Does Good Corporate Governance Constrain Cash Flow Manipulation? Evidence from India

Abstract

Purpose – We examine whether firm-level corporate governance measures and regulatory reforms constrain manipulation of operating cash flows, an important firm performance indicator.

Design/methodology/approach – Our sample comprises of firms from an emerging market, India with data from 2005-2011. We use the methodology given in Lee (2012) and multiple regressions.

Findings – We find that cash flow manipulation is likely to increase with an increase in the controlling ownership. Further, board diligence and better audit fail to curb such manipulation. However, we do find that such manipulation has gone down in the recent years, and diligent boards constrain it, possibly due to the recent steps taken by the Indian Government for improving the corporate governance environment in India.

Practical implications – Our findings can act as feedback for the regulators and policy makers. Potential investors and analysts may also benefit from our study; since they can be more vigilant about the firms’ cash flow manipulation practices and demand better governance.

Originality/value – Our findings suggests that good corporate governance makes managers substitute earnings management with cash flow manipulation.

Keywords: Big four auditor, Cash flow manipulation, Corporate governance, Operating cash flows, Ownership structure

JEL Classification: M41, G32, G34