CHAPTER 1

INTRODUCTION

1.0

Introduction

This section discuss on the background of the study, problem statement, research
question or research objectives, significance of the study and structure of the project
paper.

1.1

Background of the study

Corporate governance is defined by MCCG (2012) as the process and structure used
to direct and manage the business and affairs of the company towards enhancing
business prosperity and corporate accountability with the ultimate objective of
realising long-term shareholder value, whilst taking into account the interests of
other stakeholders. One of the most important functions of corporate governance is
to ensure the quality of the financial reporting process. The issue of corporate
governance has become more important following the significant increase of
earnings restatement, earnings manipulation scandals, and several high-profile
bankruptcies filing by firms such as Enron and WorldCom and also the corporate
cases in Malaysian companies such Transmile, Megan Media, Scan Associates,
Silver Bird Group, Genneva Malaysia, Perwaja, and many more that left the
stakeholders with substantial losses.
The roles of the boards of directors are challenging as they expected to perform well
in monitoring company performance. They also need to provide strategic advice and
help manage a firm during a crisis Daily, Dalton, and Canella (2003). They are
responsible to ensure financial statements are prepared according to the accounting
standards known as Generally Accepted Accounting Principles (GAAP). They are the
important tool among the different corporate governance mechanism because good
1

corporate practices guarantee the transparency, and timely and accurate disclosure of
financial reporting. Therefore, it is vital that the board of directors exercise effective
monitoring role to ensure that financial reports provide quality information to users
by properly reflect underlying economic value of the transaction.
The study of earnings management is importance to increase the quality of disclosure
of reported earnings. According to Dechow and Dichev (2002) earnings management
can be defined as the use of discretion by those preparing the accounts in pursuing
objectives of a personal or particular nature in order to obtain an advantage or
mislead some stakeholders about the underlying economic performance of the
company. Agency theory views that managers do not always act in the best interest of
the shareholder. They have tendency to use earnings management. For example,
company may overstate the profit to attract investor. Thus, corporate governance is
seen as a medium to mitigate the practises of earnings management.
This study attempts to examine this issue within the Malaysian context. This study
examines earnings management among Malaysian public listed company and
particularly how corporate governance mechanism affects earnings management.
Since earnings management misleads investors by giving them false information
about a firms true operating performance, thus, boards have a role in constraining
the practice of earnings management. Therefore, the primary cause of this study is to
focus on the impact of the board of directors characteristics that have gained specific
consideration in corporate governance literature such as board size, board
independence, and CEO-Chairman duality towards earnings management.
This study also extends the research of board effectiveness by including the
remuneration of the directors as a determinant. It is possible that the directors make
different performance under different remuneration scheme, but few previous studies
have taken this financial motivation of the directors into consideration. Therefore, the
results of this study might be useful for companies to design more effective
compensation package.
There is limitation of earnings management and it must comply within the
accounting standard, the standard framework of guidelines for financial accounting
2

so the financial reporting prepared does not harm everyone, from shareholders or
owners to stakeholder and to accounting profession itself. Therefore, the problem of
earnings management should merit further control.

1.2

Problem Statement

There are lot of loopholes and lack of the study regarding the PN17 companies and
Healthy companies. Our group is motivated by the recent studies that examine how
board remuneration and characteristics affect the earnings management. The
relationship of board characteristics between PN17 companies and Healthy
companies toward earnings management are important issue nowadays. Sheela and
Huang, (2011) found that gender differences affect conservatism, managerial
opportunism and risk preference of the management.
Sakthi (2012) found that Malaysian PLCs use both the accrual and valuation
allowance components of net deferred tax liabilities to avoid a decline in earnings.
Rashidah and Haneem, (2006) study about board, audit committee, culture and
earnings management in Malaysia. The result indicates that the competence of
independent directors based on the age of their tenure as board members, may not be
adequate in assessing and evaluating financial statements. The result also found that
the larger the board, the more ineffective in its monitoring functions.
Daniel and Naveen (2004) suggest that firms with complex operation does not affect
with the negative board size. Morten, Hans and Kasper (2006) found that there is no
sign of firms affected by small increase in size of the board toward the performance.
Benjamin and Weisbach (2010) also indicate that there a chance the larger boards can
be less effective than smaller boards when board consist too many members a
problem may be arise as some of directors would be as free-riders.
In addition Effiezal and Mazlina (2011) found that politically connected firms are
perceived to be riskier and thus require auditors to undertake greater audit efforts
which in turn lead to higher audit fee.
Therefore, there are lot of loopholes and lack of the study regarding the PN17
companies and Healthy companies. Thus, this study will investigate the relationship
3

of board characteristic between PN17 and Healthy companies towards the earnings
management.

1.3

Research Objectives

Research objectives are objectives where it can examine the impact of board
characteristic of Healthy companies and PN17 companies towards earnings
management.
RO 1 : To examine the relationship between board characteristic in PN17 Companies
towards earnings management.
RO 2 : To examine the relationship between board remuneration in PN17 Companies
towards earnings management.
RO 3: To examine the relationship occur between Healthy Companies and PN17
Companies towards earnings management.

1.4

Research Question

RQ 1: Is there any significant relationship between board characteristic in PN17

Companies towards earnings management?
RQ 2 : Is there any significant relationship between board remuneration in PN17
Companies towards earnings management?
RQ 3 : Is there differences between occur between Healthy Companies and PN17
Companies towards earnings management?

