Personal Moral Philosophies and Ethical Judgment of Earnings

Management: Credit Analysts Perspective

Ahmad Subeki, Agil Novriansa, Tertiarto Wahyudi, Yusnaini, Aryanto

Department of Accounting, Faculty of Economics, Universitas Sriwijaya, Palembang, Indonesia

Keywords: Personal Moral Philosophies, Ethical Judgments, Earnings Management, Credit Analyst

Abstract: Previous study shows that personal moral philosophies can explain the difference in ethical judgments. This

study aims to empirically examine the relationship between personal moral philosophies and ethical

judgments of earnings management practice from non-shareholder perspective, i.e. credit analyst. Survey

method is used in this study, in which, questionnaire delivered to bank employee of credit analyst section

through hand-delivered survey and online survey. Based on the data analysis of 52 samples using

independent sample t-test, the results show that credit analysts with idealism judge earnings management

practices more firm (as unethical practices) compared to credit analysts with relativism. But, there is no

statistically difference in ethical judgments of earnings management practices between credit analysts with

idealism and relativism. These findings serve as an important external validity evidence on the phenomena

associated with personal moral philosophies and earnings management, especially ethical judgment of

earnings management by credit analyst perspective.

1 INTRODUCTION

Earnings management is an action that is still in

the "gray area” in terms of perceived transparency

and intended purpose of the action (Ronen and

Yaari, 2008 as cited in Johnson et al., 2012). The

ambiguity of earnings management purposes that are

classified as "gray area" can cause potential ethical

problems (Davis-Friday & Frecka, 2002; Johnson et

al., 2012). Fischer & Rosenzweig (1995) state that

earnings managements is a topic that has ethical

ambiguity related to its practice. Some managers

may view earnings management practices as

legitimate and useful managerial tools to fulfill their

responsibilities in maximizing shareholders profits

(Fischer & Rosenzweig, 1995). However, other

parties view earnings management as a practice of

deviation that can mislead financial statement users

(Fischer & Rosenzweig, 1995). The study results of

(Puspawati, Ariani, & Abas (2018) show that

individual moral have an impact on the earnings

management ethical judgment that made by

managers.

The differences in individual ethical judgments

can be explained by personal moral philosophies

(Barnett, Bass, & Brown, 1994). There are four

dimensions of personal moral philosophies, namely

situationists, subjectivists, absolutists, and

exceptionists (Forsyth, 1980). Each individual in

each of these dimensions has different

characteristics in providing ethical judgments.

Forsyth (1981, 1985) and Barnett et al. (1994) state

that personal moral philosophies that are owned by

individuals are related to the ethical judgments they

give.

The study on the relationship between personal

moral philosophies and ethical judgment has done

quite a lot before. Forsyth (1981) examine the

relationship between moral judgment and ethical

ideology in a non-business context. Forsyth (1981)

used the experimental method with a sample of

psychology students. Students were asked to

complete the Ethics Position Questionnaire (EPQ) in

which the results will determine their personal moral

philosophies position. Further, they were asked to

give a moral judgment of the scenario which

describing the extent to which a person was

responsible for some events that result a positive or

negative consequences. The results of Forsyth

(1981) study show that absolutists judged the actors

more firmly than exceptionists for the actions which

Subeki, A., Novriansa, A., Wahyudi, T., Yusnaini, . and Aryanto, .

Personal Moral Philosophies and Ethical Judgment of Earnings Management: Credit Analysts Perspective.

DOI: 10.5220/0008443406370644

In Proceedings of the 4th Sriwijaya Economics, Accounting, and Business Conference (SEABC 2018), pages 637-644

ISBN: 978-989-758-387-2

637

lead to negative consequences, while relativists tend

to be more moderate in providing ethical judgment.

