing into the firm more secure
and attractive (see Truman and Titman, 1988). This notion may seems plausible but looking at a
firm from a going concern perspective, moving income from period to period may have the
capability to distract a firm from its actual long term economic objectives and thus results in an
overall sub-optimality in goal attainments. Example, where there is no income to tap from a
cookie jar reserve, managers may start thinking of selling an asset, decreasing provisions, or
even devising some complex transactions like the Enron case, irrespective of whether such
decisions are sub-optimal or not. Just as Loomis (1999) emphasized, earnings management should
be seriously confronted. It is for this reason thus that scholars used the bank of knowledge at their
disposal and devised varying techniques of detecting earnings management. Healy and Wahlen
(1999) described the dual-staged nature of earnings management research. First stage which is of
identifying the motive or incentive that could likely propel managers into managing earnings and
secondly, computing the earnings that are managed so as to match it with the incentive to see if
the hypothesis backing the incentive is correct. It is in line with this that, this study reviewed
researches on the debt contract tightness (as measured by debt or leverage level) as a strong
incentive for managers to manage or to avoid managing earnings.

Looking at the existing literature, it appears that there are two schools of thought as
regards to the relationship that exists between a firms debt/leverage and managers tendency to
manage earnings. The first school of thought holds their claims on the thesis of agency cost theory
as propounded by Jensen and Mecklings (1976), while the second school leans on the debt
covenant hypothesis as forwarded by Watts and Zimmerman in their work on positive accounting
theory of 1978.

As argued in positive accounting literature, by the proponents of debt covenant hypothesis,
managers of firms close to violation of debt conditions resort to manipulating accruals in order to
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avoid incurring the cost attributed to violation, Defond and Jiambalvo (1994) conducted a
research on debt covenant violation and manipulation of accruals. Covering a period of 4 years,
they used a sample of 94 U.S firms that were reported to have violated their debt covenants.
Agreeing with their hypothesis in which they expect that managers accounting choices are
influenced by the level of closeness to debt agreement violation; the result shows that there exists
a positive relationship between debt and abnormal accruals. The result shows that in a year prior
to violation, abnormal, total and working capital accruals are strongly positive, while in the year of
violation, the accruals are negative. The explanation they gave for the first result is based on the
debt covenant hypothesis, that firms manage earnings upwards to avoid violation. In the second
result where there is a negative accruals, the explanation was that, auditors of firms on going
concern qualification usually after covenant violation, encourage the firms to write off of dubious
assets, and that usually after strong event like covenant violation that resulted to penalties, the
management is replaced with a new one and the new one takes a big bath to clear the deck. Going
by the above, it seems that everything fit to place. However, the research included only firms that
have already violated debt covenants. Including firms that have not yet violated their debt
covenant agreement may give a different result. Besides, the Jones (1991) time series and cross-
sectional models used to proxy for abnormal accruals have been severely criticized in the
literatures to be associated with gross estimation error. For instance, Dechow, Sloan and Sweeney
(1995) pointed that it is erroneous for the Jones (1991) model assume that the entire change in
revenue incorporated in the model is non discretionary. Both the Jones (1991) time series and the
cross-sectional versions carry such assumption. Similar studies was carried out by Sweeney
(1994) using the same but larger population (130 U.S firms) that violated debt agreements and
arrived at the same conclusion with Defond and Jiambalvo (1994). She found that managers with
debt violation constraints respond with income increasing accounting choices. The issue here is
that, unlike Defond and Jiambalvo, she used time series of accounting changes of firms close to
violation to proxy for earnings manipulation instead of abnormal accruals.