1.5

Significance of the study

In this research studies, the information that will be provided by pursuing and
attached information in this study will give a big advantage and benefits towards the
firm, bank, investor, government, and public by providing some of empirical data.
Moreover, this research finding can also provide a very good result to the companies
which help them to improve and enhancing their knowledge and increase their
awareness on the effectiveness of corporate governance, such as board remuneration
and board characteristic which consist of board independence, CEO-Duality, board
size and others. Instead of that, companies also can detect and learn the corruption
and implement new guidelines to avoid the same problem repeated.
In addition, this research also can provide a very good knowledge for the new or
young businessman to start their business which exposed the relationship of
corporate governance and earnings management. Thus, it will help them in giving
more knowledge and understanding of the phenomena of interest and to create
theories based on the outcome of this research.
Thirdly, this research study will help the public in doing their further research in
detail by contributing to the existing of this knowledge in their research. Moreover,
public also can manage their investment well by seeing the company earnings
management level.
.
Next, this study also can provide better understanding for the company such as, what
is the reason of certain company listed as PN17 and Healthy companies towards
corporate governance and earnings management perspective. Apart from that, it will
explain how the corporate governance gives an impact towards earnings management
through the understanding of value and attitudes that relate with ownership structure.
Last but not least, this study can also represent the effectiveness and give the result
on the board remuneration and board characteristic which consist of Board Size,
Board Independence and CEO-Duality.

1.6

Structures of the study.

This study is divided into three chapters that had been discussed
which contain introduction, literature review, methodology, finding
and conclusion.
In the first chapter, in introduction the matter that been discussed
is the background of the study which stressed about the board
characteristic, board remuneration and earnings management.
Furthermore, other parts that are also included are background of
the study, problem statement, research question (RQ), research
objective (RO), and the significant of the study.
In chapter two, the literature review is being discussed containing
previous research that had been done. The previous research
contributed by providing information such as the issue and the
finding that can be related to the study. The literature reviews
illustrate and summarize the literature in this study that can be
explained through the relationship between the independent
variable with the dependant variable.
In chapter three, the methodology describe on the research design.
Within this chapter, this study explained how the data are being
collected and the measurement on the independent variable. In this
chapter a few type of analysis will be used to test the relationship
between the variable such as normality test, test of difference and
correlation analysis.
In chapter four, the result and the finding of the analysis that been
tested will be featured here. The independent variable are crucial
for this study as it will determined either the relationship between
dependant variable with independent variable will give a positive or
negative results.

Finally, chapter five will wrap up the overall of this study. The
conclusion will comprise of issue that arise and the result of the
finding. Furthermore, in this section will be included the limitation in
making this study.

CHAPTER 2
LITERATURE REVIEW AND THEORETICAL FRAMEWORK

2.0

Introduction

This chapter covered about the problem issue and the findings in Board
Remuneration and Board Characteristics which is Board Size, Board Independence,
and CEO-Duality. Thus, the study will be well develops theoretical framework and
hypothesis to be investigate.

2.1

Board Characteristics and Board Remuneration

In this sub chapter, the review and control of this research study consist of wellexplored independent variables in the literature, which is; Board Size, Board
Independence, CEO-Duality and Board Remuneration.

2.1.1

Board Size

Moscu (2013) a study in Romania capital market shown relationship

established between board size and corporate performance as a
direct relationship. It is being preferred as able to improve
profitability, information and diversity in a company.

A study was conducted by Cheng (2008) relate with board size and
the variability of corporate performance. In this study, observation
has done and it verify that a bigger size of board have a lower
variability to the corporate performance. The study finds it
otherwise, as a bigger board is easy to achieve coherence and the
smaller

board

size

will

point

to

less

variable

corporate

performance.

2.1.1.1 Relationship Board Size and Earnings Management

Sirat and Hadi (2012), results from two of corporate governance
variables, board of director and audit quality, with firm size found to
be significant in determining earnings management measured by
discretionary accruals. A positive relation to corporate governance
namely board of director; however audit quality were negative
relation towards earnings management. Firm size was negative
towards earnings management.
Mak and Yuanto (2003) reported those listed firms were valuated
from Singaporean and Malaysian firms, which are found highest
when the board consists of five members. It is also supported by
Moscu (2013) as a general in the capital market in Romania prefer
to have five members as a Board of Directors. A direct relationship
was established between board size and corporate performance.
Therefore, incensement in profitability, diversity and information in
a company were found to be directly related.
However, a study by Abdul Rauf, Johari, Buniamin and Abd Rahman
(2012) a study on earnings management that impacted by board
characteristic and the company itself. A significant negative
relationship found between earnings management and cash flow
8

from operating activities which indicate a poor performance

company tend to do earnings management (accrual) to increase
earnings. Based on that study, they find that earnings management
practices does not influence by board size of a company in
Malaysia.

2.1.1.2 Hypothesis Development

Germain, Galy, Lee (2014) found that there is a positive association on complexity
level of firm in Malaysia with the board independence and the board size. Cheng
(2008) finds that there will give more variability towards company performance
when the sizes are bigger. Chekili (2012) discover that as the board size increase, the
managers control will face a threat which includes earnings management.
Therefore, the hypothesis developed as followed:

H1 There is a significant relationship between board size and

earnings managements.

2.1.2

Board Independence

In order to have an effective management, they should have both of the independent
non-executive director, strong incentive to monitor the board, and the outcome of the
capabilities to identify earnings management (Peasnell 2000). Based on the study by
Klein (2002) there were negative relationship between director from outsider and
earnings management. However, according to the prior research by Vafeas (2005), it
support the finding of Klein (2002) which finds and confirm that board and audit
committee independent does not significantly related to the likelihood of avoiding
any earnings management/surprises.
In addition, a research studies that have been done by Guay (2008), pointed that
board independence and earnings management, are likely subject to the
endogeneity issue by examining the cross-sectional correlation between the board
independence and earnings management.