Barnett et al. (1994) also examine the

relationship between personal moral philosophies

and ethical judgment relating to ethical issues in

business. The sample in his study was 166 business

class students. The result of his study shows that

personal moral philosophies of individual are

significantly related to differences in their judgment

about business ethics. The results of his study are

also consistent with previous study, which states that

individual who have high idealism tend to provide

firm ethical judgment. Barnett et al. (1994) states

that the influence of personal moral philosophies on

ethical judgment will be greater when an action is

considered by the individual as a very unethical

action compared to actions considered as ethical

action. However, Barnett et al. (1994) suggests that

further researchers need to pay more attention to this

problem. This study responds the suggestions from

Barnett et al. (1994).

This study examines the relationship between

personal moral philosophies and ethical judgment by

using more specific ethical issues. This study takes

the topic of ethical judgment in the practice of

earnings management. The collapse of large

companies such as Enron, WorldCom, and Sunbeam

caused by earnings management practice which

carried out by company management over several

financial reporting periods made the phenomenon of

earnings management increasingly investigated by

researchers in the field of accounting. The earnings

management phenomenon had become a major

concern for the accounting profession, investors, and

other users of financial statements (Belski, Beams,

& Brozovsky, 2008; Elias, 2002).

The study about the relationship between

personal moral philosophies and ethical judgment of

earnings management practices had been done

previously by Elias (2002) and Greenfield et al.

(2008). Elias (2002) examines the ethical perception

of practitioner accountants; accounting academician

and students related to earnings management

practices. The results of Elias (2002) show that

students are the most firm group in providing ethical

judgments on manipulation of income operations

while accountant practitioners in industry are the

most tolerant group. For accounting manipulation,

students are the most tolerant group in providing

ethical judgments while academician are the most

firmly group. In general, accountant practitioners in

public accountants and industry are groups that

provide the most tolerant ethical judgments of

earnings management practice (Elias, 2002).

Greenfield et al. (2008) examine the impact of

ethical orientation (idealism and relativism) and

professional commitment to earnings management

practice by conducted a survey of 375 undergraduate

business students. The results of his study show that

participants who scored higher (lower) on idealism

(relativism) showed a lower (higher) tendency to

engage in earnings management behavior.

This study empirically examines the relationship

between personal moral philosophies and ethical

judgments of earnings management practice from

different ethical judgments perspectives. Elias

(2002) and Greenfield et al. (2008) use practitioner

accountants, accounting academician, and

accounting students perspectives, while this study

used a non-shareholder perspective, i.e. credit

analyst. Non-shareholders (credit analyst) are

external parties of the company as well as users of

financial statements so that their ethical judgment

can affect the company. Kaplan (2001) states that

non-shareholder ethical judgment on earnings

management practice will be very important for

managers, companies, and policy makers. If

earnings management is considered as an unethical

practice by credit analyst, the bank or lending

institution will not trust to provide loans for

company.

Kaplan (2001) examines the non-shareholder

ethical judgment on the practice of earnings

management by using the experimental method and

samples of master students who act as non-

shareholders. The difference of this study with

Kaplan (2001) is this study used field survey method

with a sample of non-shareholders, namely bank

employee of the credit analyst section who use

financial statements for lending analysis. The survey

method in the study of ethical judgment of earnings

management practice has also been carried out by

previous study, namely Bruns & Merchant (1990);

Elias (2002, 2004); Greenfield et al. (2008);

Merchant & Rockness (1994); Rosenzweig &

Fischer (1994); Shafer (2015).

This study serves an important external validity

evidence on the phenomena associated with personal

moral philosophies and earnings management,

especially ethical judgment of earnings management

by external users of financial statements i.e. non-

shareholders. This study provides empirical results

about the personal moral philosophies of non-

shareholders (namely credit analyst) in making

ethical judgment on earnings management practices.

SEABC 2018 - 4th Sriwijaya Economics, Accounting, and Business Conference

638

2 LITERATURE REVIEW

2.1 Kohlberg’s Theory of Cognitive

Moral Development

Cognitive moral development (CMD) was

introduced by Lawrence Kohlberg in 1969.

