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Student Perceptions of Earnings Management:The Effects of National Origin and Gender
Paul M. ClikemanE.Claiborne Robins School of Business
University of RichmondRichmond, VA 23173
(804) 287-6575fax: (804)289-8878
Marshall A. GeigerE.Claiborne Robins School of Business
University of RichmondRichmond, VA 23173
(804) [email protected]
and
Brendan T. O’ConnellE.Claiborne Robins School of Business
University of RichmondRichmond, VA 23173
(804) [email protected]
June 2000
Running title: Student Perceptions of Earnings Management
Key words: Culture, Earnings Management, Ethical Perceptions, Gender, IncomeSmoothing, National Origin.
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Student Perceptions of Earnings Management:The Effects of National Origin and Gender
Abstract
Earnings management is the practice of making discretionary accounting choices ortiming operating decisions to move reported earnings toward a desired goal. Priorresearch reveals wide disagreement among both students and business executivesregarding the ethical acceptability of earnings management. This study investigateswhether gender and national origin influence accounting students’ perceptions of earningsmanagement. Male and female accounting students from the U.S. and five Asiancountries evaluated thirteen vignettes describing earnings management practices. Veryfew differences were detected between the responses of the male and female students orbetween the students from the U.S. and the Asian countries, indicating that the practice ofearnings management was perceived similarly across all the groups of students studied.
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Student Perceptions of Earnings Management:The Effects of National Origin and Gender
INTRODUCTIONThe evaluation of individual ethical behavior continues to be an important issue in
business practice and education. The study of ethical perceptions of present and futurebusiness executives is especially germane to the assessment of the overall ethical climatein U. S. business, as well as business internationally. With the continued expansion ofcompanies into the “global marketplace,” it is increasingly important to examine theethical perceptions of individuals from various cultures in an attempt to evaluate theethical climate that may exist in this burgeoning economy. Additionally, the effect ofgender on ethical perceptions in business is not well understood, and the research to dateon gender and ethical perceptions of business students (e.g., Peterson et al. 1991; Geigerand O’Connell, 1999) has produced conflicting results.
The purpose of this study is to increase our understanding of future businesspersons’ perceptions regarding earnings management practices such as income smoothing,and whether those perceptions are influenced by culture or gender. Specifically, weexamine whether students’ gender or national origin significantly affects their perceptionof the practice of earnings management. Discerning differences between U.S. and non-U.S. individuals’ perceptions about earnings management becomes more important asglobal trade increases and people rely more heavily on financial statements prepared byindividuals from foreign countries. Further, understanding whether men and women havedifferent views about earnings management has become increasingly important as morewomen enter the accounting profession and rise to higher levels of responsibility.
BACKGROUND AND HYPOTHESESEarnings Management
The broad ethical issue examined in this study is the acceptability of earningsmanagement. Earnings management is the practice of choosing accounting estimates ortiming operating decisions to move reported earnings toward a desired goal (Merchantand Rockness, 1994). Examples of earnings management include a company increasingits reported profits to avoid violating debt contracts, or a group of executivesunderreporting company earnings in order to negotiate a favorable price in a managementbuyout offer. Company executives might also manage reported earnings in order toincrease their bonus compensation, obtain loans on more favorable terms, increase thecompany’s stock price, or report smooth year-to-year revenues and earnings growth.
A large body of anecdotal and empirical evidence suggests that companiesactively practice earnings management. Cahan (1992) found evidence that companies usediscretionary accruals to reduce their reported earnings during antitrust investigations.DeFond and Jiambalvo (1994) concluded that financially troubled companies appear touse accruals to increase their earnings to avoid violating debt covenants. Perry andWilliams (1994) found evidence of income reducing accruals prior to managementbuyout offers, while Erickson and Wang (1999) found evidence of income increasingaccruals prior to stock for stock mergers.
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SEC Chairman Arthur Levitt recently expressed concern that a growing number ofcorporations are eroding the quality of financial reporting by managing their reportedearnings (Levitt, 1998). As evidence of this practice and the SEC’s concern, the SECrecently fined W.R. Grace & Company $1 million for allegedly manipulating its reportedearnings (Abelson, 1999). Further, earnings management practices such as incomesmoothing are also well documented in countries outside of the U.S. (Choi and Bavishi,1983; Wallace et al. 1991).
Earnings management is one of the most important ethical issues accountants facein everyday practice. Investors and creditors depend on accountants to provide fair andreliable financial information. Companies that engage in earnings management maymislead the public regarding the true profitability and/or stability of their operations.Accordingly, investors might be led to pay an inappropriate premium or discount topurchase the company's shares and creditors might be led to lend money at a rate notcommensurate with the underlying risk of the company.
Although professional standards require accountants to present unbiasedinformation, surveys reveal wide disagreement among business executives regarding theethical acceptability of earnings management (Bruns and Merchant, 1990; Merchant andRockness, 1994). Some executives judge earnings management practices to be perfectlyacceptable, while other executives judge the same practices to be serious ethicalinfractions. Accordingly, we use several ethical vignettes regarding different aspects ofearnings management in order to obtain information regarding an individual’s perceptionof this practice.
