How to Cite:
Suhendra, S., Murwaningsari, E., & Mayangsari, S. (2022). The derivative on the value
relevance through tax avoidance and earnings control. Linguistics and Culture
Review, 6(S1), 510-529. https://doi.org/10.21744/lingcure.v6nS1.2085
The Derivative on the Value Relevance Through
Tax Avoidance and Earnings Control
Suhendra
Universitas Buddhi Dharma, Tangerang, Indonesia
Etty Murwaningsari
Universitas Trisakti, Jakarta, Indonesia
Sekar Mayangsari
Universitas Trisakti, Jakarta, Indonesia
Abstract---This investigation expects to inspect and analyze the effect
of derivative transactions on earnings management, the role of
corporate tax avoidance in moderating effect of derivative transactions
on earnings management, the effect of earnings management worth
pertinence of earnings, and the effect of derivative transactions Worth
Pertinence of earnings. This examination utilizes information from
non-monetary organizations in Indonesia and Thailand for the period
2013-2017 with 91 test of organizations. This investigation, earnings
management is calculated based on the Jaggi model and the Jaggi
changed model. The value relevance of earnings is calculated based on
Ohlson's model. Corporate tax avoidance is calculated based on the
book tax difference. The results show that subordinate exchanges
have a constructive outcome on earnings management. Corporate tax
avoidance has not been proven to strengthen the effect of derivative
transactions on earnings management. Earnings management
adversely influences the worth pertinence of earnings. Derivative
transactions negatively affect the value relevance of earnings.
Derivative transactions, especially those with non-hedging criteria,
show a high tendency towards earnings management activities.
Intercountry testing, derivative transactions have a positive effect on
earnings management in Indonesia while in Thailand it does not.
Keywords---corporate, derivative transactions, earnings management,
tax avoidance, value relevance.
Linguistics and Culture Review © 2022.
Corresponding author: Suhendra, S.; Email: suhendraubd@gmail.com
Manuscript submitted: 09 Sept 2021, Manuscript revised: 18 Nov 2021, Accepted for publication: 27 Dec 2021
510
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Introduction
The driving force for the emergence of derivative transactions originated from the
complaints of wheat farmers in America in the 19th century, where the price of
wheat tended to fall during major harvests and tended to rise when this period
was pass. In anticipation of a fall in prices during the harvest season, to-arrive
contract (a type of future contract) is created that allows them to lock in the price
for future transactions. At the time of executing the transaction, they get the
locked price. By doing so, they obtain certainty about the price at which the
product is sold in the future (Brav et al., 2018; Fischer et al., 2016; Rakowski et
al., 2017). Based on Bank for International Settlement (BIS) data, the volume of
world derivative transactions from 2003 to 2017 increased by 170%, from around
US $ 197 trillion in 2003 to US $ 532 trillion in 2017. The notional amount of
derivatives which constitutes the number of currencies, shares, units of weight or
volume, or other measures specified in the contract (PSAK 55, 2014), over the
counter (OTC) decreased from the end of June to the end of December 2018, from
$ 595 trillion to $ 544 trillion. The national value of OTC derivatives fell from $
10.3 trillion to $ 9.7 trillion. The previous two years, namely 2016-2017, the
notional number of OTC derivatives has increased.
Table 1
Indonesia and Thailand macro economics
Country
Indonesia
Thailand
Macro Economics
GDP Growth Per Capita
Balance of Payments Surplus (Deficit)
2013
4,2%
-3,2%
2015
4,5%
-2,0%
6,9%
BBB6,5%
2014
3,7%
3,1%
6,4%
BBB7,5%
Inflation
Country rating (Fitch Rating)
Bank Indonesia Rate/7-day Reverse
Repo Rate
GDP Growth Per Capita
Balance of Payments Surplus (Deficit)
2,7%
-0,5%
0,5%
3,7%
2,2%
8,0%
Inflation
Country rating (Fitch Rating)
2,2%
BBB+
6,4%
BBB7,5%
1,9% -0,9%
BBB BBB+
+
Bank of Thailand Rate
2,3% 2,0% 1,5%
Sources: Asian Development Bank, Bank of Indonesia, Bank of Thailand
2016
3,7%
1,8%
3,5%
BBB6,0%
3%
10,5
%
0,2%
BBB
+
1,5%
2017
3,8%
-1,7%
3,8%
BBB
4,5%
3,6%
9,7%
0,7%
BBB+
1,5%
Derivatives have become an integral part of the investment environment and one
of the uses of derivatives is to protect risks or transfer risks to other parties.
Apart from protecting risks, derivatives can be used to take positions and are
speculative in nature. Although derivatives can be speculative in nature,
companies generally use derivative products as a risk management tool (Bodie et
al., 2014). Subsidiary monetary instruments are utilized by organizations to
lessen income and pay instability brought about by market hazard factors, like
variances in financing costs, vacillations in unfamiliar cash trade rates, changes
in product costs and other danger factors (Barton, 2001; Pincus & Rajgopal,
2003).
