Earnings Management and Corporate Social Responsibility: Evidence from Islamic Banks in GCC

Abstract

The previous literature has drawn attention to the relationship between the financial reporting quality which measured by earnings management (EM) practices and commitment to social accountability or corporate social responsibility (CSR).As far as we know-no evidence about this association regarding to Islamic banking context which characterised by ethical; moral commitment and social accountability.Empirical evidence, however, provides inconclusive results regarding the direction of this association.Using simultaneous equations and longitudinal panel data analysis, we examine the bi-directional EM-CSRD relationship for 29 Islamic banks across Gulf Cooperation Council (GCC) region during 5 years (2012-2016).We demonstrate that, bi-directional EM-CSRD association is not significant.The insignificant findings between EM and CSRD suggest that social reporting for Islamic banks is not being manipulated to cover their EM practices.We provide implications for investors, analysts and regulators Key words-Earnings management (EM), corporate social responsibility disclosure (CSRD), Bi-directional association; Islamic banks, GCC contains universal as well as Islamic items which has been used in CSR research (e.g., Belal et al., 2014).We measure EM by using accruals and Cash flow from operations as a proxy for capturing bank managers' discretionary decisions to manipulate earnings.We choose these measures over the alternative, the restatement and fraud choices approach, since it is apparently more difficult to determine discretionary choices if the latter is used (Beatty et al., 2002).This study is motivated by several factors.First; the main sizeable body of research related to Islamic banking has explained the general Islamic principles (Siddiqui, 2006); have discussed regulatory and supervisory challenges (Jobst and Andreas, 2007), efficiency (Belanes and Hassiki, 2012), characteristics and profitability (Beck et al., 2013), soundness, resilience and financial stability of Islamic banks during the global financial crisis (Caby and Boumediene, 2013), while rare studies measuring EM.Secondly; Grougiou et al (2014) state that their findings cannot be generalized since the sample is country-specific.They recommend that future research could explore the bi-directional CSR-EM relationship using cross-country data provided.Moreover; the potential effects of different cultural, legal, institutional and accounting traditions could be adequately controlled (Kim et al., 2012).The paper is motivated by rare literature that measuring EM for Islamic banks generally and association between EM and CSRD particularly.The majority of literature related to EM focus mainly on developed countries as well as conventional banks (e.g., Katmon & Farooque, 2015; Gopinath Arun et al., 2015), while just rare studies measuring EM based on Islamic banks' data (e.g., Quttainah et al., 2013).Consequently, we motivated to fills these gaps through measuring EM as well as association between EM and CSRD regarding to Islamic banks.A comparatively contemporary stream of the literature has shown extensive interest in understanding whether corporate commitment to CSR practices plays a role in the quality of financial reporting and vice versa (Scholtens & Kang, 2013).However, little emphasis has been placed upon investigating this bi-directional relationship in the case of the influential banking sector generally and Islamic banking sector specially.Moreover; the compound annual growth rate for Islamic banking is expected to be higher than 20% for the next 5 years (Hamdi and Zarai, 2012).Hence, understanding the EM behaviours of Islamic banks is of considerable significance and interest to regulators and investors.We are motivated by