Ethical ReasoningAs this study addresses students’ perceptions of a series of ethical dilemmas
relating to earnings management, it is pertinent to provide an overview of research intothe psychology of ethical reasoning. The psychology of ethical reasoning has been shownto be of consequence to the study of behavior in accounting because many professionaljudgments are conditioned upon the beliefs and values of the individual (Ponemon, 1992).This research (e.g., Trevino & Youngblood, 1990) provides us with a framework forunderstanding the basis upon which an individual determines an ethical choice. Drawingfrom the field of cognitive development, the psychology of ethical reasoning provides atheory that explains the human decision-making process relating to ethical dilemmas(Ponemon, 1992). Models of ethical cognition such as Kohlberg’s famous stage-sequence model, suggest that all individuals move upwardly through a series of cognitivestages (Kohlberg, 1984). For those at lower levels of moral development, resolution of anethical dilemma is primarily based upon the immediate cost and/or benefit of ethicalaction. For those at middle levels, the focus will be on law and duty to the social order.For those at the highest levels, an ethical judgment will be based upon an internalised andself-chosen set of principles.
While individuals are guided by professional standards, ethical codes and laws inmaking their ethical judgments, their perceptions of what is ethical or unethical conductare based on their own set of beliefs and values. Researchers have shown that thesebeliefs and values are influenced by a variety of sources such as one’s social environment(Ponemon, 1992) and education level (Armstrong, 1987). If follows that students in the
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present study, will draw upon a wide variety of personal experiences in making their ownethical judgments.
National OriginHofstede (1991) has defined culture as “…the collective programming of the mind
which distinguishes the members of one group or category of people from another” (p.260). Several studies have demonstrated how cultural settings are an importantindividual conditioning factor (French et al. 1960; Hofstede, 1980, 1984, 1991; Triandis,1985, 1989; Poortinga, 1989; and Wines and Napier, 1992).
According to Hofstede (1980, 1991), perceptions and actions of individuals willbe influenced by beliefs and fundamental attitudes, which depend not only on individualpersonalities, but also on the cultural influences to which individuals have been exposedthroughout their lives. In fact, these cultural influences are profound and enduring andhave often been cited as a major cause of conflicting results when studies are replicatedacross different countries (Triandis, 1980, 1995; Hui and Triandis, 1986). Hofstede’s(1991) work in differentiating cultural groups espouses five different dimensions of culture: (1) Individualism/Collectivism (the degree of integration a society maintains among itsmembers, and the relative importance of the individual relative the group), (2) PowerDistance (the extent to which members accept that power is distributed unequally withinsociety), (3) Uncertainty Avoidance (the degree to which individuals feel uncomfortablewith uncertainty or ambiguity), (4) Masculinity/Femininity (the extent to which a cultureputs assertive ”masculine” values before more “feminine” values like nurturing, quality oflife and personal relationships), and (5) Long-term Orientation/Confucian Dynamism (theextent to which culture is oriented toward the long-term versus short-term). Hofstede’scultural index scores for each of the nations examined in this study are presented in Table 1.
-- Insert Table 1 Here --
These five cultural dimensions are believed to have a profound and lasting impacton the ethical perceptions and decisions of individuals from different countries (Cohen etal. 1996). While these five dimensions help characterize and contrast different cultures, itis noteworthy that the non-U.S. students who participated in this study were all drawnfrom a group of Asian countries that often score similarly on the above dimensions ofculture, but quite differently from the U.S. For example, the Asian countries included inthis study score high on Hofstede’s power distance index yet the U.S. scores relativelylow. Also, scores on the individualism index are relatively low for the Asian countries,but very high for the U.S. However, it should be noted that there are some countries inthe non-U.S. group that score quite differently from each other on individual dimensions.Notwithstanding these differences, Hofstede (1980, 1983) also showed how countriescould be grouped into culture areas, on the basis of their scores on the value dimensions,using cluster analysis and taking into account geographical and historical factors. Non-U.S. students that participated in this study were drawn from Taiwan, Malaysia, Indonesia,Hong Kong and Singapore. All of these countries fall within Hofstede’s Asian cluster.Conversely, the U.S. students fall within Hofstede’s Anglo cultural grouping. According
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to Hofstede (1983), this means that each cluster represents elements of a commonstructure in cultural systems. It follows that students from countries in the Anglo groupmight differ from those in the Asian cluster in terms of ethical reasoning.
The works of Hofstede have been widely applied by researchers in a variety ofsettings (e.g., Smeds, 1997; Albers-Miller and Gelb, 1996). Robbins (1994) describedHofstede’s work as “…to date, the most valuable framework to help managers betterunderstand differences between national cultures” (p.108). Goodwin (1997) emphasisedthat, while there have been other studies making large-scale comparisons of values acrosscultures (e.g., Schwartz, 1994), these studies have “…yet to have the impact ofHofstede’s work” (p.54). Nevertheless, it should also be recognised that Hofstede’s workhas been subject to some criticism (e.g., Kagitcibasi, 1994; Schwartz, 1994)1. Researchthat utilises Hofstede’s cultural dimensions must be assessed in light of these potentiallimitations.