According to, Wan Nordin (2009) which studied about the relationship between
board structure and corporate transparency, the result shows that there is no proof is
discovered to underpin the contention that board independent director advertise
corporate transparency, consistent with past Malaysian Studies.

2.1.2.1 Relationship Board Independence and Earnings Management

Based on the previous study by Kim and Yoon (2008), it is examine that if there is a
changes happen in corporate, it will influence and moderate the earnings
management. This study also did investigate how the corporate influence the
components that can moderate the earnings management practices. From this
research study also, they did found that the board independence director and other
top managerial staff, foreign ownership, and leverage ratio and firm estimate
altogether influence discretional accruals and total accruals. This study were supports
the hypothesis that pointed corporate governance and earnings management are
fundamentally identified.
Bushman (2009), have a done their research and as a result, he pointed that having a
lower board independence and higher earnings management can be part of the
general equilibrium and does not necessarily indicate that board independence
reduces earnings management. Since the changes of board independence and
earnings management can be freely change by some unobservable firm and CEO
characteristics, their research studies that using change of regression still does not
solve this issue.
Besides that, by examining the accounting frauds, in Agrawal and Chadha (2005)
also find that board and audit committee independence are not correlated with the
likelihood of accounting restatements. In contrast, research studies that have been
done by Larcker (2007) also did find that board independence is not correlated with
signed abnormal accruals, the absolute value of abnormal accruals, or the likelihood
of accounting restatements.

10

2.1.2.2 Hypothesis Development

Moreover, the research study of Larcker et al. (2007) also did find that board
independence is not correlated with signed abnormal accruals, the absolute value of
abnormal accruals, or the likelihood of accounting restatements. Despite that, 2 years
after that, Bushman (2009), have a done their research and as a result, he pointed that
having a lower board independence and higher earnings management can be part of
the general equilibrium and does not necessarily indicate that board independence
reduces earnings management. Thus, as a result from this research studies, it is shows
that the independence board director which is including of the top managerial staff,
foreign ownership, ownership concentration, and leverage ratio and firm that
estimate altogether did not influence earnings management.

H2 There is no significant relationship between Board Independence and

Earnings Management.

2.1.3

CEO-Duality

Duality of roles refers to a circumstance where a firms CEO also serves as chairman
of the board of directors (Abdullah, 2004). There are two contending perspectives
found in the literature about the advantages and disadvantages of CEO duality. One
school of thought believes that the board is more effective by having a separation
between the roles of chairman and CEO. Finkelstein and Mooney (2003) argue that
separation of roles has enabled boards to perform their oversight functions
effectively because such boards are considered to be independent. Besides, Schmid
and Zimmermann (2005) stated that an independent chair might have vital contacts
with banks and the government, which can provide valuable networking for the
company.
A study was conducted by Elena and Mike (2013) on the influence of powerful chief
executive towards the financial performances of UK firms stated that CEO chair
duality give impact on the higher level decision making power of CEO. The study
also finds that the financial performance of the firm is positively affected by CEO
decision-making power expressed by duality of the titles. The theory supported by
the finding where the ROA is positively associated with the roles duality.
11

The previous study on corporate governance and accounting enforcement action in

Italy by Giula and Andrea (2012) identified related issue of the boards such board
size, CEO duality, and board independence towards the quality of the financial
statement of Italian listed companies. The paper observed on consolidated accounts
deemed by the regulator not to comply with generally accepted accounting standards
and hence subject to an enforcement action. It is found, the firms with roles duality is
appear more likely in the fraud firm rather than non-fraud firm mainly because the
powerful single person can exercise power of control over the firm.

2.1.3.1 Relationship CEO-Duality and Earnings Management

Prior studies (Supawadee, Subba, and Omar, 2013) focused on the study of the
influence of board characteristic on earnings management behaviour in Thai listed
companies found the significant associations between earnings management and
CEO-Chairman duality, board size, as well as board meeting. Moreover, it is found
there is a positive significant relationship between board independence and
discretionary accruals. It was noted that the role of duality is playing an important
role to control earnings management among Thai listed companies as a director on
the board which holds dual chair in the firm can assist the board to carry out their
oversight functions effectively use their vast knowledge and expertise in business
affairs.
Study conducted by Mohd Norman, Mohd Takiah, and Mohd (2005) on the
relationship between earnings management and board characteristic from Malaysian
perspective and found that the existence of CEO-Chairman duality have influences
on earnings management in a firms. They also found the negative impact of the
increasing of the independent director on the board on the action of CEO-Chairman
towards earnings management practises. The result implies that the external
monitoring mechanism is less effective towards firms that practise roles duality. This
finding is consistent with the earliest research by Xie (2003) that found roles duality
have significant influence on earnings management.

12

This study addresses the issue of corporate governance and focuses on two main
characteristics of board effectiveness that is board independence and CEO duality on
the practice of earnings management in Malaysia. According to the research
conducted by Hafiza Aishah and susela (2008) the result from the study indicate that
neither board independence nor CEO duality effectively constrained earnings
management, even after the code of conduct of corporate governance reforms were
introduced. To ensure a balance of power and authority of a company that can lead to
more independent boards (Owyong and Guan, 2000) recommends that all listed
companies should have no role duality.

