The Impact Of Internal Contronl On Earnings Management

After the Sarbanes-Oxley Act of 2002, academics from home and abroad started to pay attention to internal control. A branch of literature has investigated the influence of internal control on earnings management, however, there’s still dispute on this issue, especially for the impact on real earnings management. What’s more, previous paper mostly focus on internal control deficiencies, management’s self-evaluation report and audit report on internal control, which are all part of internal control and cannot represent the overall situation of a company. As a result, there’s still room for us to study in terms of internal control’s influence on earnings manipulation.Base on the listed companies(excluding financial companies) in Shanghai and Shenzhen stock exchange market from 2008-2013, we investigate the association between internal control and earnings management using “Dibo Internal Control Index”. Both T test and OLS regression shows the higher the internal control index, the lower the accrual earnings management and real earnings management. In order to further test the moderating effect of firm size, we separate the whole sample into two sub-samples according to median size and then test the influence of internal control respectively. The results shows compared to large firms, the influence of internal control is more distinct in small companies.Finally, in the robust test, we use restatement as an alternative proxy for earnings quality to examine the influence of internal control, also finding positive association between internal control and earnings quality. That is, the higher the internal control index, the less likely a company would issue a restatement. To summarize, good internal control can help improve firms’ earnings quality. Consequently, firms should try to establish perfect internal control system while related regulators should reinforce the supervision and monitoring of firms’ internal control.