While the precise impact of national culture on individual perception anddecision-making is far from resolved in the literature (Poortinga and Malpass, 1986), it islikely that the various forces that influence students’ perceptions and actions may differacross cultures, or clusters of cultures, with significantly different cultural index scores.However, not all individuals from the same culture would be expected to act or thinkidentically. This individuality was highlighted by Hofstede (1991, 1995) who recognizedthat, while different patterns existed for different clusters of countries, individual’sbehavior within those countries was not entirely uniform.
Notwithstanding the possibility of these individual differences, several priorstudies (e.g., Becker and Fritsche, 1987; Karnes et al. 1989) suggest that individualethical judgments are influenced by national origin. Becker and Fritsche (1987)compared the ethical beliefs of marketing managers from the U.S., France, and Germany,and found significant differences related to nationality. Karnes et al. (1989) studied theethical perceptions of accountants from the U.S. and Taiwan. The American accountantswere found to be more concerned about the legal consequences of their actions, while theChinese accountants were more concerned about how their group would be affected.Further, Whipple and Swords (1992) and Okleshen and Hoyt (1996) found that businessstudents in the U.S. have different ethical beliefs than business students in the UnitedKingdom and New Zealand, respectively.
Most of the ethics research to date examining accounting students has typicallyassessed only students from western cultures such as the U.S. and U.K. (e.g., Beltramini
1 Criticisms of Hofstede’s work include: nations sampled by Hofstede do not representthe global community well (e.g., no representation by Eastern Europeans);Individualism/Collectivism is a catch-all that includes so many elements that it can beused to explain everything; the large sample of IBM employees used by Hofstede todevelop cultural dimensions was not suitable for comparing nations because the socialstatus of these employees varied across nations; and items used to measure dimensionsmight have different rather than equivalent meanings in different cultures (Munro,Schumaker and Carr, 1997). Moreover, the work of Hofstede is now over 30 years old.Country scores on his indices might be significantly different if a similar study wasconducted today.
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et al. 1984; Fulmer and Cargile, 1987; Davis and Welton, 1991; Giacomino, 1992;Fischer and Rosenzweig, 1995; Whipple and Swords, 1992). Only recently haveresearchers compared the ethical perceptions of accounting students from western andnon-western cultures. Brody et al. (1999) studied ethical decisions made by U. S. andTaiwanese accounting students and found differences in their reactions to a whistle-blowing scenario. Similarly, Teoh et al. (1999) found differences between Australian andIndonesian accounting students in their evaluations of five ethical vignettes.
In this study, we extend these works by examining U. S. and Asian accountingstudents’ perceptions of the ethical acceptability of earnings management. Based onHofstede’s (1980, 1991) depiction of cultural differences, one would expect to findsignificant variation between western and non-western students regarding ethicalperceptions. These cultural groups are very different on the dimensions ofCollectivism/Individualism and Long-term/Short-term Orientation, with western culturebeing more individualistic and short-term oriented (Hofstede and Bond, 1988).Executives who care primarily about the welfare of their peers and employees (e.g., betterevaluations for the management team, obtaining capital needed to sustain theorganization) might be more likely to manipulate reported earnings. Executives who arerelatively less concerned about the effects on corporate insiders (and relatively moreconcerned about the effects on outside investors and creditors) should be less amenable tomanaging earnings. A person with a short-term orientation might see earningsmanagement as a way to avoid negative consequences in a period when earnings fallbelow expected levels. For example, an executive might resort to earnings managementin order to satisfy financial analysts’ profit forecasts. An example of this conduct inrecent years is the case of Cendant Corporation where company officials allegedly alteredfinancial statements to “increase profits to impress investors” (Norris, 2001, p.1). Toillustrate the dire consequences of these actions, the Cendant case was recently describedas “the scandal that became the largest financial fraud case ever brought by the SEC” withthe company’s shares falling 75% in the days immediately following discovery ofmanagements’ earnings management actions (Dow Jones and Company, 2001, p.14).Conversely, a person with a long-term perspective might be less likely to manipulateearnings for fear that earnings management could damage the organization’s credibilityand hurt its ability to raise capital in the future.
Based on the preceding discussion, we believe that cultural differences,specifically the dimensions of Collectivism/Individualism and Long-term/Short-termOrientation may be manifest in students’ perceptions of the ethical acceptability ofearnings management. Thus, the first (null) hypothesis we test in this paper is:
H1: There is no difference in perceptions of the ethicalacceptability of earnings management between accountingstudents born in the U.S. and those born in several Asiancountries.