2.1.3.2 Hypothesis Development

It is still an empirical question of whether roles duality reflects poor corporate
governance in a firm that may results in higher earnings management in Malaysia.
The new Malaysian code of corporate governance (MCCG, 2012) did not encourage
the practise of CEO duality. The external monitoring mechanism is less effective
towards firms that practise roles duality Mohd Norman et al., (2005). This finding is
consistent with the agency theory that predicts a positive relationship between CEO
duality and earnings management Xie et al (2003). Hence we hypothesize the
following:

H3 There is a significance relationship between CEO duality and earnings

management.

2.1.4

Board Remuneration

Director remuneration is includes basic salary, bonus option, restricted share plan,
pension and other benefits Rashidah (2006) and according to Peng and Roell (2008)
executives can be motivated with higher incentives, so that they can manipulate the
firms resources and push stock prices upwards. Liang (2004) also stated that higher
incentives can makes market gain confidence with the executives capabilities. Fich
and Shivdasani (2006) found that it is reasonable because the opportunity cost of
attending meeting meetings is increase and that directors accumulate more
directorships in other company.

13

Excessive payment that being made to directors and remuneration largely depend on
the performance of the company in order to have better corporate governance.
Shamsul (2006). Gneezy and Rustichini (2006) found that director will perform
better in doing their responsibility towards the company when the payment that be
made to them is higher but they will perform better if they dont get any payment
rather than being paid with small amount of money.
Directors should be willing to attend the general meeting when they are paid
thousands dollar than nothing Black et. Al. (2006) and also claimed that outside
directors are not included in the company for money. Stout (2003) found that
remuneration paid based on performance based compensation will affect the qualities
of the directors in monitor their firm.

2.1.4.1 Relationship Board Remuneration and Earnings Management

Based on Yet Chu and Imm Song (2012) relationship between managerial
compensation and performance are not directly observed if the market is inefficient
because executives may apply earnings management to signal to the market, to
increase executive compensation and investment and there is an increasing trend in
executive compensation. Bergstresser and Philippon (2006) found that executive
directors engage in opportunistic earnings management to increase the earnings and
stock price, which is lead to improvement in remuneration packages. Graham,
Campbell and Shiva's (2005) found that managers are willing to delay their
investment in order to meet earnings target as stated in their compensation contract.
Malaysian Code of Corporate Governance (2001) stated that the remuneration should
be attractive enough to persuade directors who have the ability to manage a company
successfully and the package should be tied to company and personal performance.
The remuneration should be good with the responsibility of the directors and
experience to manage a company and this will increase the percentage of higher
earnings to the firm.

14

Akinobu (2007) found that when managers do not receive a bonus, they will engage
in income-decreasing earnings management to maximize their future bonuses. It also
shows that if the earnings are below in earnings based bonus plans, managers have an
incentive to lower it even further. Zhu, Y. & Tian, G. G. (2009) found that firm
performance is adjuster for the effect of earnings management when CEO payperformance relation is substantially lower.

2.1.4.2 Hypothesis Development

Lan sun (2012) found that management accounting choice is driven by incentive
compensation that management would adopt a multi-dimensional income strategy.
Director will perform better in doing their responsibility towards the company when
the payment that be made to them is higher (Gneezy and Rustichini, 2006).
Therefore, the hypothesis is as follow.

H4 There is a significant relationship between director remuneration and

earnings management.

2.2

Relationship PN17 Company and Healthy Company towards Earnings

Management

Etemadi et al,. (2012) have proven that PN17 companies likely manage their
earnings rather than non-distressed companies and distressed companies will use the
highest level of accruals a year before the distressed period.
Charitou, Lambertides and Trigeorgis (2007) examine the managerial discretion in
PN17 firms which to prove that PN17 firms that had never received any form of
qualified opinion had income-increasing behaviour are surely not the same as
previous year. Due to Gaap departure, qualified audit opinion gives an earlier signal
to the market because that they may be rendered in years which prior to the goingconcern opinion years.
According to Chen, Chen and Huang (2010) research studies which examine the
behaviour of earnings management among financial distressed firms in India. The
15

final result that they obtain in their research studies shows that the financial
distressed firms will adopt different type of earnings management either before or
after the distressed period. While that, according to Habib, Bhuiyan and Islam (2012)
which conducted a study to examine the earnings management that practices among
the PN17 Company and whether the earnings management practices might changes
during financial crisis. The result of their studies shows that the management in
financially PN17 Company will use earnings management practice to manage their
earnings downwards compared to financial healthy company.

2.2.1

Hypothesis Development

Habib, Bhuiyan and Islam (2012) provide an evidence of the relationship between
PN17 companies and healthy companies. The result of their research studies which is
examine the earnings management practices among the PN17 companies which
manager in financial PN17 companies will use earnings management practices rather
than healthy companies to manage their earning downwards.

H5 There is significant difference between PN17 companies and healthy

companies towards earnings management.

2.3

Agency Theory

This research study did use agency theory because Rashidah (2006) did pointed that
the agency relationship exist as the contractual relationship between the capital
provider to the company and top management team which the one who run the
business. Despite from that, according to the Arnold and De Lange (2004), when
there is occur differences attitude risk between shareholder and manager, and then
agency problem will arise. Manager might not do their best for the shareholder
interest and more prefer action with shareholder. Thus, there will also exist different
interest and risk preferences for the shareholder.
Cathy (2008) have examines about the incentives and information asymmetry,
manipulated concurrently. This studies also predicts managers who experience the
agency problem will take action that will maximizes their bonus incentive (i.e.,
16

decrease current-year earnings) while managers who do not experience the agency
problem will be more likely to take action that maximizes the companys best interest
(i.e., maximize current earnings for IPO purposes).

