EXAMPELS CONDITIONAL SENTENCE IF ( TUGAS BAHASA INGGRIS BISNIS 2 )

Examples :
Conditional Sentence IF type I :
I will fix your bicycle if I have a screwdriver of the proper size.
Jack will shave today if he has sharp razor.

Conditional Sentence IF type II :
If I had enough time now, I would write to my parents.
Fact : I do not have enough time now, so I do not write to my parents.
He would not come to your party if you did not invite him.
Fact : he will come to your party, because you invite him.

Conditional Sentence IF type III :
If you had told me about the problem, I would have helped you.
Fact : You did not tell me about the problem, so I did not help you.
I would not have got wet yesterday if I had remembered to take umbrella with me yesterday.
Fact : I got wet, because I did not remember to take my umbrella with me yesterday.

NOTE :
In writing conditional sentences if, we may put the “IF CLAUSE” before the “RESULT CLAUSE” and vice versa.
However, we must put comma (,) at the end of the “RESULT CLAUSE” if the “IF CLAUSE” is put before the “RESULT CLAUSE”.
Also, the meaning of the fact must be on the contrary with the conditional sentence if. So, if the conditional sentence if is in positive form, the fact will be in negative one and vice versa.

The Effect of Cognitive Style and Sponsorship Bias on the Treatment of Opportunity Costs in Resources Allocation Decisions (Bahasa Inggris Bisnis 2)

The Effect of Cognitive Style and Sponsorship Bias on the

Treatment of Opportunity Costs in Resources Allocation Decisions

H. Alfian

(Fakultas Ekonomi Universitas Lambung Mangkurat, Banjarmasin)

ABSTRACT

The current research seeks to identify factors that may potentially influence the way managers respond to opportunity costs when relevant data are not explicitly provided. Identification of such factors should enhance our understanding of why some managers respond to opportunity costs in ways that may be inconsistent with normative economic theory. This information could then be used to identify those situations in which structural and procedural precautions are necessary to correct limitations and biases in human information processing and so ensure the correct treatment of opportunity costs.

Disability of individual processes of perception dimension of Jungs’ typology on research of Chenhall & Morris (1991) to explain difference of managers’ way to making decision, lead us to research questions are: first, which cognitive style combination have a proclivity to incorporate implicit opportunity costs in their economic analysis? Second, used of two dimensions of cognitive style, will project sponsorship encourage managers to ignore negative economic signals derived from opportunity costs that are nevertheless relevant to the resource allocation decision?

A laboratory experiment with 2x4 factorial designs was used to investigating the effect of cognitive style on the managers’ decision of opportunity costs in situation of absence sponsorship or not. The results indicated that intuitive managers tended to incorporate opportunity costs in their decisions whereas sensation individuals appeared to focus more on the directness of the relationship between expenditure and a project to determine the relevance of the cost. Opportunity cost implications tended not to be identified by the sensation group. Evidence was found that sponsorship moderated the influence of cognitive style on decision to include opportunity costs.

Keywords: Cognitive style, sponsorship bias, and opportunity cost

1. INTRODUCTION

The incorporation of opportunity costs into resources allocation decisions is stressed in normative approaches to both management accounting (Horngren & Foster, 1987) and capital budgeting (Brealy & Myers, 1984). However, empirical evidence on the way managers respond to opportunity costs has revealed a variety of behaviours. Some studies have demonstrated that managers do include opportunity costs (Neumann & Friedman, 1978; Friedman & Neumann, 1980), while others have questioned whether decision makers correctly include the concept in their resources allocation decisions (Becker et al., 1974; Buzzell & Chussil, 1985; Northcraft & Wolf, 1984; Kaplan, 1986). Several studies have demonstrated that decision makers tend to include opportunity cost data only when explicitly provided (Friedman & Neumann, 1980; Northcraft & Neale, 1986). However, research on decision making in organizations indicates that managers frequently lack knowledge about alternatives (March, 1987). Typically, managers do not have explicit and relevant information on a well-defined set of alternatives. March (1987) refers to the identification of alternatives as the main uncertainty facing managers in the decision making process. Chenhall & Morris (1991) examined how managers treat opportunity costs in the common decision situation where explicit information on these costs is lacking. Chenhall & Morris (1991) argued that decision makers’ cognitive style[1], and the existence of project sponsorship, will influence their response to opportunity costs in situations in which the relevant information is implicit.

The current research seeks to identify factors which may potentially influence the way managers respond to opportunity costs when relevant data are not explicitly provided. Identification of such factors should enhance our understanding of why some managers respond to opportunity costs in ways that may be inconsistent with normative economic theory. This information could then be used to identify those situations in which structural and procedural precautions are necessary to correct limitations and biases in human information processing and so ensure the correct treatment of opportunity costs.