GenderThe second individual characteristic examined in this research is gender. From
practical grounds, with the increased numbers of women entering and attaining higherlevel positions within the accounting and business community, it is important that we also
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evaluate whether there are any differences due to gender in ethical perceptions ofaccounting students. However, there are diametrically opposing views as to the impact ornon-impact of gender on ethical perceptions and actions. There also exists theoreticalsupport for both sides of the gender differences/no differences debate (Haste andBaddeley, 1991). On the side espousing differences in ethical orientation due to gender isthe area of social psychology known as gender socialization theory (Betz et al. 1989).Gender socialization theory argues that men and women undergo fundamentally differentmoral development due to their proclivity to bring different sets of values to theworkplace. These different sets of values, in turn, differentially shape men’s andwomen’s ethical attitudes and behaviors. Under this theory men place more value onmoney, advancement, power and tangible measures of personal performance, whilewomen are more concerned with harmonious relationships and helping people. Similarly,Bussey and Maughan (1982) assert that U.S. males are socialized into an instrumentalorientation that emphasizes achievement and problem solving, while females aresocialized into an expressive orientation that emphasizes nurturing relationships.
The work of Gilligan (1977, 1982), later built upon by Keller (1988) and Callahan(1990), also support the notion of gender differences in ethical perceptions and behavior.Gilligan (1982) argues that men tend to perceive moral issues from a justice perspective,while women tend to perceive moral issues from a caring perspective. The work of Smithand Oakley (1997) has also argued that there exists gender differences concerning ethicaldecisions, particularly regarding social and personal relationships. Similarly, the work ofPeterson et al. (1991) and Schminke (1997) found that men and women differ in the waythey evaluate ethical decisions and that gender differences in ethical pre-dispositions mayplay an important role in ethical evaluations.
On the side of no expected gender differences is the work of Kohlberg (1969,1984) and Rest (1986). Both of these theorists have developed models of ethicalreasoning to assess an individual’s level of moral development devoid of genderconsiderations. Kohlberg’s six-stage and Rest’s four-stage conceptualizations of moraldevelopment do not consider gender to have a significant impact on an individual’sprogression through the stages of ethical development. Also in support of this lack ofgender effects is the area of social psychology known as the structural approach (Betz etal. 1989). Under the structural approach, men and women may well bring differentvalues and interests initially to their jobs, but that these differences soon dissipate asindividuals adjust to the needs of their roles. Thus, men and women quickly learn torespond similarly in order to fulfill their professional and work responsibilities.
The research findings regarding gender effects on ethical perceptions and moraldevelopment have been mixed (Ford and Richardson, 1994). Both Beltramini et al.(1984) and Peterson et al. (1991) measured students’ degree of concern about ethicalissues and both studies found females to exhibit a higher degree of concern over ethicsthan males. Likewise, other studies (Chonko and Hunt, 1985; Akaah, 1988; Ferrell andSkinner, 1988; Betz et al. 1989; Ruegger and King, 1992) have found women to behavemore ethically than men. In contrast, however, are the findings of Haan et al. (1975) andHolstein (1976) that suggest men are more morally advanced than women. Severalstudies (e.g., Hegarty and Sims, 1978, 1979; Walker, 1984; Dubrinsky and Levy, 1985;McNichols and Zimmer, 1985; Rest, 1986; Fritzsche, 1988; Callan, 1992; McCuddy and
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Peery, 1996; Geiger and O’Connell, 1999) have found no gender effects on ethicalresponses. Finally, some studies have found mixed results. Kidwell et al. (1987) foundfemale students to be more ethical than males in only one of the seventeen decisions intheir study. Stanga and Turpen (1991) found females to respond more ethically thanmales for one out of their five ethical scenarios. Deshpande (1997) found femalemanagers more ethical than males in only one of the seventeen questions in his study.Likewise, Borkowski and Ugras (1992) and Galbraith and Stephenson (1993) foundevidence of gender differences in some but not all of their analyses.
Collectively, the prior research indicates a considerable degree of uncertainty as tothe existence of gender effects on ethical perceptions and actions. Our study will providefurther evidence regarding the potential impact of gender on students’ ethical perceptionswithin a cross-cultural context. Accordingly, the second null hypothesis examined in thisstudy is:
H2 There is no difference in perceptions of the ethicalacceptability of earnings management between male andfemale accounting students.
METHODOLOGY
SubjectsThe participants in this study were 124 fourth-year accounting students at a large
public university in the United States. Participation was voluntary and the responses tothe questionnaire were anonymous. Nine students either did not provide demographicdata or did not answer all the questions, resulting in 115 usable responses.
The students ranged in age from 21 to 39 years with a median age of 23 years. Asindicated in Table 2, 80 of the students were born and had lived substantially all theirlives in the U.S. The remaining 35 students were natives of several Asian countries.2 TheAsian-born students had lived in the U.S. for relatively short periods ranging from 1 to 6years with a median time of 4 years. Since culture has been found to be an enduringindividual characteristic (Hofstede, 1980), this relatively short amount of time spent inthe U.S. was believed not to significantly impact students’ perceptions of the practice ofincome smoothing. Also, earlier research using students from non-U.S. countries foundno differences between the responses of students temporarily residing outside of theirnative countries verses those students residing in their home country (Geiger et al. 1998). Thus, we believe that the responses of the non-U.S. students in this study are reflective ofthe countries from which they permanently reside.