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Devi & Efendi (2018), the cash effective tax ratio (CETR) as a proxy for tax
avoidance has a negative correlation with the fair value of hedged derivative
assets. Shows that the firm reduces tax payments by delaying the realization of
profit from derivative transactions designed to hedge. In addition, CETR is
negatively correlate with the fair value of non-hedged derivative assets (liabilities).
In line with Lee (2017), the fair value of derivative asset hedges is negatively
related to CETR. Wang & Chen (2012), proves that there is a positive and
significant correlation between earnings management and tax avoidance. Sebrina
et al. (2018), proved that tax avoidance has a positive and significant effect on
earnings management. Reinforced by the findings of Razali et al. (2019), tax
avoidance has a positive effect on earnings management (Sykes, 1990;Elkington,
2002).
The Finish of Bookkeeping by Lev & Gu (2016) express the fast and nonstop
weakening in the utilization and pertinence of monetary data, particularly over
the most recent twenty years identified with financial backer choices. What
amount of the offer cost is attached to profit and book esteem? The appropriate
response is around 80 to 90 percent in the 1950 to 1960 period, current
conditions are just in the scope of 50% (Lev & Gu, 2016). Three principle reasons
why book keeping reports lose their significance: (1) Unexplained treatment about
elusive resources - predominant organization esteems, scholarly capital -, for
example, brand improvement, HR, advancement and examination - which are all
financed by current bookkeeping norms. (2) Bookkeeping is not, at this point
about realities however more about emotional decisions, assessments, and
projection of directors (3) Un recorded business occasions progressively influence
the worth of the firm (unsettling contenders, administrative changes, rebuilding
and agreeable partnerships) (Brown, 2001; Constantinides & Perrakis, 2002).
Common uses of a company's reported earnings including: forecasting earnings to
manage speculation choices and evaluating an organization's exhibition by
income shock. Regardless, that significance of detailed income to financial
backers is melting away. In producing profits from speculation, pay is surpass
with incomes, and in evaluating firm execution, financial backers' frail responses
to profit shocks cast genuine questions on the monetary significance of
announced profit. Income is the primary outcome of complex accounting
measurement and valuation systems, this finding is an early indication of things
to come: comprehensive evidence of the diminishing usefulness of accounting
information for investors (Lev & Gu, 2016).
The important thing in the book of The End of Accounting Lev & Gu (2016), is
that the utilization of bookkeeping norms in various developing and
underdeveloped countries needs to be considered by the IFRS Board. The IFRS
version of asset valuation is effective in both the production and information era,
because assets are evaluated using the latest economic indicators and applicable
free market laws. Thus, IFRS standards can still be apply in the information age.
In accordance with IFRS that all assets are task with maintaining business
continuity, assets that do not function must be remove from the balance sheet.
Value relevance is very important to study Ozek (2016), show that the results
have not been able to prove the connection between the utilization of subsidiary
exchanges and the worth significance of income. Murwaningsari et al. (2015),
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demonstrate that there is a connection among subsidiaries and the worth
significance of income. Interesting phenomenon regarding the value relevance
study is the pros and cons in connection with the research of Francis & Schipper
(1999) which did not find a large decrease in value relevance in industries that
use high technology.
Lev & Zarowin (1999), there is a significant decrease in the role of value relevance
for companies with an increase in research and development. Dahmash &
Qabajeh (2012), explain that the Ohlson model, which is company value
consisting of book value and earnings as well as clean surplus concept of
shareholder value. Shows results that are particularly relevant for public and
commercial companies that have gone public at share prices. The book value of
equity and abnormal income are the relevant values. Heshmat et al. (2015),
proved that real earnings management and artificial earnings management have a
negative effect on the value relevance of earnings. Mostafa (2017), states that
value relevance is related to earnings management, because value relevance and
earnings management are related to the empirical phenomenon of fraud
(fraudulent) that occurs in the development of international business (McNichols,
2000; Lo, 2008).
Based on the openness of experimental investigations, a few exploration holes
were found. To start with, there were conflicting outcomes in regards with the
impact of profit the executives on the worth significance of income. Income the
board negatively affects esteem significance of profit Mostafa (2017); Heshmat et
al. (2015), another finding of income the executives positively affects esteem
pertinence of profit Agostino et al. (2011); Rachmawati (2019); Temile et al.
(2018), there is no connection between profit the board and bookkeeping esteem
significance (Fattahi et al., 2014). The relationship of subsidiaries with profit the
board and worth pertinence of income is an exploration hole to put profit the
executives as an arbiter of the impact of subordinates on the worth significance of
income (Armstrong et al., 2015; Slemrod & Yitzhaki, 2002).
Second, Ohlson (1995), model, which is a proxy for value relevance, finds
inconsistent results between researchers and inconsistent findings on the effect of
earnings management on value relevance. Besides that, several empirical studies
stated that the Ohlson model is very relevant for measuring the VRE variable. The
findings of Dahmash & Qabajeh (2012), that the Ohlson model shows a very
relevant value for public and commercial companies that have gone public at
stock prices. The book value of equity and abnormal income are relevant values.