2.4

Theoretical Framework

INDEPEND
ENT
VARIABLE

DEPEND
ENT
VARIABL
E

Board
Characteristic:
1.Board Size
2.Board
Independen
ce
3.CEO Duality

EARNINGS

Tittle: The relationship between Board Remuneration and Board Characteristic which
consist of Board Size, Board Independence, and CEO Duality towards Earnings
Management in PN17 Companies.

17

CHAPTER 3
METHODOLOGY

3.0

Introduction

This chapter provides information to the reader on data study and methodology. It
discusses on the purpose of doing data study research methodology. There are four
purposes of research methodology of this study that is to explain the sample
selection, describe the procedure used in designing the instrument and collecting the
data, and provide an explanation of the statistical procedures used to analyse the data.

3.1

Type of study

This study requires gathering relevant data from the specified documents and
compiling databases in order to analyse the material and arrive at a more complete
understanding of the issue discussed. The quantitative data was selected in doing this
research paper because it provides substantive and relevant data. Through this
18

studies, quantitative data is gathered from various secondary source such annual
report, focus group and internet.

3.2

Population and Sample

The population of this research was developed from the companies that are listed in
bursa Malaysia that consist of both distressed and non-distressed companies. There
are 28 financial distressed companies that were categorized as PN17 in Bursa
Malaysia and the sample of healthy companies is selected from the main market in
Bursa Malaysia. Similar type of industries will be used to matching both Healthy
Company and PN17 Company. However due to lack of information provided by
Bursa Malaysia, we were choosing only 21 PN17 Companies and 21 Healthy
Companies. The independent variable and dependent variable is used as a mechanism
to measure the data that collected. The independent variable is Board Remuneration
and Board Characteristics that consist of Board size, Board Independence, and CEO
duality while the dependent variable would be earnings management.

3.3

Data Collection Procedure

The data collected for this research is based on secondary data consist of annual
report from the Bursa Malaysia website and also from the companys websites. In
this study, the sample is taken from the annual report of total 42 companies that are
listed in Bursa Malaysia. Out of 42 companies, 21 companies are taken from PN17
Company and another 21 company are taken in the main market in Bursa Malaysia.
The period of three consecutive years of financial data from 2010 to 2012 is
extracted from annual report of the selected companies to be analysed.

3.4

Measurement of Variables

3.4.1

Measurement of Dependent Variable Earnings Management

This research study will be adopted Lang (2006) model which to test the earnings
management.
19

Earnings Management = in Net Income (NI) / in Cash Flow

Where:
* in Net Income (NI):
= Current year income Previous year income
* in Cash Flow
= Current year Cash Flow Previous year Cash Flow
This research study also use this model by comparing net income (NI) and cash flow
between Healthy Companies and PN17 Companies. To ensure that the result will be
balance, this study has selected the net income and cash flow by referring to the asset
size of PN17 companies and match it into Healthy Company which have the exactly
same industry.
3.4.2

Measurement of Independent Variable

3.4.2.1 Board Size

Board size is measured based on the number of directors that are employed by the
company. Shakir (2010) board size is referred to the total number of directors on the
board of each sample firm which is including the CEO and Chairman. Those are also
including the executive director, outside directors and non-executive directors. This
study will measure the board size based on their actual sizes.

3.4.2.2 Board Independence

Based on the past research studies of measurement of board independence towards
earnings management which is from Jaggi, Leung and Gul, it is stated that the
member of the board executives director are measure by the fraction of INED in the
board directors. The criteria that can be considered by the director as INED are the
director should have not hold any executive position in the firm. Thus, not all the
directors are independent. The non-independent directors will be excluded from
INED category. Therefore, the measurement of this study will measure the board
independence based on actual amount of each of the companies.

20

3.4.2.3 CEO-Duality
We categorize a firm as having a CEO duality when one person occupies both board
chair and CEO positions. We define this variable to take the value 1 when there is
CEO duality and as 0 otherwise.

3.4.2.4 Board Remuneration

Board remuneration is measured by taking the total cash compensation data (total
salary and bonus) of the directors on the board as stated in annual report.

3.5

Statistical Analysis

This study will use a few types of statistical analysis to assess the data. They are
descriptive statistic, normality test, Inferential Statistics and correlation.

3.5.1

Descriptive Statistics

Descriptive Statistic consists of an organizing and aiming to summarizing the data

obtained. A descriptive statistic is a collection of data or numerical summary of data.
The aim of the descriptive statistics is to summarize a sample and to check data
accuracy by evaluate all variable entered into the data file. The descriptive statistics
that is use for this study is frequency distribution. Sekaran and Bougie (2009), found
that frequency is referring to the number of times in various situation. The result can
be seen in the cumulative percentage and percentage of the occurrence that are easily
to calculate.

3.5.1.1 Normality Test

Normality test is assessments for normality of a data as a prerequisite to many others
statistical test is consider an underlying assumption in parametric testing. There are
two type of test can be used. First one is Kolmogorov Smirnov test is qualified for
sample more than 50. For the second one is Shapiro-Wilk test that is used for total
sample of less than 50.
21

The Kolmogorov Smirnov test will be used in this study. It is due to the amount of
samples are up to more than 50 companies. Normality test will produce p-value
which is useful in determining either the result will fall in normally distributed
category or not. If the p-value is more than 0.05, it is consider to be normally
distributed. On the other hand, if the p-value is less than 0.05, the data are not
normally distributed. There are two type of test, which are Parametric Test and Nonparametric Test. Data that is normally distributed will run the Parametric Test. For
data that are not normally distributed, Non-parametric Test will be used.

