1.1 Background to the study
Researches in finance and accounting get greater momentum since the universal declaration of IFRS. Approximately more than 120 countries have required or permitted the use of IFRS standards by publicly quoted companies (IASB, 2012). IFRS is a globally-accepted set of accounting Standards and Interpretations established by International Accounting Standards Board (IASB) and International Financial Reporting Interpretation Committee (IFRIC) which was actually created as a common global language for accountants all around the world and it was expected to become the key financial reporting standards for all business entities. The fundamental objective of IFRS is to develop, in the public interest, a single set of high quality, globally accepted financial accounting standards based upon clearly articulated principles (IASB, 2012).
Prior to the adoption of IFRS in Nigeria, all companies in Nigeria have been complying with Standards issued by The Nigerian Accounting Standards Board (NASB) which has now metamorphosed to Financial Reporting Council of Nigeria (FRCN). The NASB announced its Roadmap to convergence with IFRS in September 2010. The Roadmap requires publicly Listed Companies and significant public interest entities to comply with IFRS commencing from 1st January, 2012.While other public interest entities have been required to comply starting from 1st January, 2013 and small and medium sized entities expected to comply for period ending after 1st January, 2014. Despite the belief by some of the inevitability of the global acceptance of IFRS, it is has been argued that Nigerian GAAP is still the better standard, and that a certain level of quality will be lost with full adoption of IFRS (Barth, 2007). In addition, certain companies without significant customers or operations outside their home countries may resist IFRS because they may not have the capability and a market incentive to prepare IFRS financial statements (Tanko, 2012).
The implementation of IFRS in Nigeria was motivated by the need to develop high quality financial reporting in order to enhance sound financial and healthy economy and in the wave of globalization; multi-national companies and investment are on the increase. Therefore, the adoption of IFRS in Nigeria is expected to advance the compilation of meaningful data of reporting entities’ performance for comparability and reliability, facilitate and enhance effective decision making, attract foreign investment, enhance easy access to external capital and low cost of doing trans-border businesses (Madawaki, 2014). The decision to adopt IFRS in a wide and important economic area such as Nigeria cannot be over – emphasized, However, to achieve that the government need to consider several factors that may affect the adoption of IFRS in developing countries (Zeghal & Mhedbi, 2006), in which Nigeria is among.
IFRS Standards which are usually regarded as principle-based system were established to ensure a high degree of transparency of financial statements, to get better corporate transparency and to enhance the usefulness of financial reporting (Budrina, 2014; Chen, Tang, Jiang & Lin 2010; IASB 2012). The central focus is to meet the needs of the wide range of users in economic decisions and contribute positively to a healthy financial market. However, the major concern about the conversion to IFRS is that it is more principle-based and there is a fear that the companies may apply the same rules differently thereby causing varying results. Furthermore, principle-based standards give managers more flexibility to engage in earnings management and consequently resulting in high level of earnings manipulation (Callao, 2010). IFRS comes with a lot of changes in way and manner the information contained in the company’s financial statements are reported. For instance, the introduction of fair value principle, which is regarded as the most important implication of IFRS, motivates more debate on the adoption of the standards. More clearly, IFRS required the usage of fair value contrary to the book value as used by Nigerian GAAP. It is believed that fair value provides up-to-date information about assets as it reflects their real value. However, impairment test is carried on goodwill under IFRS, while it expected to be amortized under NGAAP. This implies that managers have more flexibility under IFRS and may intend to use their accounting decisions to manipulate impairment test of goodwill which could affect the quality of reported earnings.
Furthermore, NGAAP allows convertible debts to be recorded as long-term debt, while the IFRS records convertible bonds separately into the equity component and the debt components. IFRS which is a principle-based accounting method gives managers significant flexibility and discretion and leave more room for earnings manipulation than rule-based accounting standards (NGAAP).
Earnings management has been an issue of continuous concern for several years for regulatory bodies and accounting practitioners. For example, Hadani, Goranova and Khan (2011) argue that earnings management increases information asymmetry and negatively impacts the quality of financial reports. Earnings management is said to be the reason for low quality of reported information. It is the choice of a manager among accounting policies which allow achieving some specific objectives (Scott, 2003). Managers use flexibilities within the accounting standards to choose accounting methods, policies and estimates in reporting process to reflect firm’s future prospect (Shehu, 2013).Thus the very nature of accounting accruals gives managers a great deal of discretion in determining the earnings in any given period. Managers can apply legal and permitted accounting methods or practices which inevitably impacting negatively on earnings quality.
Presently, many countries have replaced national accounting standards by IFRS in order to make local accounting system more transparent, reliable, relevant, understandable and more importantly to enhance financial reporting quality. However, the process of IFRS implementation varies significantly from country to country due to political, cultural, economic, legal and institutional factors. Nigeria and many developing countries are characterized by weak institutions and volatile economic and political environment which are not very conducive for effective implementation of IFRS (Tanko, 2012). In spite of several arguments and divergence views, many countries, both developed and developing, have fully adopted IFRS as their national accounting standards.