There is a gap to analyze the impact of income the board on VRE using the
Ohlson model (Hung, 2000; Baboukardos & Rimmel, 2016).
Third, empirical contemplates have been directed to demonstrate the connection
among benefit and profit the executives and company growth variables as control
variables (Gorganli & Vakilifard, 2014; Llukani, 2013; Ohlson, 2014). Firm size is
use as a control variable for earnings management (Dang et al., 2017; Dechow et
al., 1995; Kothari et al., 2005; Nguyen, 2015). These findings will be developed
again in this study involving firm growth and firm size variables as earnings
management control variables. In addition, the control variables for VRE are
earnings persistence Moienadin & Tabatabaenasab (2014); Sloan (1996); Yang
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(2018); Zach (2001), and audit quality (Jensen & Meckling, 1976; Subanidja et
al., 2016).
Fourth, tax avoidance is negatively correlated with derivatives and derivatives
provide opportunities by taking advantage of tax ambiguities. Other researchers
on corporate tax avoidance as a mediating variable (Annuar et al., 2014; Gebhart,
2017; Hanlon & Heitzman, 2010). The pros and cons of derivative transactions
against tax avoidance are the loopholes in using tax avoidance as a moderating
effect of derivatives on earnings management. Fifth, there is a positive connection
between profits the executives and income, which is in accordance with the model
of Jaggi et al. (2009) in view of an income based accumulation model with
organization development estimated through changes in income and in property,
plant and hardware (PPE). Jaggi's model will be changed in this investigation, to
be specific the net subordinate as one of the deciding elements for EM in the
condition. The model will be a curiosity in this examination as an intermediary for
income the board, namely modified Jaggi. The economic factors included in
derivative transactions in the new measurement are needed (Grigorievna et al.,
2021; Nagimova, 2021).
Sixth, this study compares two countries (Indonesia and Thailand) with the nonfinancial sector in their respective stock exchanges. The results of previous
studies have not found any studies comparing the two countries with a construct
like this study. The reason for the population in the study, namely Thailand and
Indonesia, is because both countries are the countries with the largest economies
in the Southeast Asia region. Seventh, derivative transactions in this study
distinguish between hedging and non-hedged derivative transactions. Previous
studies of derivative transactions were only in the form of dummy variables stated
in the disclosure of financial statements. Research by Nguyen et al. (2018), stated
that almost all non-financial companies in eight Asian countries do not use
derivative transactions for speculation or trading purposes, this information is
obtained from the company's annual reports. This study carried out in detail all
the information in the annual report and audited financial reports, so that
complete data on the hedge and non-hedge categories were obtained (Wong, 2021;
Rinartha et al., 2018). In light of the gap research that has been depicted it can be
concluded that the previous empirical study which is the reference of this study
has still not found a model for developing earnings management with net
derivatives which refers to the model (Jaggi et al., 2009). The new model in this
study is to create an earnings management model as a mediator that connects
derivative transactions with the value relevance of earnings (Hidah & Sedana,
2021; Allolinggi et al., 2021).
Literature review and hypothesis development
Earnings management
Earnings management (EM) is the manager's intervention on the financial
reporting information to get the personal benefit. Managers manipulate profits to
achieve what they want. This original model, as declared by Jaggi et al. (2009),
uses the total accruals (TAC) as the dependent variable and three proxies of the
operating cash flow [OCF(t-1), OCF(t), and OCF(t+1)], and two proxies of the
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quality of accrual: change in revenue (∆R) and property, plant, and equipment
(PPE).
TACi,t = δ0 + δ1CFOi,t-1 + δ2CFOi,t + δ3CFOi,t+1 + δ4DRevi,t + δ5PPEi,t + e1i,t (1)
Some notes related to the first equation is as follows:
TAC of the firm at the time t calculated by the formula in equation 1a.
TAC = (Profits before extraordinary account + depreciation + amortization) –
OCF ........(1a)
All the variables get already divided by total assets.
ɛ1 is the residual based on the modified Jaggi model.
