Effect of Earnings Management on Economic Value Added: A China Study

Abstract

Earnings management is the judgement exercised by managers in financial reporting, which can be used to mislead stakeholders about reported accounting numbers. Economic value added (EVA) is used to obtain the real value of shareholder wealth; however, EVA is based on financial statements and is used to measure the value of competing companies, which likely motivates managers to engage in earnings management regarding EVA.

This paper thus addresses the association between earnings management and EVA in China and investigates whether earnings management influences a firm’s EVA regarding capital cost, providing investors with a method of determining the true value of enterprises. An analysis of earnings management is also presented based on data from 2003 to 2013 (excluding 2008). A significant positive relationship exists between earnings management through discretionary accruals (DAs) (Jones model, discretionary working capital accruals) and unadjusted EVA, a significant inverse relationship exists between earnings management through DAs (Jones model, current DAs, discretionary working capital accruals) and adjusted EVA (join adjusted items), a significant positive relationship exists between earnings management through DAs (current DAs) and adjusted EVA (join adjusted items and economic deprecation adjusted items), and a significant inverse relationship exists between earnings management through DAs (Jones model, discretionary working capital accruals) and adjusted EVA (join adjusted items and economic deprecation adjusted items).