Kohlberg proposed three levels of individual moral

development consisting of pre-conventional levels,

conventional levels, and post-conventional levels

(Abdolmohammadi & Sultan, 2002). Kohlberg's

theory of the CMD model predicts individual

progress throughout life from a lower stage to a

higher stage according to his moral tendencies and

developments (Abdolmohammadi & Sultan, 2002).

Kohlberg's CMD model has been widely used to

estimate individual moral maturity based on their

response to several ethical dilemmas. Mcphail &

Walters (2009) states that CMD model from

Kohlberg had been applied to accounting students,

accounting practitioners at various career levels,

students studying various disciplines, and

practitioners from various professions.

2.2 Earnings Management

Earnings management is defined as the actions of

a manager that increases (decreases) the reported

profit currently from a division unit in which the

manager is responsible for it without making an

increase (decrease) in accordance with the long-term

economic profitability of the division unit (Fischer

& Rosenzweig, 1995). Earnings management occurs

when managers use valuations in financial

statements and in structuring transactions to change

financial statements, with the intention to mislead

some stakeholders about the economic performance

of companies or to influence the outcome of the

contract which depends on the amount of accounting

reported (Healy & Wahlen, 1999). Managers can do

earnings management through their choice of

accounting policies, accounting judgment, timing, or

operating decision choices (Merchant & Rockness,

1994).

2.3 Personal Moral Philosophies

Personal moral philosophies are the extent to

which a person is relativism or idealism (Elias,

2002). Relativism is described as the extent to which

individuals reject universal moral rules (Forsyth,

1980). Individuals who have high relativism

generally feel that moral action depends on the

nature of the situation and the individuals involved,

while individuals who have low relativism argue

that morality requires acting in a way that is

consistent with moral principles, norms, or law

(Forsyth, 1992). Idealism is described as an

individual's attention to the extent to which the

consequences of an action can affect the welfare of

others (Forsyth, 1980). Individuals with high

idealism feel that actions that can harm others must

always be avoided, while individuals with low

idealism are more likely to think that losses will

sometimes be needed to produce something good

(Forsyth, 1992).

2.4 Hypothesis Development

Earnings management is a practice that still has

ethical ambiguity. Ethical interpretation of earnings

management actions will tend to be egocentric

interpretation, i.e. individuals who are involved in or

feel benefited from earnings management actions

will tend to judge the action more ethically than

individuals who are not involved or not benefited

from such actions (Kaplan, 2001). Personal moral

philosophies that are owned by individuals are

related to ethical judgments that they will give

(Barnett et al., 1994; Forsyth, 1981, 1985).

Individuals with high idealism will provide a more

firmly ethical judgment of the actions that resulted

ethical or ambiguous consequences ethically,

meanwhile individual with high relativism will

provide will provide ethical judgments that are more

tolerant in assessing individuals who violate moral

norms or actions that are ambiguous ethically (Elias,

2002; Forsyth, 1992).

Non-shareholders are parties who do not have a

direct relationship with the company. In the credit

analyst perspective as non-shareholders, credit

analysts have an interest in the financial statements

when making decisions to give credit for company.

Credit analysts usually use financial statement to

analyze the prospective of debtors. When assessing

financial statements of company, credit analysts will

tend to have caution because if the credit decision

was made wrong then they have the risk of not

getting a loan return. These risks can affect ethical

judgment of credit analyst. The ethical judgment of

earnings management from credit analyst

perspective will be based on the universal moral

principles that they believe and their views of

consequences that will occur from those actions.