New model of earnings management
The development in this study for the Jaggi model, net derivatives, namely
derivative assets reduced by derivative liabilities. Derivative assets and derivative
liabilities arise due to derivative transaction contracts, this value is closely related
to the notional amount of the derivative transaction. The determinants of the
Jaggi model development are (1) Derivative transactions are used for hedging or
non-hedging Emery & Finnerty (1997); Devi & Efendi (2018), an important
requirement in paragraph PSAK 55-2014. 85 requires that each derivative
transaction has a partner in the form of a protected transaction or item (2)
Derivative transactions are used as an earnings management strategy Barton
(2001); Pincus & Rajgopal (2003); Minton et al. (2009); Choi et al. (2015);
Murwaningsari et al. (2015); Ozek (2016), derivative transactions in the hedged
and non-hedged categories will affect net income, particularly non-hedged
derivative transactions. This change has implications for the total value of current
accruals and the value of discretionary accruals. (3) Derivative transactions are a
component of financial statements that are prone to being manipulated because
they contain a lot of uncertainty McKee (2005); Lee (2017), (4) Economic factors in
the form of changes in exchange rates, risk of changes in interest rates, changes
in commodity prices, credit risk and risk. liquidity has been accommodated in
derivative transactions (PSAK 71, 2018) (5) Jaggi et al. (2009), using cash flow
from operation (CFO) year t-1, CFO year t, and CFO year t + 1, the components of
growth (growth) and property, plant and equipment with discretionary accruals
were obtained from the residual value (ε) (Indonesia, 2021). The measurement of
EM adopts the residual of the Jaggi model modified by the additional variable, net
derivative (Deriv) as a net of derivative asset and liability in balance sheet (see
equation 2).
TACi,t = β0 + β1CFOi,t-1 + β2CFOi,t + β3CFOi,t+1 + β4DRevi,t + β5PPEi,t + β6Derivi,t +
e1i,t ……..…. (2)
Derivative transaction
Derivative is a contract whose value or profit opportunity is related to the
performance of another asset, known as the underlying asset (www.idx.co.id). The
differences between hedging derivatives and speculative derivatives are (1)
hedging derivatives, which are derivative transactions used to hedge the fair value
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of future company assets or liabilities. (2) Speculative derivatives, namely
derivative transactions that are not intended to hedge but to maximize company
profits. According to Trang (2018), one of the company's strategies in hedging
market risk is the use of financial derivative transactions. The relationship
between the use of financial derivatives and disclosure of country risks, exchange
rate risk and interest rate risk. These three derivative transactions are important
because they have significant implications. By denoting Allayannis & Weston
(2001); Barton (2001); Huang et al. (2009) moreover, derivative transaction (DT) is
measured by the ratio of the total notional derivatives to the previous total assets
(see equation 3).
𝐷𝑇 =
𝑁𝑜𝑡𝑖𝑜𝑛𝑎𝑙 𝑑𝑒𝑟𝑖𝑣𝑎𝑡𝑖𝑣𝑒𝑡
Corporate tax avoidance
𝑇𝑜𝑡𝑎𝑙 𝑎𝑠𝑠𝑒𝑡𝑠𝑡−1
………………. (3)
Tax avoidance is the way of the firm to get the reduction of taxes legally by
utilizing dodges from the tax regulation in a country. Also, it is the form of tax
planning done by the firm before the duty of tax payment stands up. By following
Guenther (2014); Tang & Firth (2011), this study uses the book-tax difference
(BTD) as the measurement of tax avoidance. The formula of BTD, furthermore,
can get looked at in equation four.
𝐵𝑇𝐷 =
(𝐴𝑐𝑐𝑜𝑢𝑛𝑡𝑖𝑛𝑔 𝑝𝑟𝑜𝑓𝑖𝑡𝑠−𝑇𝑎𝑥𝑎𝑏𝑙𝑒 𝑝𝑟𝑜𝑓𝑖𝑡𝑠) 𝑡
(𝑇𝑜𝑡𝑎𝑙 𝑎𝑠𝑠𝑒𝑡𝑠)𝑡
Value relevance of earnings
=
(𝐶𝑜𝑚𝑚𝑒𝑟𝑐𝑖𝑎𝑙 𝑝𝑟𝑜𝑓𝑖𝑡𝑠 −
𝑇𝑎𝑥 𝑒𝑥𝑝𝑒𝑛𝑠𝑒
)
𝑇𝑎𝑥 𝑟𝑎𝑡𝑒
𝑡
(𝑇𝑜𝑡𝑎𝑙 𝑎𝑠𝑠𝑒𝑡𝑠)𝑡
…..(4)
Measurement of Value Relevance of Earnings (VRE) using Clean Surplus Theory
(Feltham & Ohlson, 1995). The Ohlson model is used to estimate firm value based
on the book value of equity plus the cash value of abnormal earnings. Value
relevance of earnings is measured by the ability of financial statement information
to capture various kinds of information that affect stock value. Ohlson (1995),
model and modification Botosan (1997); Utami (2006), to determine the value
relevance is calculated by the current book value plus expected earnings (which
comes from financial statements) minus the stock price.
rt = ( Bt + E (xt + 1) – Pt) / Pt
……………………………………...…(5)
The derivative transaction against earnings management
In their study, Devi & Efendi (2018) attempt to prove the derivative transaction as
the toll to manage profits. They explain that the company can fasten to recognize
the loss of speculative derivative transactions to postpone the realization of the
earnings. Similarly, Murwaningsari et al. (2015); Oktavia et al. (2019), find that
derivative transactions positively affect earnings management measured by
discretionary accrual. According to these explanations, we propose the first
hypothesis as follows.
H1: Derivative transactions have a positive effect on earnings management.