-- Insert Table 2 Here --
Earnings Management QuestionnaireThe students answered a questionnaire that asked them to evaluate the ethical
acceptability of 13 earnings management activities. The scenarios were originally
2 Twenty-one of the Asian-born students were from Hong Kong and nine were fromTaiwan. The remaining six students were from Indonesia, Singapore, and Malaysia.
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developed by Bruns and Merchant (1990) and subsequently used by Merchant andRockness (1994) and Fischer and Rosenzweig (1995) to study accountants’ perceptions ofthe ethics of earnings management. The scenarios address practices such as delaying(accelerating) discretionary expenses to increase (decrease) earnings and manipulatinginventory reserves. Students responded to each scenario using a 5-point Likert scaleranging from 1 for “ethical practice” to 5 for “totally unethical.” Higher scorescorrespond with higher degrees of ethical unacceptability. A copy of the questionnaire isincluded in the Appendix.
RESULTS AND ANALYSISThe 13 scenarios describe a variety of earnings management techniques. Table 3
presents the mean responses to each of the earnings management scenarios. The meanresponses varied widely among the scenarios. The students objected most strongly to thepractice of omitting a liability for consulting services received but not invoiced (scenario7b; mean = 3.76). Students had the least objection to the practice of painting a buildingearly when the division was ahead of its profit target (scenario 1; mean = 1.09).
-- Insert Table 3 Here --
Situational Factors that Influenced JudgmentsMerchant and Rockness (1994) report that professional accountants’ judgments of
the ethical acceptability of earnings management depend on the type, direction, andmateriality of the manipulation, as well as the intentions of the manager committing themanipulation. Before we begin our investigation of cultural and gender effects on ethicalperceptions, we first briefly examine these categorical issues regarding earningsmanagement. Accordingly, Table 4 reports the influence of these four factors on thestudents’ ethical judgments.
-- Insert Table 4 Here --
Type of Manipulation (TYPE). Earnings can be managed either by altering therecording of existing transactions (accounting manipulation) or by timing year-endtransactions to move revenues and expenses into the desired reporting period (operatingmanipulation). Merchant and Rockness (1994) report that accountants judge accountingmanipulations to be more serious ethical violations than operating manipulations.Scenarios 3, 5a, 5b, 6a, 6b, 7a and 7b describe accounting manipulations. Most of thesescenarios involve practices that violate generally accepted accounting principles. Thestudents' mean response to the seven accounting manipulation scenarios (ACC) is 3.01.Scenarios 1, 2a, 2b, 4a, 4b and 4c describe operating manipulations. These scenarios donot violate accounting rules, but involve operating decisions to move revenues orexpenses from one period to another. The students' mean response to the six operatingmanipulation scenarios (OPER) is 2.25. The difference between ACC and OPER issignificant at p < .01 (t = 12.86). Consistent with their practitioner counterparts
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(Merchant and Rockness, 1994), accounting students find violations of accounting rulesmore ethically troubling than operating manipulations of income.
Direction of Manipulation (DIR). Scenarios 1 and 2b are similar except thatscenario 1 involves accelerating a discretionary expenditure to reduce current periodincome and scenario 2b involves delaying a discretionary expenditure to increase currentperiod income. The difference between the responses to scenarios 2b and 1 (DIR) has amean value of 2.47 and is significantly different from zero at p < .01 (t = 28.17).Accounting students consider it an ethical infraction to delay expenses in order toincrease reported income, but object less strongly to operating manipulations that reducereported income.
Materiality (MAT). Scenarios 7a and 7b are identical except for the amount of theunrecorded liability. The difference between the responses to scenarios 7b and 7a (MAT)has a mean value of 0.97 and is significantly different from zero at p < .01 (t = 13.95).Students judge the omission of a large liability to be a more serious infraction than theomission of a small liability.
Intentions (INTENT). Scenarios 6a and 6b are identical except for the manager'smotives to manage earnings. In 6a the manager wants to report higher earnings to obtainfunding for important product development projects, while in 6b the manager simplywants to meet the division's budgeted profit targets. The difference between theresponses to scenarios 6b and 6a (INTENT) has a mean value of 0.60 and is significantlydifferent from zero at p < .01 (t = 7.71). Students find earnings management moreethically acceptable if it is committed with "good" intentions.
To summarize, accounting students object most strongly to earnings managementif it involves accounting manipulations and if it inflates reported income. Students areless critical of earnings management if the manipulation is small or if it is committed forthe purpose of continuing what is considered a worthwhile project. These student resultsare very similar to those reported by Merchant and Rockness (1994) who analyzedperceptions of accounting practitioners for these same ethical vignettes.