Credit analyst with idealism will judge earnings

management practices more firmly than credit

analyst with relativism. Credit analysts with

Personal Moral Philosophies and Ethical Judgment of Earnings Management: Credit Analysts Perspective

639

idealism will view earnings management practices

as unethical actions because these actions produce

negative consequences while credit analysts with

relativism will view earnings management practices

as ethical actions because the responsibility of

manager is basically to maximize shareholder profits

regardless of whatever method is used by the

manager. The hypothesis of this study stated that:

: credit analyst with idealism will judge

earnings management practices more firmly

than credit analyst with relativism.

3 METHODS

This study uses survey method with

questionnaire. The sample in this study is bank

employee of the credit analyst section. Credit

analysts are chosen as a sample of non-shareholders

because credit analysts are external parties of

companies that use financial statements for analysis

in determining loan decisions. This study uses

snowball sampling method in selecting its study

sample. Data collection of this study is conducted by

hand-delivered survey and online survey. Hand-

delivered survey is conducted by distributing

questionnaire to several bank credit analysts in

Palembang, while online survey is conducted by

giving online questionnaire links to several credit

analysts through social media application.

Personal moral philosophies are measured using

the Ethics Position Questionnaire (EPQ) developed

by (Forsyth, 1980). EPQ assesses personal moral

philosophies by asking individuals to show their

level of acceptance of items that vary in terms of

relativism and idealism (Forsyth, 1992). The EPQ

contains 20 statements consisting of 10 statements

about idealism and 10 statements about relativism

(Forsyth, 1980). Respondents are asked to indicate

their level of agreement or disagreement on a nine-

point Likert scale (1 = strongly disagree to 9 =

strongly agree) on each statement, and the average

score of their response to the idealism item and the

average score of their response to relativism items

are made as their two EPQ scores (Forsyth, 1980).

Earnings management are measured using

thirteen earnings management scenarios used in

Elias (2002). The scenario consists of six scenarios

regarding operation manipulation and seven

scenarios regarding accounting manipulation,

respondents are asked to play the role of supervisors

of managers involved in earnings management

actions (Elias, 2002). Each respondent in each group

is asked to give their ethical judgment of earnings

management scenarios using a five-point Likert

scale (1 = ethical practice to 5 = very unethical)

(Elias, 2002).

4 FINDINGS

Based on the hand-delivered and online survey,

the numbers of samples obtained are 54 samples of

credit analysts, but 2 samples are excluded because

they had never read financial statements. The

amount of final sample analyzed in this study is 52

samples. Most of the non-shareholder samples in

this study are bank credit analysts who have read the

financial statements (100%) and used financial

statements in making a decision to give credit

(98%). This indicated that the sample of non-

shareholders in this study used financial statements

in carrying out their work. Most of the non-

shareholder samples in this study are male (54%),

age 20-30 years old (75%), and had working

experience as credit analyst for less than 5 years

(67%) and 5-10 years (25%).

The personal moral philosophies and earnings

management instrument in this study has been tested

and validated. The results of reliability test using

Cronbach's Alpha statistical test shows that personal

moral philosophies instrument has Cronbach’s

Alpha value of 0.834, while earnings management

instrument has Cronbach’s Alpha value of 0.886.

These results show that personal moral philosophies

and earnings management variables in this study

have a good reliability.

Respondents in this study are classified into two

dimensions of personal moral philosophies based on

their EPQ answer, i.e. idealism and relativism. The

average score of their response to 10 items of

idealism statements and 10 items of relativism

statements were compared. If the respondent has a

higher average score of idealism compared to the

average score of relativism, then the respondent will

be classified into idealism, and vice versa. Based on

the personal moral philosophies criteria, the credit

analyst samples in this study are divided into 38

respondents in idealism dimension and 14

respondents in relativism dimension. Respondents in

each group give their ethical judgment of earnings

management using the scale that consists of: (1)

ethical practices; (2) questionable practice. I will not

say anything to the manager, but it makes me feel

uncomfortable; (3) minor violation. Managers must

be warned not to engage in practices like this again;

SEABC 2018 - 4th Sriwijaya Economics, Accounting, and Business Conference

640

(4) gross violation. Managers must be given a strong

reprimand; (5) very unethical practices. The

manager must be fired.

