Did the IFRS Adoption have Effect on Accounting Manipulation Practices in Emerging Economies?

The Case of Indonesian Listing Companies

Sekolah Tinggi Ilmu Ekonomi YKPN, Yogyakarta

Theresia Trisanti

General Overview
Investors Listed Firms
Demand High Quality of FR

Manipulate FR

FRQ
Efficient capital market and Investors 2 confidence

Government & Regulator

Acct. Standard

Issue of Interest (1)

Government & Regulator
Regulate Accounting Reform (IFRS) Effectively Constraint ?

Listed Companies

Manipulate FR

IS practices

Y e s

Investors

Review FR

Optimal investment decision

Issue of Interest (2)

IFRS were from developed countries
Developed countries (Aggressive shareholders activisms, active takeover markets, diverse corporate shareholdings).
Developing country Indonesia (Highly concentrated ownership and power, still developing legal infrastructure, differing accounting & corporate culture)

Research Focus
Indonesian Context
Accounting Reform

Constrain ?

Income Smoothing Practices

FRQ
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Research Objectives
Government & Regulator
2005 : Converged to IFRS

Accounting Reforms
Companys factors: - Company Size - Profitability - Debt Financing - Institutional Ownership

IS Practices

IS Practices
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Literature Review
IS practices occur when companys management take steps to reduce and store earnings during the good years and defer them for use during the business-downturn years or vice versa (Atik,
2009; Lo, 2008).

LR: Research of the effects of IFRS adoption to FRQ (selected only)

Authors/ Variable Increased Market Liquidity Reduce Trans Cost Increased Disclosure Information Comparability Reduce EM practice Aussenegg, E.U, 2008 Yes Latridis, U.K. 2010 Tondeloo , Germany, 2005 No Paglietti, Italy, 2009 No Paananen, Sweden, 2007 No Li, E.U. 2010 Yes

Yes Yes Yes Yes

Yes Yes Yes Yes No Yes Yes No Yes No

Yes Yes Yes

Research Hypotheses
The main hypotheses to ascertain whether the convergence to IFRS have effects to IS practices. H1 There is a significant differences on IS practices after the convergence to IFRS compared to the pre- period convergence.

Four variables related to companys factors will be tested to ascertain their effect in influencing IS practices. H2 H3 H4 H5 There is a significant relationship between the IS practice and the company size. There is a significant relationship between the IS practice and the total debt of the company. There is a significant relationship between the IS practice and the institutional ownership in the company. There is a significant relationship between the IS practice and the profitability of the company.

Research Design (1)

2000-2004 Before converged to IFRS

2005-2009
Gradually converged to IFRS

Determine the IS practices

Initial Sample

Firms with complete data

Smoothing Index (Eckels 1981)
2000 2004 Smoother Firms= 210 Non Smoother Firms= 117
(Average score of smoothing index <1*)

2005 2009 Smoother Firms= 183 Non Smoother Firms= 144

(Average score of smoothing index <1*)
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*) Smoothing object: income from operation (IFO), income before extraordinary item (IBE), Net income (NIT)

Research Design (2)

Logistic regression model was used to test the company factors that affecting IS practices.
Logit (pi) = ln [pi/1-pi] = + 1 SIZEi + 2 DEBTi + 3 INSTi + 4 PRTi
Smoother = 1
Dependent Variable (Status) Non- Smoother = 0 Independent Variables Company and CG factors affecting IS practices: Company size (H2) Debt financing (H3) Institutional ownership (H4) Profitability (H5)
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Finding and Discussion (1)

The Effect of Convergence of IFRS to IS Practices
Firms with Complete Financial Data Description Listed firms from 2000 to 2009 Bank and financial institution (-) Incomplete data (-) Listed firms with complete data from 2000 to 2009 Number of firms 418 (58) (33) 327

Paired Differences Sample Test Before and After Convergence to IFRS

Std. Deviation
Description Pair 2000-2004 with 2005-2009 Mean 0.066 0.302

Std. Error Mean

0.026

T 2.546

df 326

Sig. (2tailed)
0.012**

* Notes: The table indicated significance at 0.01 (***), 0.05(**) and 0.1(*) levels
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Research Finding and Discussion (3)

Logistic Regression Result
Logit(pi) = 1.871 -0.881*SIZE + 2.480*DEBT -0.054*INST +5.006*PRT
Variables Before Convergence to IFRS (2005-2009) After Convergence to IFRS (2005-2009)

SIZE
DEBT INST PRT

0.115
0.025** 0.312 0.018**

0.213
0.013** 0.239 0.014**

* Notes: The table indicated significance at 0.01 (***), 0.05(**) and 0.1(*) levels
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Research Finding
The IS practices get lesser after convergence to IFRS, but the occurrence still high.
The big challenge is not merely on releasing standards and regulations but is on ensuring that they can be well- socialized, implemented and monitored.

Limitations of the Research

The convergence of accounting standards to IFRS was started from the year 2005 and continuing convergence until now. The samples of this research were collected from 2000 up to 2009 only. The study focused only on publicly listed companies in Indonesia.

Suggestions for Future Research

Develop different IS model: different type of industry.
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The explanatory variables and measurement

Variable
Company Size Debt Financing Institutional Ownership Profitability Represented by SIZE DEBT

Predicted
(+) (+)

Measured as
Total assets (after taking logarithm) Long term debt to total assets % of institutional ownership

INST PRT

(+) (+)

Net income after tax to total assets

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Artificial & Real Smoothing

Artificial smoothing: changing in accounting

procedures. Examples: inventory valuation, depreciation and changing in accounting estimate: bad debts, capital assets lives, and pension assumption. Real smoothing: examples: timing transaction of capital assets acquisitions, spending the R&D and advertising, delay (after shipment) or accelerate (before shipment) the recognition of sales at the year-end period.
(Atik, 2009; Chong, 2004; Eckel, 1981)
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International Financial Reporting Standards (IFRS)

IFRS is issued by the International Accounting Standards

Board (IASB). They purport to be a set of rules that ideally would apply equally to financial reporting by public companies worldwide. Information asymmetry should decrease: IFRS are more market-oriented IFRS disclosure requirements are larger Earnings management and IS practices should decrease: IFRS are more precise 16 They admit a limited number of options

Income Smoothing Model

Eckels index IS index = (CVi/CVs) where i = one-period change in income S = one-period change in sales CVj = coefficient of variation for variable j (i.e., j's standard deviation divided by its expected value)
(Ahmad & Mansor, 2009; Habib, 2005; Ashari et al., 1994)

If the CVi (the coefficient of variation for income) is less than the CVs (the coefficient of variation for sales), if the ratio less than one, then suggesting that the firm is an income smoother.

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Approaches to Detect IS Practices

1. Studies uses income smoothing index (CVi / CVs) (Eckel,

1981) 2. Studies accepts accounting changes as income-smoothing instruments and examines the effects of accounting changes to the net incomes of firms (Moses, 1987). 3. Studies and examines classificatory smoothing. Ordinary income (income before extraordinary items) is a better predictor of future cash flows than net income. 4. Studies uses discretionary accruals to detect incomesmoothing behavior. Accrual models were developed in the earnings management literature. 18