3.5.2 Inferential Statistics

Inferential Statistics is one of a way to analyse data. It is done by using the data that
have been measured to form a conclusion. This will able the samples to be generalize
to the population for which the samples are obtained.

3.5.2.1 Test of Deference

For two components, independent sample T-test model will be used for the
parametric. For non- parametric, a Mann Whitney Test model will be used. But, if the
component that are more than two, a parametric will use Analysis of Variance
(ANOVA) model. For the non-parametric will use Kruskal Wallis model.

3.5.2.2 Correlation
The correlation is a statistical measurement on a relationship between two variables,
independent variable and dependent variable. The range is start from +1 to -1. A +1
correlation indicating a perfect positive correlation, mean both of the variables move
in the same direction together. For a zero correlation, there is no correlation between
the two variables. For -1, indicating a perfect negative correlation that shows one
variable will goes up and the other ones will goes down. The correlation is
interpreted using correlation coefficient. There is two models to find correlation,

22

which are Pearson and Spearman. A normal data will use Pearson model. On the
other hands, Spearman is used for the data that is not normal.

CHAPTER 4
RESULT

4.0

Introduction

This chapter will provide result which has been obtained through the analysis that
have been conducted based on the data collected from PN17 companies and healthy
companies from Bursa Malaysia. The data was collected to calculate changes in net
income and cash flow from operation from the annual report of PN17 Company and
Healthy Company for year 2009, 2010, 2011 and 2012 in order to find result for year
2010, 2011 and 2012. The total population was 42 companies which 21 companies
categorized in PN17 companies and 21 companies categorized in healthy companies.
There were actually 28 company listed as Practice Note No 17 (PN17) in 2013 and
21 were chosen to be as our data collection.

4.1

Descriptive Analysis

23

4.1.1

Changes Net Income over Total Assets

Year
N for PN17 Company
N for Healthy
Company
Mean of changes for
PN17 Company
Mean of changes for
Healthy Company

2010
21
21

2011
21
21

2012
21
21

4.8896

-9.2439

7.9566

-4.3614

0.0543

-0.0539

Table 4.1.1: Changes Net Income over Total Assets

Change of net Income over Total Asset

10.0000

7.9566

5.0000 4.8896
0.0543

0.0000
Mean

-0.0539

-5.0000 -4.3614
-9.2439

-10.0000
-15.0000
2010

2011

2012

Year
Mean for Distress Company

Mean for Healthy Company

Figure 4.1.1: Graph Changes Net Income over Total Assets

24

Table and Figure 4.1.1 shows that the mean value of changes in net income over total
asset for PN17 and Healthy Company. Thus, by looking the result of mean from both
PN17 and Healthy Company from the graph, it does suggest that the different
between these two groups were appeared to exist.
For each year, the average changes net income over total assets of PN17 Company is
significantly higher than Healthy Company except in year 2011. In year 2010 it
shows that the mean values were 4.8896 which much higher compared to Healthy
Company which only have mean value at -4.3614. However in year 2011, the mean
were drop to -0.9.2439 which lowers than mean value of Healthy Company by
0.0543 for year 2011. Apart from that PN17 company shows that increase in the
value and compare to Healthy Company in year 2012, which the mean value for year
2012 were at 7.9566 for PN17 Company and -0.0539 for Healthy Company.

4.1.2

Changes Cash Flow Operation over Total Assets

N for PN17
Company
N for Healthy
Company
Mean of changes for
PN17 Company
Mean of changes for
Healthy Company

2010
21

2011
21

2012
21

21

21

21

-.0107

-3.5320

.0326

24.7026

-7.1079

-24.2906

Table 4.1.2: Changes Cash Flow from Operation over Total Asset

25

Change of Cashflow from Operation over Total Asset

30.0000
20.0000

24.7026

10.0000
-.0107
Mean
.0000
2010
-10.0000

-3.5320
2011
-7.1079

.0326
2012

-20.0000

-24.2906

-30.0000
Year
Mean for Distress Company

Mean for Healthy Company

Figure 4.1.2: Graph Changes Cash Flow from Operation over Total Asset

Table and Figure 4.1.2 shows the mean value of changes in cash flow from operation
over total asset for PN17 Company and Healthy Company. Thus, by looking the
result of mean from both PN17 and Healthy Company from the graph, it does
suggest that the different between these two groups were appearing to exist.

For the year 2010, the mean value for both types of groups does shows that much
different which the value were -0.0107 for PN17 Company and 24.7026 for Healthy
26

Company. While in year 2011, there are very much different as they drop their mean
value which both, PN17 and Healthy Companies drastically drop until negative mean
value where it is -3.5320 and for Healthy Company which drop to -7.1079. However,
PN17 company again having a huge of different changes in mean value which
drastically increase to 0.0326 while Healthy Company decrease in mean value and
drop to -24.2906.
Therefore this result shows that PN17 Company have high possibilities of effectively
manage their cash flow over from operation over total asset compared to Healthy
Company as it shows Healthy Company constantly having their mean value
decreasing while PN17 Company having up and down trend over their mean value.

