Flexibility and Manipulation: Earnings Management through Misclassification Practices in Egyptian Non-Financial Firms

Abstract

This study explores management manipulation practices that aims at misclassifying operating cash flows. Furthermore, this study investigates the key factors that may drive such behavior using the Generalized method of moments (GMM) regression model applying to non-financial companies listed on the Egyptian Stock Exchange (EGX) from 2015 to 2023. The findings reveal significant diversity in cash flow classification, with high liquidity and young age being key determinants of earnings management. Additionally, the analysis shows that earnings management is influenced by board structure, and that such reclassification is more prevalent in firms that have high levels of leverage and lower publicly ownership percentage. These results are further confirmed by robustness checks and support the accounting choices theory. This study provides unique and comprehensive insights into earnings management practices in Arab markets. The findings have valuable implications for standard setters, policymakers, regulators, creditors, and investors. Overall, the results highlight the need for accounting standards-setting bodies to reassess the advantages and disadvantages of the flexibility allowed under the Egyptian Accounting Standards for non-financial firms, and its impact on the quality and comparability of accounting reports.