Accuracy and Pervasiveness of Earnings Management Practices in Islamic Banking Institutions

Abstract

This paper investigates issues related to the Burgstahler and Dichev methodology (1997) applied to test earnings management (EM) in Islamic banking institutions (IBIs) using earnings measured over alternative periods. These alternative periods are periods ending at the first three quarters of the fiscal year. We compare the statistical properties of  fiscal year earnings to annual earnings starting with the fiscal year quarters two, three and four. In general, our results for the higher moments of  the earnings distribution are more consistent with the EM hypothesis than with the settling up hypothesis. When the predictions of the two hypotheses differ, our results are generally more consistent with predictions resulting from the EM hypothesis. We  find evidence of higher degree of EM pervasiveness to avoid losses, consistent with a higher motivation to manipulate earnings. Such a motivation is affected by the way banks approach the zero earnings target. IBIs approaching the target from below show higher pervasiveness than IBIs approaching the target from above.

Keywords: Earnings Management, Quarterly Earnings, Settling Up, Earnings Management Pervasiveness , Islamic Banking Institutions