The paper argues that decision makers’ cognitive style, and the existence of project sponsorship, will influence their response to opportunity costs in situations in which the relevant information is implicit. In particular, the research considers the extent to disability of individual processes of perception dimension of Jungs’ typology on research of Chenhall & Morris (1991) to explain difference of managers’ way to making decision, lead us to research questions are: (1) Which cognitive style combination have a proclivity to incorporate implicit opportunity costs in their economic analysis? (2) With combination of two dimensions of cognitive style, will project sponsorship encourage managers to ignore negative economic signals derived from opportunity costs that are nevertheless relevant to the resource allocation decision?

The remainder of the paper is structured as follows. First, evidence on the treatment of explicit and implicit opportunity costs is discussed and theoretical reasons are advanced as to why opportunity cost signal, which adversely affect a project, may be ignored. This involves consideration of the effects of cognitive style and sponsorship bias.

2. LITERATURE REVIEW

2.1. Opportunity Cost

Opportunity cost is the forgone benefit that could have been realized from the best forgone alternative use of a resource (Maher et al., 2006, p.30). Opportunity cost is a concept that is fundamental to determining which items are to be included in the cash flows of resource allocation decisions. Opportunity cost has been defined as “the cash it (a resource) could generate for the company if the project was rejected and the resource sold or put to some other productive use” (Brealy & Myers, 1984, p. 87). Thus, opportunity costs arise from alternative future uses of existing assets as well as from alternative uses of future out-of-pocket cash flows.

2.1.1. Explicit Versus Implicit

Research on the treatment of opportunity costs has investigated whether managers include them in ways consistent with normative economic theory (e.g. Becker et al., 1974; Neumann & Friedman, 1978; Friedman & Neumann, 1980; Hoskin, 1983; Northcraft & Neale, 1986). While the evidence on the treatment of opportunity costs is somewhat mixed, decision makers seem to include them if the opportunity cost data are provided explicitly. Becker et al. (1974) found that subjects in an experimental situation made decisions that indicated they either ignored or discounted opportunity cost information. Neumann & Friedman (1978) modified the experiment by presenting explicit information about opportunity costs and found that this triggered subjects to use it. Two studies of Friedman & Neumann (1978 and 1980) found that subjects did use opportunity cost information when the information was provided explicitly. However, the subject did not try to impute amounts of potential opportunity costs when no information was provided regarding their magnitude. The authors concluded that opportunity cost was included only when it was explicitly available. Further evidence confirming the view that individuals tend to include explicit opportunity cost is provided in studies by Hoskin (1983) and Northcraft & Neale (1986).

2.2. Cognitive Style

Cognitive style is the concept and the way individual perceive opportunity cost defined as the way an individual processes, transforms and restructures stimuli received from the environment to shape a resulting response (Doctor & Hamilton, 1973). The importance of studying personality and cognitive style in accounting emphasized the need to understand user characteristics in order to design better information systems (Gul, 1984; Brownell, 1981; Dermer, 1973; Benbasat & Dexter, 1979). Gul (1984, p. 246) summarized the purpose of studying individual characteristics by stating that research into the effects of personality seeks to “facilitate the preparation of accounting information that is most suited to the user’s information processing needs.”

2.2.1. The Framing of Resources Allocation Decisions

Tversky & Kahneman (1981) proposed that psychological factors influencing the perception of decision problems produce shifts of preference when different individuals consider the same problem. They refer to these preferences as “decision frames”, and claim that the formulation of frames is controlled partly by the personal characteristics of the decision maker.

In the current research cognitive style is used to explain how individuals, with an intuitive (IT and IF) cognitive style, frame the decision of cost relevance in ways that enable implicit opportunity costs to be perceived, whereas sensation (ST and SF) managers frame the problem in ways that lead to the incorrect treatment of opportunity costs and consequently wrong decisions

2.3. SPONSORSHIP BIAS

In this study sponsorship bias is identified as one aspect of the social context which may influence the way in which manager process information related to resource allocation decisions and that this influence may modify the effect of cognitive style.

The importance of sponsorship bias to the current study is that managers who include implicit opportunity costs in non-sponsorship situations, may be motivated to exclude when they sponsor the project. This effect is based on the proposition that once a commitment to a project has been made, managers are likely to maintain their advocacy for the project with great stability and tenacity, even when faced with negative signals. March (1987) commented on the propensity of managers to see things that are consistent with their viewpoint and noted that responses may include selective perception and rationalization.

3. METHODOLOGY

3.1. Research Design

A laboratory experiment with 2x4 factorial designs with Friedman & Neumann’s (1980) multiple time-series research design was employed to investigating the effect of cognitive style on the managers’ decision of opportunity costs in conditions with and without sponsorship bias. Myers-Briggs Type Indicator (MBTI) used for determining subjects’ cognitive style.

Cases and scenario was written that asked each subject to make a series of twelve sets of decisions between two products having unequal margins. At the outset of the experiment, each subject was asked to assume the role of a middle-level manager who must recommend one of two mutually exclusive products. The subjects were told they would be given some data and that it was economically feasible to request up to two items of additional information, but that any information in excess of two items was prohibitively expensive. This scenario was followed by a set of instructions.