Comparison of U.S.- and Asian-Born StudentsThe second and third columns of Table 3 report the mean responses of the 80
U.S.-born and 35 Asian-born students. A univariate t-test and Wilcoxon signed-rank testwere used for each scenario to compare the responses of the U.S.- and Asian-bornstudents. The results indicate that the two groups of students gave very similar responses.Their mean responses are only significantly different (p < 0.05) for one of the 13scenarios. U.S.-born students object more strongly than do Asian-born students to failingto record the purchase of supplies (scenario 3, t = 2.15, p < 0.04). In order to test for anyaggregate culture effects, the responses were also analyzed using multivariate analysis ofvariance (MANOVA). This analysis assesses student responses across all 13 vignettes.The results of this multivariate analysis indicate no significant overall difference betweenthe responses of the U.S.- and Asian-born students (F = 1.36, n.s.).
The second and third columns of Table 4 report the mean values of ACC, OPER,TYPE, DIR, MAT, and INTENT for the U.S.- and Asian-born students. Students in eachgroup object more strongly to accounting manipulations (ACC) than operatingmanipulations (OPER). Each group also objected more strongly to income-increasing
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than income-reducing manipulations, thought large manipulations are more seriousinfractions than small manipulations, and objected less to the manipulation if it wascommitted to obtain product development funding. The results of t-tests reveal nosignificant differences in the mean values of TYPE, DIR, MAT, or INTENT between theU.S.- and Asian-born students. Thus, cultural differences were generally found to havelittle impact on the ethical perceptions of students in our study.
Comparison of Male and Female StudentsThe fourth and fifth columns of Table 3 report the mean responses of the 54 male
and 61 female students. We again used t-tests and Wilcoxon signed-rank tests to assessdifferences in responses due to gender. Scenario 2b is the only individual scenario forwhich the mean response of the male and female students differed significantly (t = 2.06,p = 0.04). The women felt the deferral of discretionary expenditures is a more seriousethical infraction than did the men. The MANOVA analysis for gender that includes all13 responses also did not detect a significant overall difference between the responses ofthe male and female students (F = 0.78, n.s.).
The fourth and fifth columns of Table 4 report the mean values of ACC, OPER,TYPE, DIR, MAT, and INTENT for the male and female students. Students of eachgender appear to be similarly influenced by the type, direction, materiality of themanipulation, and the intentions of the manager. Again, our t-test analyses reveal nooverall significant differences between the male and female students across any of thesecategories.
Further AnalysisWe also examined the effects of nationality while controlling for gender. We
detected no significant differences between the responses of the 40 U.S.-born malestudents and the 14 Asian-born male students. When we compared the 40 U.S.-bornfemale students to the 21 Asian-born female students, we found significant (p < 0.05)differences in the mean responses to scenarios 2a, 2b, and 3. In each case, the U.S.-bornwomen objected more strongly to the earnings manipulation than did the Asian-bornwomen. We also found a difference (p < 0.05) in the variable DIR. The U.S.-bornwomen were influenced more strongly by the direction of the manipulation (i.e., income-increasing vs. income-decreasing) than were the Asian-born women. Based on thisanalysis there appears to be some evidence that differences due to nationality are moreprominent among female accounting students than among male accounting students.
Next, we examined the effects of gender while controlling for nationality. Whenwe compared the 40 U.S.-born male students to the 40 U.S.-born female students, wefound significant (p < 0.05) differences only in scenario 2b and variable DIR. The U.S.-born female students objected more strongly to the earnings manipulation in 2b and wereinfluenced more strongly by the direction of manipulation. When we compared the 14Asian-born male students to the 21 Asian-born female students, we found significant (p <0.05) differences only in MAT. The female Asian-born students were influenced bymateriality more strongly than were the male Asian-born students. The results do notsuggest that gender has a major influence on students’ ethical perceptions in our study.
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DISCUSSION AND CONCLUSIONSEarnings management is one of the most important practical ethical issues faced
by accountants and accounting students. Accountants are responsible for publishing fairand reliable financial statements, but many incentives exist for companies to try to movetheir reported earnings toward a desired goal. Prior research reveals wide disagreementamong accountants regarding the ethical acceptability of earnings management (Brunsand Merchant, 1990; Merchant and Rockness, 1994).
A key finding of this study is that, although the U.S. and Asian countries havevery different national cultures, we find no overall evidence that accounting studentsraised in the U.S. and five Asian countries have different opinions about the ethicalacceptability of earnings management. This finding is robust with respect to separateanalyses regarding different types of dilemma, and the directions and magnitude ofincome smoothing practices. To the extent that we did find minor differences betweenthe American and Asian students, the differences were more pronounced among thefemale than male students.
We believe three practical outcomes flow from this research. First, the finding thatstudents have varying perceptions of the ethics of earnings management, and that thesedifferences cannot be easily explained by culture, is of great relevance to academics whoare increasingly teaching students from diverse cultural backgrounds. It appears thatacademics cannot generalise about the ethical values of students from different nations.Student judgments of different earnings management practices are complex and unique,and we need to recognize this diversity in discussing such practices. Moreover, we shouldnot enter these classes with preconceived ideas about what students are likely to see asacceptable/unacceptable.
