Earnings Management To Tunnel: Evidence from China’s Listed Companies

http://citeseerx.ist.psu.edu/viewdoc/download?doi=10.1.1.197.6710&rep=rep1&type=pdf

Posted by Hannah YAP Qing, Year 4 undergrad at the School of Accountancy, Singapore Management University

Earnings Management To Tunnel: Evidence from China’s Listed Companies

Qiao Liu Zhou (Joe) Lu

This Draft: April 2004

Abstract

This paper conducts a two-stage analysis to demonstrate that earnings management in China’s listed companies is mainly induced by the controlling owners’ tunnelling incentive. In the first stage, we relate our analysis to previous research on the Chinese listed companies which has documented their strong incentives to manage earnings in order to meet certain return on equity (ROE) thresholds. We identify tunnelling evidence in two situations where such practice has been the most conspicuous. In the second stage, we examine systematic differences in earnings management across the universe of China’s listed companies during 1999-2001. We provide cross-sectional and time-series evidence showing that firms with higher corporate governance levels tend to have less earnings management. Our empirical findings although not being able to completely exclude other explanations, strongly suggest that agency conflicts between controlling shareholders and outside investors are the main stimuli of earnings management in China’s listed companies.

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