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On 19July 2002, the European parliament give out a regulation requiring all EU listed firms to organise their consolidated financial statements based on international accounting standards (IAS/IFRS) by 2005. International Financial Reporting Standards (IFRS) have been established to blend corporate accounting practice and to answer the need for high quality standards to be approved in the world's foremost capital markets.
Ball et al. (2003) argue that adopting top quality standards can be a necessary condition for great quality information, however not essentially an adequate one. This paper contributes to the argument by examining whether or not the adoption of high quality standards like IFRS is related to high financial reporting quality. In particular, we question whether the adoption of the IFRS will result in a decrease in earnings management of France or not. We chose France because it is among the first-time adopters and also a code-law country. Previous research provides the evidence that earnings managements are higher in code-law countries with low invertor's protection rights, compared to common code-law countries with the high investor protection rights (Van Tendeloo & Vanstraelen, 2005; Leuz, Nanda & Wysocki, 2003). Previous literatures concentrated mainly on the voluntary adoption effect of IAS/IFRS for German companies on earnings management (Van Tendeloo & Vanstraelen 2005; Barth, landsman & Lang, 2008). So this paper will examine the mandatory adoption effect of IAS/IFRS on earnings management in French companies.
What is Earnings Management?
Stakeholders largely base their decisions on the financial statements of a company. Therefore, it is important that the financial statements provide a true and fair view of the companies' position and performance. The informative value of financial statements is one of the factors dependent on whether the presented earnings are manually managed by the ma nagers of a company, a phenomenon termed as earnings management. For example, a manager may intend to manipulate earnings when his/her bonus depends on the financial results of the company. In this case, earnings management is seen as a negative phenomenon, since it is clear that stakeholders cannot fully rely on financial statements when they are managed in the interest of the managers. "In general, it is assumed that earnings management has a negative impact on the transparency and comparability of financial reporting" (Heemskerk, 2006). Van Beest (2008) also states that earnings management is in general seen as a negative phenomenon and defines earnings management as the use or abuse of accounting decisions to make the financial report look 'better'. Also, according to him, IFRS is an accounting standard that is of high quality, which should lead to an increase in the quality of the financial statements (Beest, 2008). So it is actually assumed that the introduction of IFRS increases the quality of financial reports. Following Ball (2006) and Dechow, Ge and Schrand (2010), earnings management is one of the proxies that has an influence on the quality of financial reporting. In the case earnings management is seen as bad, it is assumed that earnings that are not managed are of higher quality than earnings that are managed (Ball, 2006; Dechow, 2010). This is consistent especially with the second of the following four requirements of Ball (2006) of financial reporting quality: "1) accurate depiction of economic reality, 2) low capacity for managerial manipulation, 3) timeliness and 4) asymmetric timeliness". The fact that earnings management is generally negative in nature is an important assumption for this study.
Due to increasing internationalization of business, the need for uniformity in accounting standards is also growing so that investors can rely on and compare financial statements of national and foreign companies. Moreover, auditors of financial statements need to know the differences in opportunities for earnings management that may arise with the new standards: a higher level of earnings management results in a higher risk for the auditors, since there is a greater chance that boundaries of materiality will be exceeded.
However, a dilemma regarding the fruitfulness of IFRS still remains: did the introduction of the requirement to prepare financial statements in accordance with IFRS indeed increase the informative value of the financial statements? More precisely, did the introduction of IFRS lead to a decrease in the level of earnings management? This dilemma leads to the necessity to research further in this field. In my research, I will concentrate on one of the first time adopters of the IFRS: France, which was required to comply with IFRS for its listed companies since 2005 and hence the effects of IFRS adoption on their earnings management will be more pronounced and easy to determine. Therefore, the main question that my research will be based on is: