Impact of External Audit Quality on Earnings Management by Banking Firms: Evidence from Jordan

Purpose: The aim of this exploratory research is to test the prediction that external audit quality is positively associated with earnings management. Whilst the main significance it can help stakeholders predict earning management based on some proxies that are not publicly available in annual reports.

Design/Methodology/Approach: This study investigates the informative of audit quality for estimate in earning management (EM) during the period of (2006-2010) of Jordanian Banking Firms listed in Amman Stock Exchange (ASE). Some leading proxies taken based on audit quality; Audit tenure (AT), Audit fees (AF), and the affiliation with international big auditing firms (INT). Moreover, other controlling variables; Financial Leverage (FL), (Return on Assets) ROA, (Return on Equity) ROE, (Cash flow/Total assets) CFO, and EM already taken in the analysis. The population of the study includes examining (13) Jordanian working commercial Banks over a five year period, The author tested the effects of audit quality on earning management using the panel data methodology.

Findings: The paper finds that; (AT), (AF), and the (INT) have significant relations with earning management. It means, future earning management forecast is predictable based on audit quality leading indicators (AT, AFEE, and INT). In addition to company size, that is, when external auditing is conducted, earning management mitigates. Moreover, no relationship is found between Leverage, ROA, CFO, and Earning management.

Originality/Value: This research examines earning management forecast based on audit quality leading indicators (AT, AFEE, and INT) in addition to the company size. These groups; whether commercial banks, or audit quality indicators, have not been well researched in the past literature, especially in the Jordanian Banking Sector.