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The moderating effect of tax avoidance on the impact of the derivative
transaction on the tendency of the firms to manage profits
The results of the study Shackelford & Shevlin (2001); Erickson et al. (2004),
state that there is a tradeoff between tax aggressiveness and earnings
management. Tax avoidance is done by reducing profits so that tax payments are
low, earnings management is done by increasing profits and for this it cannot be
done simultaneously. In other words, the positive influence of CTA on managing
earnings will get reduced when firms comply with the tax regulation. According to
these explanations, we propose the second hypothesis as follows.
H2: Corporate tax avoidance weakens the effect of derivative transactions on
earnings management.
Earnings management against value relevance of earnings
The presentation of profit with a high accrual side in the recognition of expenses
and income will cause the value relevance of reported earnings to be low.
Conversely, the presentation of earnings with a small accrual side in terms of
revenue and expense recognition, will present real profit and make the value
relevance of earnings presented in the financial statements even higher. The
results of this study support Heshmat et al. (2015); Altintas et al. (2017), stating
that earnings management practices reduce the value relevance of earnings and
earnings management will be a negative signal for value relevance of earnings.
According to these explanations, we propose the third hypothesis as follows:
H3: Earnings management has a negative effect on the value relevance of
earnings
Derivative transactions against value relevance of earnings
Derivatives contain relevant value information and other studies linking VRE with
derivative instruments have been carried out, among others (Altintas et al., 2017;
Cheng & Li, 2014; Feltham & Pae, 2000; Habib, 2004; Marquardt & Wiedman,
2004; Mostafa, 2017; Tucker & Zarowin, 2006). A study on the effect of derivative
instruments on earnings management has also been conducted by
Murwaningsari et al. (2015), that there is a negative relationship between
financial derivatives and the value relevance of earnings using price and return
models. According to these explanations, we propose the forth hypothesis as
follows:
H4: Derivative transactions have a negative effect on the value relevance of
earnings
Research Method
Variable definition
This research uses two kinds of variables. Firstly, the dependent variable named
earnings management measured by the residual (ɛ1) of the modified model of
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Jaggi et al. 2009, in the first and second equation. Secondly, the dependent
variable named value relevance of earnings calculated by the current book value
plus expected earnings (sourced from financial statements) minus the stock price
in the fifth equation. Thirdly, the explaining variables consisting of derivative
transactions, tax avoidance, firm growth, firm size, audit quality and earnings
persistence.
To measure derivative transactions (TD), we use the ratio of the total
notional derivatives to the previous total assets based on the second
equation.
To calculate tax avoidance, we use the book-tax difference (BTD) by
mentioning the third equation.
To compute the firm growth and size, we use the total assets growing and
the natural logarithm of total assets.
To define the audit quality, we use the measure of big four public
accountant and others, and earnings persistence using the accrual qualitybased earnings persistence approach.
The population and sample
The population comes from the non-financial firms from 2013 to 2017 listed on
the capital market of Indonesia and Thailand. The samples get obtained by
purposive sampling with two criteria, i.e., the firms have to own the derivative
transaction and the complete financial statements (see the details in Table 1). To
obtain company data using derivatives or without derivatives, researchers read
the company's annual reports and examined them one by one and obtained 91
Indonesian companies and Thai companies.
Table 1
The process of getting the number of firms based on the criteria in the purposive
sampling method
Description/criteria
The firms from 2013 until 2017
The firms without DT
The firms with DT
The firms with DT and do not own
the financial reports completely
The firms with DT and have
financial reports completely
The number of non-financial firms in
Indonesia capital
Thai capital market
market
480
688
(437)
(585)
43
103
Total
firms
1,168
(1,022)
146
(0)
(55)
(55)
43
48
91
The method of analyzing data
Data analysis used Smart Partial Least Square (PLS) version 3.2.8. The structural
equation model is used to answer hypotheses 1 and 2, using the equations in
model 6 and answering hypotheses 3 and 4, using the equations in model 7. Two
structural equation models are stated as follows.
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EMit
VREit
= γ0+ γ1DTit + γ2DTit*CTAit + γ3FSit + γ4FGit + ɛ1it……….…….(6)
= γ0+ γ5DTit + β1EMit + γ6.EPit + γ7AQit + ɛ2it ………………….. (7)
Result and Discussion
This study employs 91 non-financial firms for 5 years; hence, 455 observations
(N) exist. Table 2 presents the statistics to describe the variables based on this
number, i.e., minimum, maximum, average, and standard deviation.
Derivative transactions (DT) measured by the ratio of the total notional
derivatives to the previous total assets have average, minimum, maximum,
and standard deviation 0.11248, 0.00000, 1.08830, and 0.17329,
individually.
Tax avoidance (CTA) measured by the book-tax difference has average,
minimum, maximum, and standard deviation of 0.01547, -0.33443,
0.84612, and 0.07611, correspondingly.
The residual of Jaggi et al. (2009) (EM) has average, minimum, maximum,
and standard deviation of 0.03909, 0.00019, 0.32591, and 0.03927,
respectively.