The hypothesis of this study stated that credit

analyst with idealism will judge earnings

management practices more firmly than credit

analyst with relativism. Independent sample t-test

will be used to test this hypothesis. Table 2 presents

the group statistic sample of credit analysts in this

study.

Table 1: Group Statistics

Based on Table 1, it can be seen that the mean

value of earnings management ethical judgments of

credit analysts with idealism is 3.0102, while credit

analysts with relativism is 2.7472. It is clear that the

average score of earnings management ethical

judgments of credit analysts of both groups are very

distinct. Based on the average score in Table 1, it

can be seen that credit analysts with idealism judge

earnings management practices more firm (as

unethical practices) compared to credit analysts with

relativism. However, the difference of average score

should be statistically proven through independent

sample t-test. Table 2 presents the results of

independent sample t-test of this study.

Table 2: The Results of Independent Sample t-test

Earnings Management

Equal

Variances

Assumed

Equal Variances

Not Assumed

Levene’s Test for

Equality of

Variances

t-test for Equality

of Means

Sig.

Sig. (2-tailed)

Mean Difference

Std. Error Difference

95% Confidence Interval of the

Differences

Lower

Upper

0.779

0.382

1.079

0.286

0.263

0.244

-0.227

0.753

0.938

18.483

0.360

0.263

0.280

-0.325

0.851

Table 2 shows that the value of F

statistic

from

Levene’s test is 0.779 with significance level of

0.382 (significance value > 0.05), it can be

concluded that H

cannot be rejected which means

that the population variance of ethical judgments of

earnings management between credit analysts group

with idealism and credit analysts group with

relativism was the same. These results indicated that

the analysis of independent sample t-test of this

study must use the assumption of equal variances

assumed. Based on Table 2, it can be seen that the

value of t

statistic

at equal variances assumed is 1.079

with a significance value of 0.286 (significance

value > 0.05).These results indicated that the

hypothesis of this study is not supported, which

means that there is no statistically difference in the

ethical judgments of earnings management between

credit analysts with idealism and credit analysts with

relativism.

The logical explanation for unsupported results

of this study is that credit analysts do not rely too

much on financial statements in making lending

decisions to companies. Financial statements of

companies are not the main basic determinant of

lending decisions made by credit analysts. There is a

risk that the money lent does not return, so the credit

analysis is very careful in assessing companies that

will become prospective debtors. There are many

aspects and information needed by credit analysts in

assessing prospective debtors. Credit analysts

usually carry out a feasibility study of prospective

debtor to assess the feasibility of company from

financial, macroeconomic, and social aspects. Credit

analysts also check the information of prospective

debtor companies to the central bank, suppliers, and

customers. In addition, the credit analyst also checks

Personal Moral Philosophies

Mean

Std. Deviation

Earnings

Management

Idealism

Relativism

3.0102

2.7472

0.707

0.957

Personal Moral Philosophies and Ethical Judgment of Earnings Management: Credit Analysts Perspective

641

the legal aspects of the prospective debtor company

and its compliance with various regulations.

The many aspects and information used by credit

analysts in making lending decisions caused there is

no difference in ethical judgments about earnings

management between credit analysts with idealism

and relativism. Credit analysts as non-shareholders

and external users of financial statements tend to

provide the same ethical judgment of earnings

management practices. Credit analysts in both

dimensions of personal moral philosophies tend to

judge the practice of earnings management as a

questionable practice or minor violation. This study

results support the results of Kaplan (2001). The

results of Kaplan (2001) study show that ethical

judgment of non-shareholder on the acceptance of

ethical earnings management was not influenced by

the intent or purpose of earnings management.

