Investigating earnings management within Maltese limited companies

Abstract

This study aims (i) to assess the prevalence of Earnings Management among non-financial Maltese Listed Entities; (ii) to explore the underlying motivations and drivers that give rise to such practices; and (iii) to investigate the methods and techniques currently employed by the auditee or auditor to prevent or detect Earnings Management within Maltese Listed Entities. A sequential two-phase explanatory mixed-methods approach was employed: first, the accrual-based model was applied to assess the presence of Earnings Management, followed by 20 semi-structured interviews with Audit Partners and Chief Financial Officers. While Earnings Management sector-specific behaviours were observed, no statistically significant differences in the distribution of Earnings Management across sectors were found, suggesting overall consistency. Despite its presence, Earnings Management remains ambiguous, with diverse interpretations creating opportunities for exploitation. The principles-based nature of IFRS facilitates Earnings Management, allowing subjective judgment to serve managerial interests. Motivations for the practice include company-level capital pressures and contractual obligations, with auditors seen as key deterrents owing to their commitment to professional standards. While current preventative measures are effective, the study calls for stronger scrutiny of management and auditors. It also highlights opportunities for local regulatory bodies to enhance consistency and depth in their approach to addressing complex Earnings Management techniques. Lastly, External Auditors face challenges such as quality gaps between Big 4 and non-Big 4 firms, and client resistance during efforts to detect Earnings Management. The study has sought to understand the Earnings Management phenomenon within the Maltese context, given its negative implications on Financial Reporting.