The residual of the modified model of Jaggi et al. (2009) (EM Modified) has
average, minimum, maximum, and standard deviation of 0.03893, 0.00003,
0.31670, and 0.03850, respectively.
The value relevance of earnings with Ohlson model (VRE) has average,
minimum, maximum, and standard deviation of 0.10008, -1.07863,
19.52482, and 1.59528, respectively.
Firm size (FZ) measured by the natural logarithm of total assets owns
average, minimum, maximum, and standard deviation of 20.68443,
16.89091, 23.80681, and 1.42097, one-to-one.
Firm growth measured by the total assets growing (FG) has average,
minimum, maximum, and standard deviation of 0.10761, -0.68899,
5.78647, and 0.39895, individually.
Audit quality measured by big four and other (AQ) owns average, minimum,
maximum, and standard deviation of 0.71868, 0.00000, 1.00000, and
0.45014, one-to-one.
Earnings persistence (EP) measured using the accrual quality-based
earnings persistence approach owns average, minimum, maximum, and
standard deviation of 0.0000, -0.31657, 0.42941, and 0.07042, one-to-one.
Table 2
Descriptive statistics
Variable
N
Average
Minimum
DT
CTA (BTD)
EM (Jaggi)
EM (Jaggi Modified)
VRE (Ohlson)
Firm Size (LNAsset)
455
455
455
455
455
455
0.11248
0.01547
0.03909
0.03893
0.10008
20.68443
0.00000
-0.33443
0.00019
0.00003
-1.07863
16.89091
Maximum
1.08830
0.84612
0.32591
0.31670
19.52482
23.80681
Std.
Deviation
0.17329
0.07611
0.03927
0.03850
1.59528
1.42097
520
Firm Growth (Aset)
455
0.10761
AQ (Big Four)
455
0.71868
EP (Residual)
455
0.00000
Source: Output of IBM SPSS 22
-0.68899
0.00000
-0.31657
5.78647
1.00000
0.42941
0.39895
0.45014
0.07042
The result of the regression model estimation
Table 3 shows the estimation result of the regression model. This model contains
two panel: panel A: estimation results of path coefficients related to hypothesis
testing 1 to 4 and panel B: estimation result of path coefficient related to direct
and indirect effect testing with Sobel Test. Moreover, to test the hypotheses
proposed, this study utilized the regression estimation in the model.
Tabel 3
The Estimation Result moderated by Earnings Management Jaggi Modified Model
EMit
= γ0+ γ1DTit + γ2DTit*CTAit + γ3FSit + γ4FGit + ɛ1it
VREit = γ0+ γ5DTit + β1EMit + γ6.EPit + γ7AQit + ɛ2it
Panel A. Estimation Results of Path Coefficients Related to Hypothesis Testing 1 to 4
Standard
Hypothesi
Causality
Path
t-statistic
Prob.
error
s
Relationship
Coefficient
1
DT EM
0.080
0.047
1.691
0.046
CTA EM
-0.129
0.051
2.538
0.006
2
CTA*DT EM
-0.085
0.048
1.776
0.038
FS EM
-0.107
0.049
2.181
0.015
FG EM
0.083
0.048
1.727
0.042
3
EM VRE
-0.156
0.050
3.150
0.001
4
DT VRE
-0.068
0.050
1.359
0.087
EP VRE
-0.141
0.054
2.593
0.005
KA VRE
-0.145
0.050
2.909
0.002
Panel B. Estimation Result of Path Coefficient Related to Direct and Indirect Effect Testing
with Sobel Test
Mediation
Multiply
Standar ZPath
Prob.
Standard
relationship:
path
d error
Coefficie
statist (2error
DT EM
coefficien
tailed)
nt
Sobel
ic
VRE
ts
DT EM
0.0800
0.0470
EM VRE
-0.0125
0.0087 1.438
0.1418
-0.1560
0.0500
4
Source: Modified Output of Smartpls 3.28
Tabel 4
Test Comparison of Jaggi versus Jaggi Modified
Hypothesis
1
-
Causality
Relationship
DT à EM
CTA à EM
All sample companies in Indonesia and
Path Coef.
Path Coef.
p-Values
Jaggi
Jaggi
Jaggi
Modified
0.088 0.031
**)
0.080
-0.141 0.005
-0.129
Thailand
p-Values
Jaggi Modified
0.046
0.006
**)
521
2
3
4
-
CTA*DT à EM
FS à EM
FG à EM
EM à VRE
DT à VRE
EP à VRE
KA à VRE
-0.093 0.033
**)
-0.106 0.018
**)
0.064 0.114
-0.158 0.001
***)
-0.067 0.086
*)
-0.143 0.003
***)
-0.146 0.003
***)
Direct and Indirect Effect Testing
-0.014 0.117
-0.085
-0.107
0.083
-0.156
-0.068
-0.141
-0.145
0.038
0.015
0.042
0.001
0.087
0.005
0.002
DT → EM → VRE
-0.013 0.142
Notes:
*** Significant at the level 1%; ** Significant at the level 5%; * Significant at the level 10%
Source: Modified Output of Smartpls 3.28
The result of the hypotheses testing
In table 3, the probability value of the t-statistic on the causal relationship of DT
to EM, CTA*DT to EM, EM to VRE, and DT to VRE, 0.046, 0.038, 0.001 and
0.087, respectively, are still below the level of significance by 10%. Based on these
conditions, hypothesis 1, derivative transactions has a positive effect on earnings
management, hypothesis 2, corporate tax avoidance weakens the effect of
derivative transactions on earnings management, hypothesis 3, earnings
management has a negative effect on value relevance of earnings, and hypothesis
4, derivative transactions has a negative effect on value relevance of earnings, is
accepted (Collins et al., 2017).
