Internal Control Weakness Over Financial Reporting And Earnings Management

Since the class action toward Chinese conceptual stocks listed in U.S.broke out in the year of 2011,U.S.listed Chinese companies had its stock price decline sharply.They even go private or delisting from the U.S.market.One of the most important purposes of the U.S.SOX act is to reduce the financial misstatement and improve the quality of accounting information by regulating the internal control of company.So this paper takes companies who listed in U.S.at the end of year 2014 as total sample,and collected 8 years data from 2007 to 2014 to analyze whether effective internal control over financial reporting can prevent management from accruals earnings management and real earnings management or not.Our test show several conclusions.First,companies who have ineffective internal control have a significantly higher accruals earnings management level than those who have effective internal control,which means good quality of internal control can prevent management to do accrual type earnings management.Second,there is no significant difference in real earnings management between companies with effective internal control and companies with ineffective internal control.This means good quality of internal control cannot prevent management to do real earning management.Specifically,for the three types of real earnings management,effective internal control can significantly prevent management control sales activities and production plans to do real earnings management,while not for discretionary expenditure.Third,when we divide earnings management into positive and negative and did regression analysis,we find that,for companies who have positive accruals manipulation,good quality of internal control can significantly reduce the earnings manipulation.For companies with negative accruals manipulation,the effect of internal control on accrual manipulation is not significant.However,for real earnings management,we don't found significant effects of internal control preventing earnings management,no matter it is positive or negative manipulation.By contract,the regression coefficient shows the substitution relationship between real earnings management and accruals management.