Considering the general concern on the lowering explanatory power of accounting
earnings, Bugshan (2005) conducted a research on corporate governance, earnings management
and the information content of accounting earnings, using a sample population of 778 drawn from
the top companies listed in Australian stock exchange, covering a period of 3 years (from 1997 to
2000). Though his overall hypothesis proved to be correct- that corporate governance negatively
impact on earnings management and conditioning corporate governance on earnings management
(which reduces the information content of earnings) improves the information content of
earnings; among his findings is that debt reliance level (as he calls it), which is one of the
monitoring mechanisms of corporate governance, has a positive impact on abnormal accruals.
First, it could be that because of the way he measured the leverage ratio which Welch (2011)
severely criticized with evidence and logic (that, it is errorneous to measure leverage as the ratio
of financial debt to total assets). Second, despite that the correlation coefficient shows a negative
correlation between leverage level and abnormal accruals (-.13) and is significant at 1%, the
regression coefficient depicted a positive explanatory power of leverage at .16. However, it is only
the correlation result that is significant. Lastly, his study period is more than a decade old. With
changes that occurred in the economy of the world, a new research may reveal a different result.

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Evidence from the same Australian continent, was presented by Jones and Sharma (2001),
where they used a sample of listed firms over a 10 year period and discovered a positive
relationship between leverage level and abnormal accruals. In addition, their result revealed that
the earnings management detected from firms operations dating back to the period of old
regulation is far higher than after the regulations were made to be more stringent. However, they
measured the leverage ratio as the ratio of external debt to total liability. Since leverage is
considered to be the added pull-up on the companys equity, and total liability cannot stand for
equity or assets, their measure is arguably not an adequate measure of leverage. In addition, they
used the Jones (1991) model of discretionary accruals and the McNichols and Wilson (1988)
model. While Jones model was criticized to have assumed that all changes in revenue are non-
discretionary, McNichols and Wilson (1988) model has been observed to be inadequate as it
captures only a single possible means of earnings management and managers may employ several
specific items at a time (Sun and Rath, 2010).

In another development, Shen and Chih (2007) researched on the impact of corporate
governance and earnings management, using Taiwanese listed firms. Again, his result confirmed
the prediction debt covenant hypothesis, where he derived a positive relationship between
leverage and earnings management. It is interesting to mention here that he however found that
this finding is as a result of good corporate practice. Where there is a poor corporate governance
practice, leverage increases has a reverse (negative) impact on earnings management.
Notwithstanding, he used the correlation between accruals and cash flow to proxy for accrual
earnings management.

Other studies that found positive relationshipbetween debt/leverage level include the
work of Sercu, Bauwhede and Willekens (2006), their studies used Belgian firms and they also
included trade creditors in estimating debt/leverage level; Murhadi (2009), who used indonesian
listed firms and Jones (1991) model to estimate earnings management; Mitani (2010) who used
Japanese population; and Huan and Liu (2011), who also used Japanese firms and concluded with
a positive relationship. The common feature of these studies is that apart from reporting a positive
relationship between debt and earnings maanagement, they were all conducted in different
continents, different economies and countries.

In contrast to findings above, evidence from Asian country of Pakistan was documented by
Wasimullah etal (2010) shows a significant negative association between high leverage, leverage
increases leverage level and total and abnormal accruals. They used a sample of 182 textile firms
listed in Karachi stock exchange for the period 2001-2006 and concluded that high leverage is
indeed instrumental in controlling the opportunistic behaviour of managers. Though the result is
robust for three different measures of abnormal accruals (the Healy (1985; modified Jones
{Dechow, Sloan and Sweeney 1995} and the forward looking model of Dechow, Richardson and
Tuna, 2002), they used a dummy variable to proxy for leverage. They partitioned their sample
between firms that undergo leverage increase in a given year as 1 and 0 if otherwise, in the first
test. In the second test, they partitioned the samples between highly leveraged firms as 1 and 0 if
otherwise. In all the tests, they found a significant negative association between leverage and
abnormal accruals. Without controlling for the leverage increases, the question here is what if the
result obtained is as a result of the interacting effects of the three explanatory variables (i.e
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leverage increases, high leverage and leverage level)? What would be the result if only raw figure
of leverage ratio and absolute value of debt are used?