Related to the more influential test, direct derivative transactions on the value
relevance of earnings or through earnings management, given the probability
value (2-tailed) of the Z-statistic for the Sobel test of 0.1418 which is greater than
the significance level of 5%, So with these results it is stated that earnings
management does not mediate the effect of derivative transactions on the value
relevance of earnings. The direct effect of derivative transactions on value
relevance of earnings can be seen in the path coefficient of -0.068 (Table 3).
Meanwhile, the indirect effect is calculated from the multiplication between the
coefficient of the effect of derivative transactions on earnings management and
the coefficient of the effect of earnings management on the value relevance of
earnings. The coefficient of the influence of earnings management on value
relevance of earnings is -0.156. The coefficient of the effect of derivative
transactions on earnings management is 0.08. The product of the two is -0.156 x
0.08 = -0.012. The direct effect coefficient -0.068 is greater than the indirect effect
coefficient -0.012. Thus, what has a greater influence is the direct effect, namely
derivative transactions on the value relevance of earnings.
Based on the results of the sensitivity test in Table 4, the following explanation
can be given: First, the sensitivity test of replacing the earnings management
measure as a mediating variable with Jaggi's model also provides significant
results. With the sensitivity test, the results of derivative transactions on earnings
management remain significant at the 5% level, this result is consistent with the
modified Jaggi model test. Second, with a sensitivity test, corporate tax avoidance
weakens the effect of derivative transactions on earnings management. The
results are consistent with the modified Jaggi model test. Third, earnings
**)
**)
**)
***)
*)
***)
***)
522
management has a negative effect on the value relevance of earnings and the
results remain significant at the 1% level. Fourth, derivative transactions have a
negative effect on value relevance of earnings, the results remain equally
significant at the 10% level. Tests for direct and indirect effects also provide
consistent results where earnings management does not mediate the effect of
derivative transactions on value relevance of earnings. This result can be seen
from the two models with the single test showing insignificant results.
Discussion
Overall, the research model is a fit model because both of them have a significant
model together. It means that the model can be proven and supports the theories
used to build the model. In the estimation results of the structural equation
model with the residual of the Modified Jaggi model as a mediating variable, it is
evident that derivative transactions are a strong signal for the occurrence of
earnings management activities. These results support the rationale for signaling
theory Spence (1978), where it is proven that derivative transactions can be used
as a positive signal for earnings management activities. Activities that delay or
accelerate the recognition of profit or loss from derivative transactions can signal
positive earnings management. This research has strengthened this thinking.
Derivative transactions are very prone to being engineered so that actions related
to derivative transactions will be the concern of analysts to assess the potential
for earnings management that may occur. Taking into account the evidence of the
results of this study, of course, risk management is very important to be managed
properly by the issuer. This can be useful to avoid negative sentiment from the
market and analysts on derivative transaction activities carried out by issuers. In
line with the rationale of the agency theory from Jensen and Meckling (1976), that
managers as agents have performance contracts that must be achieved, so that
derivative transactions also have the potential to be part of a means of proving the
performance contracts. Responding to this condition, the principal or stakeholder
certainly hopes that the potential for earnings management does not occur as a
result of derivative transaction activities. It is necessary to manage risk
management to control the risk of derivative transactions carried out by the
company.
In the same model, it is proven that earnings management has a negative effect
on value relevance or earnings. Then derivative transactions have a negative effect
on value relevance or earnings. These results support the rationale for agency
theory from Jensen & Meckling (1976), in which agents are bound by contracts to
provide good performance for issuers. Efforts to achieve this achievement, agents
always try to maximize the potential and opportunities available to show good
performance. It's just that earnings management activities are still often used as
an effort to show their achievements. If this continues, it will certainly set a bad
precedent to achieve the value relevance of the earnings generated by the issuer.
Earnings management activities are proven to reduce the value relevance of
earnings in this study. In line with the thinking of signaling theory (Spence,
1978). Furthermore, derivative transactions have a negative impact on the value
relevance of the resulting earnings. It can be interpreted that derivative
transactions have information that is relevant to the income statement which is
presented in the financial statements. An insider who acts as a signaler, for the
523
benefit of all stakeholders, provides information that is in line with the reporting
of earnings in the financial statements.