Second, since this study demonstrates that students rely heavily on accountingrules in judging whether an action is ethical or not, academics need to emphasise to theirstudents that ethical conduct goes beyond the narrow legal and professional rules ofaccounting. These rules cannot cover all situations and so it follows that certainaccounting practices, while not specifically contrary to professional accounting standards,may be still unethical.
A third practical outcome from our finding that students focus primarily onaccounting rules in judging the ethics of certain actions is that accounting standards andthe professional codes of conduct need to be more specific in prohibiting such practices.General references to earnings management may not be a sufficient deterrent to our futureaccountants.
It should be noted that all of the Asian-born students who participated in thepresent study received at least some of their college education in the United States.Accordingly, one interpretation of our results is that the prevailing cultural and societalvalues of the U.S. and the various Asian countries included in this study lead to similarjudgments of the ethical acceptability of the business practice of earnings management.An alternative explanation is that differences in national culture may be mitigated bycollege education received in the U. S. While earlier research has failed to find perceptualdifferences in students temporarily not residing in their country of origin (c.f. Geiger et al.1998) an interesting area for future research could be to design a study to separate anypossible effects of national origin from the country of education. Another possible area
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for future research would be to obtain large enough samples of Asian-born students toallow each Asian nationality to be examined separately. Although Hofstede’s culturalindex scores (see Table 1) and his cluster groupings of Asian countries suggest that theAsian students in our sample come from similar cultures, it is possible that students fromdifferent Asian countries have different perceptions of earnings management. Studentsfrom one or more individual Asian countries might have different perceptions from U.S.students, but these differences could be masked when all the Asian students are combinedinto a single group.
Our study also finds no evidence that gender significantly affects judgments aboutthe ethical acceptability of earnings management. The male and female students gavesimilar responses to 12 of the 13 ethical scenarios. Although the socialization of men andwomen may lead to different ethical conclusions in some situations, the overall results ofour study indicate that judgments about the business practice of earnings managementappear to be generally unaffected by gender. Thus, our overall results add support to thebody of literature that espouses no differences in ethical perceptions of males and femalesfor ethical dilemmas in business situations (i.e. McCuddy and Perry, 1996; Geiger andO’Connell, 1999). Bussey and Maughan (1982), however, argue that the primarydifference between male and female socialization is that women are taught to place morevalue on building and maintaining personal relationships. The earnings managementscenarios used in this study did not have an explicit interpersonal component, which mayexplain why the male and female students perceived the ethical practices similarly.Future research should attempt to identify specific ethical situations where thesocialization of men and women may lead to different ethical decisions in a businesscontext.
Finally, a review of responses to the individual cases indicates that the students inthis study objected more strongly to accounting manipulations than to operatingmanipulations. They judged violations of generally accepted accounting principles lessethically acceptable than operating manipulations that accomplish similar results withoutbreaking any explicit accounting rules. This finding suggests that the students weremaking their judgments using a legalistic view of ethics. In other words, rather thanrelying on their own set of moral values to determine what is ‘right and wrong’, studentsappear to base their judgments primarily on whether any laws or accounting rules arebreached by the action. Accounting educators should consider whether they need tobetter explain the potential harm that earnings management can cause to investors andcreditors so students can fully appreciate the ethical implications of all manipulations.Future research can try to identify the ethical perspectives that students use to judge theethical acceptability of earnings management.
ACKNOWLEDGEMENTSWe thank Bob Giacalone, Alex C. Michalos and an anonymous reviewer for theirsuggestions on this manuscript.
15
AppendixInstructions:
The following questions reflect everyday ethical choices. Please evaluate the practices asthey apply to a major division (annual revenues of, say, $100 million) of a billion-dollarpublic company. Use the following scale to indicate how you judge their acceptability.
1. Ethical practice2. Questionable practice. I would not say anything to the manager, but it
makes me uncomfortable.3. Minor infraction. The manager should be warned not to do it again.4. Serious infraction. The manager should be severely reprimanded.5. Totally unethical. The manager should be fired.
Questions:
1. The division’s headquarters building was scheduled to be painted in 1989. Butsince profit performance was way ahead of budget in 1988, the division generalmanager (GM) decided to have the work done in 1988. Amount: $150,000.
2. The GM ordered his employees to defer all discretionary expenditures (e.g., travel,advertising, hiring, maintenance) into the next accounting period, so his divisioncould make its budgeted profit targets. Expected amount of deferrals: $150,000.
a. The expenses were postponed from February and March until April inorder to make the first quarter target.
b. The expenses were postponed from November and December untilJanuary in order to make the annual target.