Stake-holders theory exponds on the need to ensure that the information content of
reported earnings, remains value relevant to all stakeholders decision making (Sercu, et al., 2006).
Agency theory posits that there is a direct relationship between monitoring of agents (managers)
and the costs of dysfunctional behaviour (Jensen and Meckling, 1976). Effective monitoring brings
about reduced agency cost, rather than enhanced performance. In addition, signaling theory which
is an extension of agency theory, predicts that debt in a firms capital structure (especially
institutional debts like bank and bond), signals reassuring presence to the potentially worried
investors, trade creditor and other stake holder and as such, this negates the need for earnings
management to reassure anybody (Diamond, 1991). The explanation for this is that in situation of
information asymmetry, institutional lenders are viewed by the distant trade creditors and
investors, as better informed about the company they are lending. This notion supports the
negative relationship between leverage and earnings management- the more the debt level, the
more the assurance and consequently the less the need to manage earnings.

Base on the work of Watts and Zimmerman (1978), the positive accounting theory asserts
that, indeed there exist a kind of regular relationship among accounting numbers/variables and
that, accounting scholars should strive to identify these patterns which could aid empiricism. It is
on that note that Watts and Zimmerman (1978) identified a pattern of positive relationship
existing between a firms leverage ratio and income-increasing accounting choices, which is hence
referred to as debt/equity hypothesis or debt covenant hypothesis. In their own words as quoted
by Sweeney (1994), they predict that: ceteris paribus, the larger a firm's debt/equity ratio, the
more likely the firms managers is to select income-increasing accounting procedures. The higher
the debt/equity ratio, the tighter the firms constraints in the debt covenants and the tighter the
covenant constraint, the greater the chances of a covenant violation and of incurring costs from
technical default; and when this is evident, managers resort to exercising discretion by choosing
income increasing accounting methods to relax debt constraints and reduce the costs of technical
default (John and Kalay, 1982). The rationale behind this as Sweeney (1994) explained, is that,
covenants are accounting based restriction and the only logical response is accounting based
manipulations. Expounding further, in order to safe guard their investment in a given firm, lenders
impose certain restrictions on to the borrowing firm. These restrictions are in form of accounting
ratios, expressing the minimum standard (of performance) required by the lender. E.g., the
minimum current ratio, a firm should maintain, and so on. The tightness of the ratios usually
depends on the extent to which the firm relies on debt- i.e. leverage ratio. In addition, the interest
charges, administration expenses, monitoring expenses are normally factored in the debt pricing.
These are the borrowing cost. Violating the covenants normally leads to refusal to renew the debt,
finance shortage, renewal at higher borrowing cost, liquidity problem, and finally, the chain will
lead to bankruptcy in which the lenders will have first claim. From this, it is evidently costly to
violate the debt agreement. To avoid violation, Watts and Zimmerman (1978) explained that the
better means is through income increasing accounting choices. This predicts positive relationship
between leverage and earnings management.

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This research is of the view that debt equity hypothesis better explains the variables of the
study and is therefore, adopted as the theory with a better nexus underpinning the variables of the
study. On this thesis henceforth, this research claims a positive relationship between leverage and
earnngs management
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3. METHODOLOGY

The population of the research are all the conglomerate firms listed and traded on the floor
of Nigerian stock-exchange as at 31st December, 2004 and not delisted or sanctioned on any
offence, as at 31 December, 2010. This gives us a figure of 8 out of the current 9 listed
conglomerates (Transcorp was listed after 2004). As Usman and Yero (2010) observed,
conglomerates firms are suitable population with a powerful context for earnings management
studies; owing to their peculiar nature- having to watch out for increase in earnings of both
mother and subsidiaries.

The period covered is an era in the history of Nigerian capital market, which witnessed an
unprecedented competition for fresh capital; as well as the period when global melt down struck.
These are viewed by the study as additional incentive to manage earnings by firms (the capital
market incentive for the first case, and avoidance of reporting loss or decline in earnings for the
second case). Data for the models used were extracted from published annual reports of the firms
under study.