4.2

Normality Test

27

4.2.1

Test of Normality (Shapiro-wilk)

EARNINGS MANAGEMENT PN17 2010

Shapiro-Wilk
Statistic
df
Sig.
.368
21
.000

EARNINGS MANAGEMENT PN17 2011

.243

21

.000

EARNINGS MANAGEMENT PN17 2012

.433

21

.000

EARNINGS MANAGEMENT HEALTHY 2010

.582

21

.000

EARNINGS MANAGEMENT HEALTHY 2011

.448

21

.000

EARNINGS MANAGEMENT HEALTHY 2012

.423

21

.000

BOARD REMUNERATION 2010

.649

21

.000

BOARD REMUNERATION 2011

.486

21

.000

BOARD REMUNERATION 2012

.568

21

.000

BOARD INDEPENDENCE 2010

.915

21

.068

BOARD INDEPENDENCE 2011

.924

21

.102

BOARD INDEPENDENCE 2012

.861

21

.007

BOARD SIZE 2010

.800

21

.001

BOARD SIZE 2011

.834

21

.002

BOARD SIZE 2012

.873

21

.011

CEO-DUALITY 2010

.484

21

.000

CEO-DUALITY 2011

.484

21

.000

CEO-DUALITY 2012

.422

21

.000

Table 4.2.1: Test of normality

As shown in table 4.2.1, this study is using Shapiro-Wilk test as the sample in less
than 50 companies. 42 companies are used in this study which is the companies from
Public Listed Companies in Bursa Malaysia. The result shows that the significant
28

value is less than 0.05 for every variable except for Board Independent in 2010
which is 0.068 and for 2011 is 0.102. Therefore, the data above is not normally
distributed. Thus, non-parametric test should be used to test the hypothesis.

4.3

Correlation Analysis

4.3.1

Board Size towards Earnings Management

BS201
0

Correlation Coefficient
Sig. (2-tailed)
N
BS2011 Correlation Coefficient
Sig. (2-tailed)
N
BS201 Correlation Coefficient
2
Sig. (2-tailed)
N

.107
.645
21
-.328
.147
21
.091
.693
21

Hypothesis 1 (H1) predicts that there is significant relationship between board of

director size and earnings management of PN17 Companies. The p value for 2010 is
0.645, 2011 is 0.147, and 2012 is 0.693 which is higher than 0.05. From this study,
the result shows that board size and earnings management has no significant
relationship. Thus, hypothesis (H1) is rejected. This finding is contradict Hadi
(2012) as the results from two of corporate governance variables,
board of director and audit quality, with board size found to be
significant in determining earnings management measured by
discretionary accruals.

4.3.2

Board Independence towards Earnings Management

29

BI2010

BI2011

BI2012

Correlation Coefficient
Sig. (2-tailed)
N
Correlation Coefficient
Sig. (2-tailed)
N
Correlation Coefficient
Sig. (2-tailed)
N

.022
.923
21
-.267
.241
21
.093
.688
21

Hypothesis 2 (H2) predicts that there is significant relationship between board of

director independence and earnings management of PN17 Company. The p value for
2010 is 0.923, 2011 is 0.241, and 2012 is 0.688 which is higher than 0.05. From this
study, the result shows that board independence and earnings management has no
significant relationship. Thus, hypothesis (H2) is rejected. This finding is similar with
research studies that have been done by Larcker (2007) find that board independence
is not correlated with signed abnormal accruals.

4.3.3

CEO Duality towards Earnings Management

CD201
0

Correlation Coefficient
Sig. (2-tailed)
N
CD2011 Correlation Coefficient
Sig. (2-tailed)
N
CD201 Correlation Coefficient
Sig. (2-tailed)
2
N

0.000
1.000
21
-.320
.157
21
-.135
.560
21

Hypothesis 3 (H3) predicts that there is significant relationship between CEO duality
and earnings management of PN17 companies. The p value for 2010 is 1.000, 2011 is
0.157, and 2012 is 0.560 which is higher than 0.05. From this study, the result shows
that CEO duality and earnings management has no significant relationship. Thus
30

hypothesis (H3) is rejected. This is contradicting with the study conducted by Mohd
Norman, Mohd Takiah, and Mohd (2005) on the relationship between earnings
management and board characteristic from Malaysian perspective. They found that
the existence of CEO-Chairman duality have influences on earnings management in
a firms.

4.3.4

Board Remuneration towards Earnings Management

BR2010 Correlation Coefficient

Sig. (2-tailed)
N
BR2011 Correlation Coefficient
Sig. (2-tailed)
N
BR2012 Correlation Coefficient
Sig. (2-tailed)
N

-.042
.856
21
-.254
.267
21
-.310
.171
21

Hypothesis 4 (H4) predicts that there is significant relationship between board of

director remuneration and earnings management of PN17 Company. The p value for
2010 is 0.856, 2011 is 0.267, and 2012 is 0.171 which is higher than 0.05. From this
study, the result shows that board remuneration and earnings management has no
significant relationship. Thus hypothesis (H4) is rejected. This finding is contradicts
with Akinobu Shuto (2007) as he found that managers will engage in incomedecreasing earnings management to maximize their future bonuses.

4.3.5

Mann-Whitney Analysis

MannWhitney U

EM_2010
190.000

31

EM_2011
219.000

EM_2012
202.000

Wilcoxon
W
Z
Asymp.
Sig. (2tailed)

421.000

450.000

433.000

-.767

-.038

-.465

.443

.970

.642

a. Grouping Variable: GROUP

Hypothesis 5 (H5) predicts there is significant difference between PN17 companies
and healthy companies towards earnings management. The p value for 2010 is 0.443,
2011 is 0.970, and 2012 is 0.642 which is p-value for 2011 and 2012 were higher
than 0.05. Thus Hypothesis 5 (H5) is rejected. This findings were contradicts with
Habib, Bhuiyan and Islam (2012) as they found that earnings management practices
among the PN17 companies which manager in financial PN17 companies will use
earnings management practices rather than healthy companies to manage their
earnings downwards.