1.2 Statement of the Problem
The effects of IFRS adoption on earnings management has been a subject of concern in the accounting and financial literatures. Empirical accounting researches have been conducted to examine the effects of IFRS adoption and determine the extent to which IFRS provide additional relevant information and improve the information content of financial statement prepared in line with these standards. Prior studies have so far presented mixed results as some studies found an improvement in financial reporting quality after IFRS adoption and widely support the hypothesis that earnings management declined considerably after IFRS adoption. However, this view has not been fully supported by all academicians, regulators and the business communities as their evidence fail to support the hypothesis that IFRS reduce the level of earnings manipulation. For instance, Barth, Landsman and Lang (2008) describe IFRS standards as been of lower quality than the local GAAP. Similarly, Xu (2014) posits that IFRS adoption does not reduce the level of earnings management but rather, earnings manipulation intensified after the adoption of new accounting standards among the UK private firms. IFRS being a principle-based reporting standard is not a sufficient condition to reduce the level of earnings manipulation (Stolowy, 2008). IFRS only represent pure accounting changes and are not sufficient to provide the expected benefits. It is obviously a fundamental fact that IFRS comes with a lot of changes in way and manner the information contained in the company’s financial statements are reported and the prior literature have provided mixed evidence on the impact of IFRS adoption. However, the fundamental question that is yet to be resolved in the literature is whether the IFRS adoption has significant impact earnings management of non-financial quoted companies in Nigeria.
In spite of the fact that empirical researches concerning the effects of IFRS on earnings management had gained momentum and international relevance, however, to the best of our knowledge no study has examine the effects of IFRS adoption on earnings management in non financial quoted companies in Nigeria. Furthermore, the impact ofbig-4 audit firm and large firm size on earnings management under IFRS has not been empirically tested. Therefore, the study attempts to examine the impact of IFRS adoption on earnings management in Nigerian non-financial quoted companies.
1.3 Objectives of the Study
The broad objective of this study is to examine the impact of IFRS adoption on earnings management of Nigerian non-financial quoted companies. The specific objectives are to:
i. Investigate the effect of IFRS adoption on earnings management of Nigerian non-financial quoted companies.
ii. Test whether the effect of IFRS adoption on earnings management is influenced by audit quality of Nigerian non-financial quoted companies.
iii. Test whether the effect of IFRS adoption on earnings management is influenced by firm size of Nigerian non-financial quoted companies.
1.4 Hypotheses of the Study
On the basis of the above objectives, the study formulates the following null hypotheses:
H01: IFRS adoption has no significant effects on earnings management of Nigerian non-financial quoted companies.
H02: IFRS adoption effects on earnings management is not significantly influenced by audit quality of Nigerian non-financial quoted companies.
H03: IFRS adoption effects on earnings management is not significantly influenced by firm size of Nigerian non-financial quoted companies.
1.5 Scope of the Study
The study aims at examining the impact of IFRS adoption on earnings managements of Nigerian non-financial quoted companies. As all the listed firms in Nigeria are mandated to comply with IFRS starting from 1st January, 2012, the study covers the 2010-2014. The choice of 2010 to 2014 is based on the ground that we could assigned a dummy value of “1” to companies that adopt IFRS between 2010 to 2014 and “0” otherwise. The use of this approach is supported by previous studies (Xu, 2014) and also allows us to correctly assign the value of “0” to companies in Nigeria that did not comply to the mandatory IFRS adoption policy even as at 2012. The study focuses on the public interest entities in Nigeria that were expected to comply with IFRS starting from 1st January, 2012. Following prior studies (Xu, 2014; Barth, Landsman & Lang, 2008; Houqe, Zijl&Karim 2012; Chua, Cheong & Gould, 2012) we exclude financial institutions. Financial firms are subject to particular financial reporting rules that can influence the earnings management in a different manner.
1.6 Limitations of the study
Caution must be made in utilizing the results of this work as a basis for generalization due to the following limitations:
i. This study focused only on selected non-financial companies in Nigeria. We excluded financial firms because they are subject to particular financial reporting rules that can influence the earnings management in a different manner. This may affect the outcome of this research.
ii. Furthermore, IFRS is mandatory for publicly listed companies in Nigeria merely from the year 2012, the time duration is not sufficient enough to conduct thorough analyses. Nonetheless, this study gives an insight intothe likely outcome of future research covering a wider scope.
iii. Another important limitation relates to the fact that the effect of IFRS adoption would vary from country to country due cultural, political and economic differences. This is because IFRS only represent pure accounting changes and not sufficient to provide the expected benefits.
1.7 Significance of the Study
This study contributes to the large debate concerning the role of accounting standards in financial reporting quality. More specifically, the study contributes to the growing literatures on the effects of IFRS adoption on earnings management. Investors and analysts would find this study of particular interest in order to discover whether IFRS application affects the tendency of Nigeria companies to manipulate earnings generally.
The study would be of immense benefit to the policy makers as it provides them with empirical answers which may support future decisions regarding financial statement reforms. The researchers and academicians would also find this study of particular interest as it would encourage more empirical researches on IFRS in Nigeria. The research work will also be a guide to students wishing to make further research in the field.
1.8 Organization of the Study
This research is organized into five distinct but interrelated chapters. Chapter one contains background of to the study, statement of the problem, objectives of the study, research questions, significance of the study, scope and limitations of the study, organization of the study and definition of terms. Chapter two focuses on review of relevant literatures while Chapter three is the research methodology. Chapter four is concerned with data presentation, analysis and interpretation, while Chapter five summarizes the study, draws conclusions and makes recommendations.
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