To estimate earnings management, the modified Jones (Dechow, etal, 1995) is used. To this
study, it is the model that best estimates discretionary accruals, with minimal error. Rifi (2010)
criticized that both Healys and De-Angelos models assumed accruals to be constant; the Jones
model overcame this assumption but produce another error by assuming that the entire revenue
is discretionary; the margin model may be powerful in non-bad debt expense manipulation but
not when bad debt and revenues are manipulated; the industry model may not detect earnings
management when it is a common practice in the industry, in that way, the accruals will be seen as
non-discretionary. Regarding the performance matched model, the authors themselves- Kothari,
Leone and Wasley (2005) observed that though the model has the potency in mitigating type one
error (rejecting the null hypothesis when it should have been accepted), the model is exposed to
possibility of committing type two error (accepting the null hypothesis when it should have been
rejected). Although the model of Dechow, etal (2002) noted that it is not the the entire receivables
are discretionary (which is part of the assumpption on which Dechow, etal 1995 was built), the
model is yet to be widely tested and accepted by scholars as the Modified Jones (Dechow, etal,
1995) has been tested and accepted. Thus we adopts the modified Jones (Dechow, etal, 1995) as
our model for estimating earnings management. The first step of estimation using this model
starts with computing total accruals.thus:
TAit = NIit - CFOit (1)
Where,
TAit = total accruals for firm i in year t,
NIit = net income for firm i in year t,
CFOit = cash-flow from operations for firm i in year t,
The next step is to estimate the parameters using ordinary least square (OLS) regression as
follows:
TAit/Ait-1 = 1[1/Ait-1] +2[REVit/Ait-1-ARit/Ait-1] +3[PPEit/Ait-1]+ it (2)
TAit = total accruals for firm i in year t,
Ait-1 = total assets for firm i in year t-1,
10

REVit = change in net revenues for firm i in year t,
ARit = change in accounts receivable for firm i in year t,
PPEit = gross property plant and equipment for firm i in year t,
it = error term (discretionery accruals) for firm i in year t.
The parameter estimates, 1, 2, and 3 are firm specific rather than year specific. But since
we are using one industry and time, the research used the residuals directly as the discretionery
accruals which represents earnings management. (see Bugshan, 2005).
LEV (Leverage ratio) = FINANCIAL DEBT/FINANCIAL DEBT + EQUITY (3)
DEBT = ABSOLUTE VALUE OF A FIRMS DEBT (4)
ROA (returns on assets) = NET INCOME/TOTAL ASSETS (5)
LogTA = NATURAL LOGARITHM OF TOTAL ASSETS (6)
Having obtained the values representing earnings management, leverage, debt and the control
variables, a panel OLS regression is applied to determine the impact of Leverage and debt levels ( as the
explanatory variables) on earnings management (as the explained variable). The regression model is as
shown below:
EMGT
it
=
0
+
1
.LEV
it
+
2
ROA
it
+
3
LogTA
it
+
it
(7)
EMGT
it
=
0
+
1
DEBT
it
+
2
ROA
it
+
3
LogTA
it
+
it
(8)
Where: EMGT = earnings management, and the remaing variables are as defined earlier on.

4. RESULT

The study looked at the impact of debt reliance on earnings management. A brief description of
the variables are shown in the first two tables below and the result of regression are shown in the
subsequent table and are then discussed afterwards.

Descriptive Statistics
EMGT
ABSOLUTE
DEBT LEV ROA LogTA


N Valid 48 48 48 48 48
Missing 0 0 0 0 0
Mean .0698 4167857.91 .250 .087 15.913
Median -.0226 1520339.00 .164 .121 15.875
Std. Deviation .4793 7684000.99 .219 .212 1.06725
Variance
.230
59043871346
838.10
.048 .045 1.139
Skewness .626 3.62 .610 -1.75 .216
Std. Error of Skewness .393 .39 .393 .39 .393
Kurtosis -.441 14.18 -1.00 6.45 -1.256
Std. Error of Kurtosis .768 .76 .768 .770 .768
Minimum -.7843 39457266.00 .00 -.73 14.20
Maximum 1.068 12500.00 .72 .50 17.63
Source: result of SPSS analysis
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Looking at the table above, it can be observed that with the exception of DEBT, all other
variables have standard deviation close to one. Is means outliers are so pronounced in the variable
DEBT. This is expected as the variable is raw figure, without any scaling or transformation. It is also
because of the fact that while some firms are heavily indebted in financial debts, other firms keep lower
level of indebtedness. Some even keeps zero debt level. In addition, this variable is the only variable that
is heavily skewed (to the right). However, looking at the kurtosis, both DEBT and LogTA have
abnormally high peakness, the that of DEBT more pronounced. The reason for this in respect of DEBT
is as explained above, while that of LogTA is as a result of wide parity in sizes of the population from
which the data were extracted. Despite the fact that the assets were converted into logarithms, still the
size difference is pronounced. Nevertheless, we have to include this variable, since we need to control
for the documented relationship that exists between firm size and earnings management. To ascertain
whether our regression estimates are not biased due to these outliers, we also tested for
heteroskedasticity. This will be discussed alongside the regression result.

