Moderating role of board diligence on the relationship between board diversity and earnings management among selected listed firms in Kenya

Abstract

Board diversity as a component of corporate governance has gained popularity among corporate finance experts and practitioners. Although there has been extensive literature on the topic of corporate governance, few studies of this research have examined the influence of board diversity on earnings management. The study thus seeks to analyze how board diversity influences earnings management in Kenya. Specific objectives of the study were; to establish effect of directors’ experience, age, education, ethnic and gender diversity on earnings management. Although there are various theories related to board diversity, the current study was under pinned by agency theory, social identity theory as well as upper echelon theory. The study used both descriptive as well as explanatory research designs. The study targeted all the listed firms 63 at Nairobi security exchange. This research employed secondary data from companies listed in the NSE. The 48 firms used in the study are those that have continuously traded for a period of ten years from 2006 to 2015. Data was analyzed using STATA to determine regression. Multiple regression model assumptions were tested for conformance with the data, guaranteeing the reliability of the outcomes. In the selection of the appropriate method, Hausman test was done. The results supported the use of random effects GLS model. The findings of the study established that board diligence, education diversity (β =0.291) , experience diversity (β =0.153) and nationality diversity (β =0.208) portrayed not only a statistically significant but also a positive effect on earnings management in Kenyan listed firms (p<0.05). On the other hand, and gender diversity (β =-0.346, p<0.05) evidenced a statistically significant but a negative effect on earnings management. Finally, age diversity revealed a non-statistically significant influence on earnings management (p >0.05). Board Diligence positively moderated education diversity (β =0.0.967, p<0.05), nationality diversity (β =0.365, p<0.05) and gender diversity (β =0.047, p<0.05), while negatively moderated experience diversity(β =-0.322, p<0.05)and age diversity(β =-0.331, p<0.05) The overall squared (R 2 ) was at 52.8 %. The study had an overall significance of 0.0164 implying that all variables of interest were statistically significant in explaining earnings management of the selected listed firms in NSE. In conclusion, Earnings management has contributed to the demise of many institutions due to false or misleading financial statements. A diverse board is essential for reliable financial reporting and it is particularly important to ensure that variety of generations are represented on the board. Research has shown that having employees of varying ages has a beneficial effect on the way revenue is handled. The level of diligence displayed by the board of directors is also a significant moderating element. Companies should take these aspects into account when formulating standards on board diversity. Therefore, the current study recommends there is need for firms through their accounting bodies/unions to re-evaluate the principles that may sanitize the accounting procedures and circulate among directors who have been in the system for longer periods and have advanced in terms of their age. The study also recommends that there is a need to estimate the relationship further utilizing firm characteristics like the firm age and even leverage of the firm to see if it influences actions of the directors and the reports they provide. In addition, CMA need to lay out specific rules for how to incentivize managers including allowances that are based on merit, enforce their limitations on executive ownership of company stock and spelled-out procedures for trading between publicly traded firms and their affiliated businesses. Moreover, the study also suggests that executive remuneration be less aggressively tied to performance in order to avoid inducing managers to falsify reported earnings in order to boost their income, as its influence on company performance is considered to be overestimated. Additionally, policies should be put into place to reduce both education and ethnic diversities as they have a negative effect on earnings management. Finally, companies should ensure that gender balance is inculcated into the boards as gender diversity has a positive impact on the earnings management.