Based on the credit analyst perspectives,

earnings management practice did not have an

impact or did not provide direct benefits to credit

analysts so that they tend to give moderate ethical

judgment of earnings management. These results

supported Kaplan (2001) statement which explains

that ethical judgment of earnings management

practices will tend to be egocentric interpretation,

i.e. individuals who are involved in or feel benefited

from the practice of earnings management will tend

to judge the practice as more ethical than individuals

who are not involved or not benefited from the

practice.

4.1 Additional Analysis

This study carries out additional analysis to test

the ethical judgment of earnings management from

credit analysts by gender. The study sample

consisted of 28 male and 24 female. Based on the

independent sample t-test, the mean value of

earnings management ethical judgments of male

credit analysts is 2.876, while female credit analysts

is 3.013. The value of t

statistic

at equal variances

assumed is -0.624 with a significance value of 0.535

(significance value > 0.05). These results indicated

that there is no statistically difference in the ethical

judgments of earnings management between male

credit analysts and female credit analysts.

5 CONCLUSION

Ethical judgment of earnings management

practices still does not have a clear consensus. Some

individuals may judge earnings management

practice as an ethical practice, while some others

will judge it as unethical practice. This study

empirically examines ethical judgment of earnings

management practices from non-shareholder

perspective, namely credit analysts. This study

examined earnings management ethical judgment

from credit analysts based on their personal moral

philosophies. The results of analysis in this study

indicated that there is no statistically difference in

the ethical judgments of earnings management

between credit analysts with idealism and relativism.

Credit analysts in both dimensions of personal moral

philosophies tend to give moderate ethical judgment

of earnings management. This study result supports

the notion of egocentric interpretations or self-

interested interpretations in ethical judgment related

earnings management practices.

There is a limitation of this study so that the

interpretation of the results needs to consider it. This

study used survey method but the number of

samples in this study was quite small. The future

research needs to consider the number of samples

when do the same topic research with this study.

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APPENDIX

Earnings Management Questionnaire (Adopted from

Elias (2002))

Indicate your judgment as the acceptance of the

following scenario as a supervisor from division's

general manager. Please read each statement

carefully. Then state your judgment by giving a

number, where:

1 = ethical practice

2 = the questionable practice. I will not say

anything to the manager, but it makes me feel

uncomfortable.

3 = minor violation. Managers must be warned

not to engage in practices like this again.

4 = gross violation. Managers must be given a

strong reprimand.

5 = very unethical. The manager must be fired.

Operating Manipulations

1. Expenditures that were originally planned for

next year were raised this year because current

year profits have exceeded the budget.

2. Delay unnecessary expenses so that divisions can

meet the current budgeted profit targets. Delays

from February and March to April to meet

quarterly targets.

3. Delay unnecessary expenses so that divisions can

meet the current budgeted profit targets. Delays

from November and December to January to

meet annual targets.

4. Offering looser sales requirements at the end of

the year to attract sales next year in order to meet

this year's sales target.

5. Order the manufacturing division to work

overtime to deliver all possible items at the end

of the year.

6. Selling some excess assets and realizing profits.

Accounting Manipulations

1. Do not record inventory received in December to

February.

2. Because the division's profit target has exceeded

for the current year, the manager orders to record

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prepaid expenses next year as expenses for the

current year.

3. Because the division's profit target has exceeded

for the current year, the manager ordered to

remove inventory that he knew could be sold in

the future at full price.

4. (continued statement no. 3) The following year,

customers buy inventory that has been written

off. The manager reverses previous write-offs,

with the aim of being able to continue to work on

development projects that may have been

delayed due to budget constraints.

5. (continued statement no. 3) The following year,

customers buy inventory that has been written

off. The manager reverses the previous write-off,

in order to achieve the profit target.

6. To achieve the profit target, the manager asks a

consulting firm, which is currently working on

its division, not to send the bill until next year.

The amount of the bill is not material.

7. To achieve the profit target, the manager asks a

consulting company that is currently working on

its division, not to send the bills until next year.

The amount of the bill is material.

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