The Effect of Nonaudit Fees and Family Owned Businesses on Earnings Management in the Indian Industry

Abstract

This paper extends the findings of Frankel, Johnson, and Nelson (2002) by providing empirical evidence on the relation between nonaudit fees and earnings management for a sample of Indian firms. In addition, we investigate whether there is a greater incidence of earnings management in family owned firms versus non family owned firms. Our tests are motivated by concerns about decreasing auditor independence due to a greater economic bond between the firm and the auditor in the presence of nonaudit fees. These concerns are reflected by the SEC, who issued auditor independence rules in November 2000 that required firms to file proxy statements on or after February 5, 2001 that disclose the amount of total audit fees paid along with a breakdown between audit fees and nonaudit fees. We find a positive association between nonaudit fees and the magnitude of absolute discretionary accruals. We also find a positive association between family owned firms and the magnitude of discretionary accruals.

Keywords: nonaudit fees, family business, earnings management, India

JEL Classification: K22, L5, M4, O53