Do corporate reputation concerns constrain real earnings management practices? A multidimensional analysis

Abstract

Purpose: This study integrates Eisenegger and Imhof's (EI) reputation theory and the reputation-building hypothesis to explore how corporate reputation (CREP) concerns constrain real earnings management (REM).

Motivation of the study: This study empirically tests the combined and individual effects of the dimensions of Eisenegger and Imhof's corporate reputation theory on real earnings management practices.

Design/methodology/approach: The study used the least-square dummy variable (LSDV) two-way fixed effects estimator on a panel data constructed from 203 non-financial firms listed in 12 sub-Saharan African stock exchanges from 2014 to 2020.

Main findings: The study provides empirical evidence that CREP, consistent with Eisenegger and Imhof’s reputation theory, curtails REM practices. Functional, social, and expressive reputation concerns reduce the managerial tendency to manipulate real activities, while considering other REM influencing factors. This result is consistent across REM components, country-level analysis, and endogeneity tests.

Practical implications/Managerial impact: The results of this study are anticipated to motivate the use of corporate reputation building as a preventive strategy against REM, as it deters managers from manipulating business operations. The findings provide managers with a valuable approach to evaluating a firm's various reputations and how they can be leveraged to curb REM.

Novelty/Contribution: The study offers new perspectives on assessing firm reputation from various stakeholder viewpoints and how CREP serves as a complement to existing CG mechanisms to mitigate managerial opportunism.

Keywords:

• real earnings management; corporate reputation
• functional reputation
• social reputation
• expressive reputation; sub-Saharan Africa

Disclosure statement

No potential conflict of interest was reported by the author.

Notes

1 https://www.citizen.co.za/business/jse-fines-steinhoff-r13-5-million-for-inaccurate-reporting/

2 https://www.bloomberg.com/news/articles/2022-08-26/steinhoff-ex-cfo-fined-by-bourse-five-years-after-accounts-scam#xj4y7vzkg

3 https://www.reuters.com/article/us-steinhoff-intln-accounts-idUSKCN1QW2C2

4 According to Sekaran and Bougie (2016), a VIF higher than 10 depicts the presence of multicollinearity among variables. After running the model in Eq(1) and other models for the robustness, the highest VIF is 2.70 and the lowest is 1.05.

5 Ethics, disclosure & transparency is constructed using 11 items: (1) adoption of IFRS (2) disclosure of the composition of CEO remuneration (3) disclosure of the composition and profiles of audit committee members (4) disclosure of the composition and profiles of remuneration committee members (5) disclosure of the composition and profiles of nomination committee members (6) Disclosure of the remuneration of members of the senior management team (7) the presence of a whistleblowing mechanism (8) disclosure and breakdown of share ownership (9) statement of commitment to sound CG practices (10) presence of a written code of conduct and (11) statement of adherence to the principles of corporate citizenship.

6 CSR disclosure quality score is constructed using 8 items: (1) adoption of Global Reporting Initiative (2) involvement in corporate social investment (3) signature and adherence to United Nations (UN) Global Impact Initiatives (4) presence of a sustainability or CSR committee (5) presence of certification under ISO 14001 environmental safety (6) presence of certification under ISO 18001 or OHSAS occupational and health safety (7) presence of certification under ISO 22000 food safety management system, and (8) presence of certification under ISO 26000 social responsibility.

7 Following the work of Bin et al. (2019), we adopted the performance-adjusted modified Jones discretionary accruals as a proxy for accrual earnings management. This is written thus: $\mathrm{AE}{M}_{\mathrm{it}}={\displaystyle \frac{T{A}_{\mathrm{it}}}{A_{\mathrm{it}-1}}}$ = ${\text{β}}_0{\displaystyle \frac{1}{A_{\mathrm{it}-1}}}$ + ${\text{β}}_1{\displaystyle \frac{\mathrm{\Delta }\mathrm{RE}{V}_{\mathrm{it}}-\mathrm{\Delta RE}{C}_{\mathrm{it}}}{A_{\mathrm{it}-1}}}$ + ${\text{β}}_2{\displaystyle \frac{\mathrm{PP}{E}_{\mathrm{it}}}{A_{\mathrm{it}-1}}}$ + ${\text{β}}_3{\displaystyle \frac{\mathrm{RO}{A}_{\mathrm{it}-1}}{A_{\mathrm{it}-1}}}$ + ${ϵ}_{\mathrm{it}}$