Corporate Governance Compliance and Discretionary Accruals: New Zealand Evidence

Abstract

The purpose of this paper is to investigate the effect of better compliance with corporate governance regulation on managerial accruals (discretionary accruals) in New Zealand listed companies. Unlike previous research of earnings management, Jones model (Jones 1991), Modified Jones model (Dechow, Sloan, & Sweeney, 1995) and Performance Matched Accruals Model (Kothari, Leone, & Wasley, 2005) this research focuses on free cash flow as a measure of discretionary accruals instead of cash flow from operating activities. Univariate and multivariate regression analysis was done on 70 New Zealand listed firms over the period of 2000 - 2007 (inclusive). Results found that better compliance with corporate governance reduces discretionary accruals implying lower managerial opportunistic behaviour. Consistent with existing theories and models of discretionary accruals, this research documents that free cash flow increase managerial discretion by comparing with commonly used accruals model such as Jones Model, Modified Jones Model and Performance Matched Accruals Model. This study provides insights to regulators in developing corporate governance and financial reporting guidelines. It suggests that ‘Comply or Explain’ form of soft regulation reduces managerial discretion with stock exchange listing. This research uses a comparative analysis of traditional discretionary accrual measure with free cash flow approach of discretionary accruals. Moreover, an integration approach of discretionary accrual measure was never done in New Zealand.