Agents do have interests and contracts that must be achieved, so that if derivative
transactions are not presented in accordance with actual conditions, this will be
able to have a negative impact on the value relevance of earnings presented in the
financial statements. In line with Mashayekhi et al. (2013), at the stage of growth,
the revenue earned by the company is not stable because the company is in the
stage of expanding its market share and profits cannot reflect the condition of the
company's value and has no value relevance to share prices. At the mature stage,
the company is at a stable sales level and has the ability to generate higher profits
than the previous stage. Decline stage, the company experienced a decline in
sales so that the profits obtained were lower (Nozarpour & Norouzi, 2015). In the
stages of mature and decline earnings can be a good information and useful in
decision making. Earnings per share has value relevance to share prices at
mature and decline stages. Derivative transactions are influenced by currency
movements, interest rates and in a stable condition earnings volatility will also be
low, thus affecting earnings per share with implications for value relevance.
Fluctuate conditions will impact to the movement of currency and results in high
volatility in earnings. High earnings volatility tends to get a negative response
from investors and low value relevance. In accordance with the research Altintas
et al. (2017), there is a positive relationship between earnings and stock market
returns.
Conclusion and Recommendations
In general, there is a positive effect of
management and corporate tax avoidance
transactions on earnings management and
management and derivative transactions on
derivative transactions on earnings
is weaken to the effect of derivative
there is a negative effect on earnings
the value relevance of earnings.
Derivative transactions have a positive effect on earnings management.
These results provide an interpretation that derivative transactions are
followed by earnings management activities. Derivative transactions
themselves are intended to manage risk, but risk management is also
followed by earnings management activities. The results of this study
support the research of Murwaningsari et al. (2015), stated that derivatives
are positively related to discretionary accruals, where in their
implementation discretionary accruals are used in earnings management
mode. The measurement of earnings management in this study uses the
Jaggi model and the modified Jaggi model as the mediating variable. It can
be proven that the modified Jaggi model is better than the previous model,
the Jaggi model. It can be seen from the regression results that the adjusted
R square value for the modified Jaggi model is higher than the Jaggi model.
Net derivatives as a factor used for calculating the residual value further
sharpens the value of earnings management, thereby making the accrual
discretionary value on the modified Jaggi model more accurate.
Corporate tax avoidance weaken the effect of derivative transactions on
earnings management.
524
It can be interpreted that corporate tax avoidance activities are not related
to earnings management activities. Derivative transactions are used and
followed by earnings management activities, however corporate tax
avoidance activities are decreasing and companies continue to pay taxes in
accordance with applicable regulations. The results of the study are not in
line with Amidu & Yorke (2017); Donohoe (2015); Oktavia et al. (2019),
which states that financial derivatives are used as instruments to avoid
taxes. The results support the research (Shackelford & Shevlin (2001);
Erickson et al. (2004), that there is a tradeoff between tax aggressiveness
and earnings management. Tax avoidance is done by reducing profits so
that tax payments are low, earnings management is done by increasing
profits and for this it cannot be done simultaneously.
Earning management has a negative effect on the value relevance of
earnings.
The presentation of profit with a high accrual side in the recognition of
expenses and income will cause the value relevance of reported earnings to
be low. Conversely, the presentation of earnings with a small accrual side in
terms of revenue and expense recognition, will present real profit and make
the value relevance of earnings presented in the financial statements even
higher. The results of this study support Heshmat et al. (2015); Altintas et
al. (2017), stating that earnings management practices reduce the value
relevance of earnings and earnings management will be a negative signal for
value relevance of earnings.
Derivative transactions have a negative effect on the value relevance of
earnings.
One of the objectives of derivative transactions is to manage the risks faced
by listed companies, however, derivative transactions are prone to being
misused so that the value relevance of earnings decreases. As a result, the
level of investor confidence in the listed company decreases. The results of
this study support Murwaningsari et al. (2015) which states that there is a
negative relationship between financial derivatives and the value relevance
of earnings. Hairston & Brooks (2019) stated that there is still much room
for improvement in regulations related to derivatives and it is the duty of
managers to report derivative transactions with more complete, transparent
disclosures and disclosures related to the strategy of derivatives owned by
companies.
By referring to some research evidence, this study gives two suggestions. The first
is the practical ones, addressed to the leader and the members of the supervisory
board.
Firstly, the leader and the members of the supervising board need to strictly
monitor the manager's transaction in the derivatives by motivating them to
cover the firm position from risks through hedging to reduce earnings
management.
Secondly, the supervisory board has to encourage the managers to follow
the tax regulation because their obedience can reduce earnings
management that makes the firms trusted by the public shareholders.
The second is the academic suggestions for the next scholars to make some
improvements based on this study.
525
This research only utilizes firms with derivative transactions from two
countries. Hence, this study suggests the next scholars add the number of
countries with the capital market in Southeast Asia except for Timor-Leste
and Brunei. Furthermore, they can test the moderating variable based on
the occupied countries by the multi-group analysis.
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