Regulatory Profit Targets and Earnings Management in Initial Public Offerings: The Case of Malaysia
Journal of Financial Reporting and Accounting
ISSN: 1985-2517
Article publication date: 6 January 2008
Abstract
We examine the extent of earnings management associated with meeting forecasts made in IPO prospectuses in a developing economy where government regulation requires a profit forecast but allows promoters to choose either (1) to provide a profit guarantee or (2) to elect for a moratorium on share transfers for a defined period. Since the manager is mandated to make earnings forecast and there are costs associated with forecast error, we hypothesise that, in the first reporting period following the IPO, managers opting for a profit guarantee will signal their ability to produce a result within the target zone while managers opting for a share moratorium will match that performance to maintain their reputation, with the result that both groups are indistinguishable in the magnitude of earnings management. Using a sample of 92 regulated IPO firms we find a strong negative association between forecase error before earnings management and a firm’s discretionary accruals. Our results support the hypotheses, leading to the conclusion that earnings are managed towards the forecast amount, consistent with both the desire not to deviate excessively from the forecast and income smoothing.
Keywords
Citation
Ismail, N. and Weetman, P. (2008), "Regulatory Profit Targets and Earnings Management in Initial Public Offerings: The Case of Malaysia", Journal of Financial Reporting and Accounting, Vol. 6 No. 1, pp. 91-115. https://doi.org/10.1108/19852510880000637
Publisher
:Emerald Group Publishing Limited
Copyright © 2008, Emerald Group Publishing Limited