Research On Earnings Management Based On Performance Commitment

Merger and Acquisition has been an important method for enterprises to optimize their resource allocation,and also an effective way to arrange business transformation in order to enhance their market competitiveness.It has strategical meaning for realizing high-quality economic development.Due to the problem of information asymmetry and agency problems among both sides during the acquisition,the risks cannot be ignored,especially in the case of light-assets businesses and technological companies.Although the mandatory requirements of performance commitment have been canceled by CSRC.In some of the cases the acquiring company is still asking the acquired company to sign up the performance commitment agreements in order to control their own risks during takeovers,the acquired company on the other hand is also willing to sign up the agreement in order to demonstrate the superiority of their assets and trying to negotiate a higher acquisition value.Income approach method is the most commonly used valuation model in M&A.Under this valuation model,the value of a company is mainly based on its future earnings,therefore,the acquired company has motivated to make boldly aggressive promises on future earnings in order to negotiate a higher valuation.leading to the phenomenon of "three highs" which are high-valuation,high-premium and high-performance commitment.While it’s difficult for acquired company to achieve the predetermined goals due to the limitation of internal capacity and external economic cycles,they tend to avoid high penalty of failing to achieve performance commitment by conducting so-called "earnings management".Therefore,signing performance commitments may also induce the acquired company to implement earnings management,especially in the cases when numbers "just meet the standards".On the other hand,the acquiring company also has strong motivation to acquiesce such manipulative behavior due to reasons like company’s reputation,public relationship,market reaction,etc.Indeed,earnings management could achieve expected performance in the short term,but once the commitment period passes over,the performance of acquired company would tend to drop down precipitously.especially in the case when real earnings management is adopted,the future growth of the acquired companies would be overdrawn,meaning the company would facing more long-term impacts.Taking the merger case of SUNA and MCtech as an example,this thesis discusses the phenomenon of earnings management induced by performance commitment agreements.On the basis of current literature reviewing,this thesis introduces the case of SUNA merging MCtech,and analyzes the reasons for signing performance commitments in merging process.Then,this thesis analyzes the influence of internal and external environment changes during the performance commitment period,and the results show that MCtech may not be able to fulfill the commitment due to various internal and external factors.In order to avoid being penalized for failing to "meet the standards",MCtech chose to conduct earnings management and manipulate the numbers to "meet the standards".Coming up,this thesis evaluates the degree of MCtech conducting earnings management in the first 1 to 3 years after acquisition,and finds out that during the commitment period,there are anomalies in the discretionary accruals and production cost.By comparing the degree of conducting earnings management among the same industry,it shows that the degree of MCtech conducting earnings management is significantly higher than peer companies.Furthermore,the thesis also analyzes the economic consequences of conducting earnings management by MCtech.Finally,this thesis summarizes the conclusion of this case study,and propositions are as follow: The acquiring company should strengthen the supervision of the performance commitment of the acquired company;Accounting standards should be further improved to restrain the earnings management behavior;CPA should strengthen the audit of company’s earnings management,especially for those which signed up the performance commitment agreement;Pay more attention to public listed company on whether they manipulate earnings by hidden real earnings management.The main contribution of this thesis states as follow: The Existing studies on earnings management mainly focus on the motivation of the capital market,management contract or political cost,etc.Taking the case of M&A between SUNA and MCtech as the research object,this thesis discusses the motivation and economic consequences of earnings management based on performance commitment.This thesis not only enrich the literature on earnings management from the perspective of case studies,but also enrich the research on earnings management from the perspective of reaching the committed performance.Additionally,while the existing studies on M&A with performance commitment mainly focus on the impact of M&A risk,goodwill,and performance,etc.This thesis analyzes the impact of signing performance commitment agreement on earnings management behavior of M&A companies by case studying,thus,enriching the literature on the impact of signing performance commitment agreement on corporate behavior.