The Relationship Between Corporate Governance Practices and Earnings Management of Companies Listed in the Nairobi Securities Exchange

Abstract

Earnings management is a strategy used by the management of a company to deliberately manipulate the company's earnings so that the figures match a pre- determined target. This practice is carried out for the purpose of income smoothing. In Kenya, cases where managers and directors have been accused of poor corporate governance resulting in corporate scandals include, the collapse of the Euro Bank in 2004, the placement of Uchumi Supermarkets under receivership in 2004 due to mismanagement, the near collapse of UngaGroup, National Bank of Kenya and the more recent Board ro om wrangles and the discovery of secret overseas bank accounts for siphoning company money by some directors at CMC Motors. The purpose of the study was to determine the relationship between corporate governance practices and earnings management among companies listed in the Nairobi Securities Exchange. The study adopted descriptive research design. The population under investigation was all the 63 companies listed in the N.S.E. The sample population consisted of 58 companies that had been actively trading at the NSE between January 2010 and December 2013. The study used secondary quantitative data. Descriptive statistics was used (mean scores, standard deviations and percentages) to profile the extent and distribution of various corporate governance practices. The data collected also employed linear regression and correlation analysis to test the relationship between the dependent variable. Based on the findings, the study found that board size positively and significantly influenced the earnings management among companies listed in the Nairobi Securities Exchange. In addition the study also concluded that board independence negatively but significantly influenced the earnings management among companies listed in the Nairobi Securities Exchange. The study further revealed that CEO Duality positively and significantly influenced the earnings management among companies listed in the Nairobi Securities Exchange although the effect is moderate. The study also concludes that ownership structure negatively but significantly influenced the earnings management among companies listed in the Nairobi Securities Exchange. The monitoring power derived from the ownership structure results in a kind of control exercised over the company and, particularly, over the top management team. Market regulators (or standard setters) and investors need to be aware of the different types of earnings management. While opportunistic earnings management tends to mislead and hurt investors, informative earnings management will, in fact, provide useful information through signaling out managers’ private information about the firm’s future cash flows and earnings potential. Rational investors should refer to different types of earnings management behaviors and adjust their decisions accordingly. The study recommended the need for effective corporate governance practices at senior managerial level of quoted companies in Kenya to contribute to reduced earnings management and hence improve on actual firm liquidity and avert possible collapse of public organizations in Kenya. Companies should consider adopting conduct of regular Corporate Governance Audits and Evaluations. The findings reiterate the importance of contextualizing the issue under consideration in view of the legal and institutional structures and processes in place rather than experimenting with some good corporate governance practices used in other contexts