3. On December 15, a clerk ordered $3,000 of office supplies, and the supplies weredelivered on December 29. This order was a mistake because the GM had orderedthat no discretionary expenses be incurred for the remainder of the fiscal year, andthe supplies were not urgently needed. The company’s accounting policy manualstates that office supplies are to be recorded as an expense when delivered. TheGM learned what had happened, and to correct the mistake, he asked theaccounting department not to record the invoice until February.
4. In September, the GM realized the division would need strong performance in thefourth quarter to reach its budget targets.
a. He decided to implement a sales program offering liberal payment terms topull some sales that would normally occur next year into the current year;
16
customers accepting delivery in the fourth quarter would not have to paythe invoice for 120 days.
b. He ordered manufacturing to work overtime in December so thateverything possible could be shipped by the end of the year.
c. He sold some excess assets and realized profit of $40,000.
5. At the beginning of December 1987, the GM realized the division would exceedits budgeted profit targets for the year.
a. He ordered his controller to prepay some expenses (e.g., hotel rooms,exhibit expense) for a major trade show to be held in March 1988 and tobook them as 1987 expenses. Amount: $60,000.
b. He ordered his controller to develop the rationale for increasing the reservefor inventory obsolescence. By taking a pessimistic view of future marketprospects, the controller was able to identify $700,000 worth of finishedgoods that conservative accounting would say should be fully reserved (i.e.,written off), even though the GM was fairly confident the inventory wouldstill be sold at a later date at close to full price.
6. The next year, the division sold 70% of the written-off inventory, and a customerhad indicated some interest in buying the rest of that inventory the following year. The GM ordered his controller to prepare the rationale for reducing the reservefor obsolescence by $210,000 (i.e., writing up the previously written-off goods tofull cost). The GM’s motivation for recapturing the profit was:
a. To be able to continue working on some important product developmentprojects that might have been delayed due to budget constraints.
b. To make budgeted profit targets.
7. In November 1988, the division was straining to meet budget. The GM called theengagement partner of a consulting firm that was doing some work for thedivision and asked that the firm not send an invoice until next year. The partneragreed. Estimated work done but not invoiced:
a. $30,000.
b. $500,000.
17
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TABLE 1Hofstede’s (1991) Cultural Index Scores
Cultural IndexCountry IDV PDI MAS UAI LTOHong KongIndonesiaMalaysiaSingaporeTaiwanUnited States
251426201791
6878
104745840
574650484562
29483686946
96----488729
IDV = Individualism Index.PDI = Power Distance Index.MAS = Masculinity Index.UAI = Uncertainty Avoidance Index.LTO = Long-Term Orientation Index.
25
TABLE 2Number of Students in Each Classification
Male Female TotalU.S.-born
Asian-born
Total
40
14
54
40
21
61
80
35
115
26
TABLE 3Mean Responses to Earnings Management Scenarios
National Origin Gender
Scenario
AllStudents(n=115)
U.S.(n=80)
Asia(n=35)
Male(n=54)
Female(n=61)
1
2a
2b
3
4a
4b
4c
5a
5b
6a
6b
7a
7b
Paint building early
Defer expenditures fromMarch to April
Defer expenditures from Dec.to Jan.
Record supplies next year
End of year sales program
Overtime in December
Sell unused assets
Prepay $60K travel expenses
Writedown $700K inventory
Writeup inventory—productdevelopment
Writeup inventory—meetbudget
Delay recording $30K invoice
Delay recording $500K invoice
1.09
2.81
3.56
2.96
2.24
2.08
1.73
2.76
3.06
2.55
3.16
2.79
3.76
1.07
2.90
3.59
3.09
2.23
2.10
1.71
2.76
3.07
2.56
3.25
2.80
3.76
1.11
2.60
3.51
2.68a
2.26
2.00
1.77
2.77
3.03
2.54
2.94
2.77
3.74
1.07
2.74
3.37
3.02
2.24
1.98
1.68
2.85
2.96
2.48
3.06
2.81
3.70
1.10
2.87
3.74b
2.92
2.24
2.16
1.77
2.70
3.14
2.61
3.24
2.77
3.81
Multivariate test (Wilks’ Lambda) F=1.36 F=0.78 aU.S.-born and Asian-born different at p < 0.05. bMale and female different at p < 0.05.
27
TABLE 4Mean Values of
Factors That Influence Earnings Management Judgments
National Origin Gender
Variable Description
AllStudents(n=115)
U.S.(n=80)
Asia(n=35)
Male(n=54)
Female(n=61)
ACC
OPER
TYPE
DIR
MAT
INTENT
(3+5a+5b+6a+6b+7a+7b)/7
(1+2a+2b+4a+4b+4c)/6
ACC – OPER
2b – 1
7b – 7a
6b – 6a
3.01
2.25
0.76
2.47
0.97
0.60
3.04
2.27
0.77
2.51
0.96
0.69
2.93
2.21
0.72
2.40
0.97
0.37
2.98
2.18
0.80
2.30
0.89
0.57
3.02
2.31
0.71
2.63
1.03
0.62
Note—no significant differences between students born in the U.S. and students born inAsia, or between male and female students.