The regression results
The following table depicts the regression results of the impact of debt reliance on earnngs
management.
Table2: regression result
HYPOTHESIS ONE HYPOTHESIS TWO
Variables Coefficients/t-values/
significance
Variables Coefficients/t-values/
significance
Intercept -8.11(-3.73)*** Intercept -0.533(-0.23)
LEV 1.44(5.64)*** DEBT 2.62 (4.13)***
ROA .506(1.96)* ROA 0.406 (1.40)
LogTA .491(3.65)*** LogTA 0.030 (0.21)
R
2
Within the group .51 R
2
Within the group 0.37
R
2
Between the group .25 R
2
Between the group 0.43
R
2
Overall .33 R
2
Overall 0.38
F-statistics/ sig. 12.63*** F-statistics/ sig. 7.29***
source: Authors' computations using Stata
The nul hypothesis in this paper is the test of coeficients of debt reliance, measured in two
ways, using leverage level (LEV) and absolute value of debt (DEBT). We controlled for fixed and
random effects, and given that the Hausman specification test indicates that there is systematic
differences in the estimated coefficients, we used the results where we controlled for fixed effects
in both hypotheses tests. From the regression, values of the coefficients of both LEV and DEBT are
positive and their respective t-values are significant at 1%. This reveals that earnings management
is positively associated with debt-reliance. Possible explanation for the positive association can be
found in the work of sweeney (1994) and others, who suggests that managers manages earnings
to avoid defaulting the debt agreement. The overall R-squares in both results shows explanatory
power of the models at 33% and 38% respectively, with F-statistics significance at 1% in both
cases. With the exception of ROA (which is significant at 10%), all the control variables and the
constant term ,for the test of leverage are significant at 1%. For the test of DEBT impact on
earnings management, non of the control variables (including the constant) is significant. The test
12

for multi-colinearity revealed that there is a toralable level of multicolinearity in both equation
tests.
Thus, on this basis, the null hypotheses raised for both cases, are hereby rejected. Going by
the findings, it is now clear that debt level is an important signal for the users of reported
earnings. This finding in in keeping with the findings of Sweeney (1994), Bugshan (2005) and
Sercu, etal., (2006); and disagrees with the findings of Wasimullah, etal., (2010) and the control
hypothesis of Jensen (1986).

5. CONCLUSION
This study investigated the impact of debt-reliance on earnings management in the
Nigerian listed conglomerate firms. The paper empirically documented that higher debt reliance
attracts higher earnings management. Managers engage the use of income increasing accruals to
meet up with the investors expectation and to avoid the cost of violating the debt contract
agreements. As such, stake-holders seeking to employ the use of reported earnings may look up
debt reliance level by looking at leverage and debt levels in ascertaining the reliability of the
information on which they are to base their decisions.
This research is not without limitations. One of which is that the model adopted cannot be
applied to other equally or more important sectors of the economy, such as Banks and Insurance.
In addition, we assumed that the tightness of the financial debt covenants are positively related to
the debt/leverage leverage level; since we cannot lay our hands on these agreements. With this,
the paper suggests further researches that may encompass more of such sectors industries as well
as cover additional earnings measurement measures such as the model of discretionary provision,
like the one modelled by McNichols and Wilson (1988). We also suggests for those with access to
data, to separate between debt with covenants and debts without, and also between public and
private debt, as their impacts on earnings management may vary.

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