CHAPTER 5
CONCLUSION

32

5.0

Introduction

This study examines the effects of board size, board independence, board
remuneration and CEO-Chairman duality on earnings management among Malaysian
public listed company (PLCs) which is Healthy Company and Distress Company. 28
financial distressed companies categorized as PN17 and 28 financial healthy
companies are selected from the main market in Bursa Malaysia. Similar type of
industries will be used to matching both healthy company and Distress Company.
This can be further studied by using Mann Whitney Test model and correlation. The
impact can be further evaluated

5.1

Summary of finding

To identify the objectives of this study, the finding obtained which are to determine
any significant relationship in size of board of directors, board independence, CEOChairman duality and board remuneration on earnings management between Distress
and Healthy Company. By using Mann Whitney Test Model and correlation, five
relationship of hypothesis is identified.
The entire rejected hypothesis shows that there is no significant relationship between
independents variables and earnings management.

Hypothesis

Result

H1 There is a significant relationship between board size and

earnings
managements

Reject

33

H2 There is significant relationship between Board Independence

and earnings management.

Reject

H3 There is a significant relationship between director remuneration

and earnings management.

Reject

H4 There is a significant relationship between CEO duality and

earning management

Reject

H5 There is significant difference between distressed companies and

healthy companies towards earnings management

Reject

5.2

Recommendation

There are a few improvements that can be considered to gain more valuable
information. There are listed as below.
In order to get an accurate result, they can improve the result by adding more
variable such as gender and audit fees paid. The presence of female in the board will
lower the tendency of earnings management as they are afraid to do earnings
management. But on the other hands for the audit fees paid, it will give a signal that
they did manage their earnings if when it spent too high or more than usual.
Next, by adding the number of years (i.e.10 years) as the timeline, the result can be
more accurate and consistent. With a period longer than three years, it may provide
an adequate time to gain more accurate and consistency information towards the
result.
Lastly, including the sector of the company may also contribute to the research in the
future. In different sector, there will be its own opportunities and risk. Thus, each
company exposed to commit earnings management based on their sector itself.

34

5.3

Limitation

This study has a few limitations. First, the sample used consist only 21 companies
from each PN17 Companies and Healthy Companies and only covered for period of
three years. This may consider inadequate time to measure the impact for each
variable towards each companys performances.
Next, this study is inefficient in minimizing possible short-term changes in variables
values within each company. Other than that, it is only limited to examining four
components of board structure only, such as board size, board remuneration, board
independent and CEO duality. By including other factors may be beneficial to
enhance the model development in this study. In future, this study can be conducted
in more sufficient resources and extend the period of collecting data from five to ten
years.
Lastly, the limitation is the difficulty of accessing information as well as lack of
information in conducting the research. Some company did not disclose their net
income or even cash flow in respective years. Thus, due to lack of information, we
limit our company to 21 each from PN17 companies and Healthy Companies.

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APPENDICES
LIST NAME OF THE 21 PN17 COMPANIES AND 21 HEALTHY COMPANIES

38

NUM
BER

PN17 COMPANY

HEALTHY COMPANY

SECTOR

ADVENTA BHD

CONCRETE
ENGINEERING

PERSTIMA BHD

AUTO AIR HOLDING

INTEGRATED
RUBBER

IRM GROUP BERHAD

5
6

LION CORPORATION
MALAYSIA AE
MODEL

A-RANK BHD
LAFARGE MALAYAN
BHD

OCTAGON

MAXTRAL BHD

9
10

PERWAJA BHD
GLOBAL CARRIER
BHD

11

HAISAN RESOURCES

12

HEXAGON HOLDING

SEG INTERNATIONAL
EMAS KIARA
INDUSTRIES BERHAD
MY EG SERVICE
BERHAD

13

LFE CORPORATION
PETROL ONE
RESOURCES
SUMATEC
RESOURCES

GUNUNG CAPITAL BHD

CHUAN HUAT
RESOURCES
NAIM INDAH
CORPORATION
KUMPULAN JETSON

17

BINA GOODYEAR
HO HUP
CONSTRUCTION

18

PAN MALAYSIAN
INDUSTRIES

SOUTH MALAYSIA
INDUSTRIES
HUAT LAI RESOURCES
BHD

INDUTRIAL
PRODUCTS
INDUSTRIAL
PRODUCTS
INDUSTRIAL
PRODUCTS
INDUSTRIAL
PRODUCTS
INDUSTRIAL
PRODUCTS
INDUSTRIAL
PRODUCTS
INDUSTRIAL
PRODUCTS
INDUSTRIAL
PRODUCTS
INDUSTRIAL
PRODUCTS
TRADING/SE
RVICE
TRADING/SE
RVICE
TRADING/SE
RVICE
TRADING/SE
RVICE
TRADING/SE
RVICE
TRADING/SE
RVICE
CONSTRUCT
ION
CONSTRUCT
ION
PROPERTY
DEVELOPME
NT
CONSUMER

14
15
16

19
20
21

HYTEX INTEGRATED
ECM LIBRA
FINANCIAL GROUP
PAN MALAYSIAN
CAPITAL

OKA CORPORATION

ANCOM BHD
CHIN WELL HOLDING
BHD
MUDA HOLDING BHD
MALAYSIA STEEL
WORK BHD

TSR CAPITAL

FINANCE
OSK HOLDING BHD
SERVICES
JOHAN HOLDING BHD

39