3.2. Subjects

The subjects were students of executive programme Master of Management (MM). The programme was designed for the general manager and this was reflected both in the varied backgrounds of the participants and the content of the programme. All had prior experience with capital resource allocation decisions and with sophisticated capital budgeting techniques, including discounted cash flow analysis. A few were already general managers, others were being prepared for this responsibility.

4. RESULTS AND DISCUSSION

4.1. Results

A total of 131 of students’ executive programme Master of Management (MM) are participated in the experiment consist of 84 male and 47 female. The treatment group of 66 subjects was provided with sponsorship cues. The control group of 65 subjects had no sponsorship cues. Random assignment of subjects assisted in equating the treatment and control groups on condition other than sponsorship bias, thereby enhancing the internal validity of the study. All subjects completed the MBTI cognitive style instrument. The first phase is the identification of subjects’ personality types using MBTI questionnaire.

4.1.1. Results of Manipulation Check

Two steps of manipulation check are conducted to decide total samples for hypotheses testing. In the first step, nine subjects is eliminated since they made the wrong decision for the first choice for each case more than once-showing that they do not understand the case and they are not a margin maximizer.

In the second step, another four subjects is eliminated since them as they made the wrong decision for the second case more than once. Thus, the final samples used for analysis are 118 subjects.

4.2. Discussion

4.2.1. Descriptive Statistics

Result indicates that subjects consider explicit information as a dimension of an important opportunity cost variable. Subjects change their decision as soon as they receive information describing explicit opportunity cost (choice in Decision 3). This results apply on 115 out of 118 subjects analyzed, showing that subject hesitant to relate their decision with opportunity cost when there is no information about the magnitude (explicitly available) as described by table 4.4 (appendix 2).

Results also show that 101 (85 %) subjects ask for the relevant additional information, with 79 (66.9%) subjects using the information correctly in decision-making (table 4.5 - appendix 2).

4.2.2. Additional Analysis

A sample with proportional distribution is used to analyze subjects’ behaviour in resources allocation decisions. The first step conducted is examining dimension process of perception of cognitive styles (sensation versus intuition) – as used by Chenhall and Morris (1991). The total 118 samples consists of 100 subjects’ (84.7%) sensation style versus 18 subjects’ (15.3 %) intuition style as shown in table 4.6 (appendix 3).

The second step conducted is examining dimension process of judgement of cognitive styles (thinking versus feeling). The total 118 samples consists of 83 subjects’ (70.3 %) thinking style versus 35 subjects’ (29.5 %) feeling style as shown in table 4.7 (appendix 3).

The third step conducted is examining combination of sensation/thinking (ST) versus sensation/feeling (SF) which had proportional data structure. The total 100 samples consists of 69 subjects’ (70.3 %) ST cognitive style versus 31 subjects’ (29.5 %) SF cognitive style as shown in table 4.8 (appendix 3).

The two-way ANOVA test provides results as follows. First, there is a statistically significant main effect of sponsorship variable—supporting the expectation that manager’ resource allocation decision is influenced by his involvement in a project. Second, cognitive styles variable do not have a significant main effect in manager’s decision. Finally, interaction of both sponsorship bias and cognitive styles variables has a statistically significant effect on managers’ resource allocation decision (F=6.338 and p-value=0.013), consistent with Chenhall and Morris (1991). It shows that manager’s involvement in a project and his cognitive styles will influence the decision he made.

5. Conclusion, limitation, and implication

5.1. Conclusion

The results of this study provide support for the notion that the treatment of implicit opportunity costs by managers is influenced by their cognitive style. This study also provides support for the proposition that the effect of cognitive style may be confounded by the existence of project sponsorship.

That is, without sponsorship, sensation managers dominantly included the opportunity costs information, a decision which is consistent with the idea that managers were responding to the specificity of the cost. However, sponsorship confounded this effect as the managers who felt commitment to the project elected to exclude the items. The intuitive managers tended to exclude in both situations. This study is consistent with Chenhall & Morris (1991) and Friedman & Neumann (1980).

5.2. Limitation

This study is limited in the same respects as any laboratory study: First, lack of overall generality, indeterminant external validity, lack of motivation, and unfamiliar setting. Second, another limitation was that some undetected mathematical errors may have been made by the subjects. Some subjects may not have understood the task even after excluding learning decision sets. This lack of understanding would have the effect of decreasing the likelihood of correct responses, so that the percentage of decision sets in which opportunity cost information is used would have been understated. Third, combination of intuition/thinking (IT) and intuition/feeling (IF) population are scarce, consequently this study have difficult get the proportional sample size.

5.3. Implication

However, given these limitations, the study does provide some evidence which helps to explain how managers treat implicit opportunity costs and thereby assists in addressing the observation by Kaplan (1986) that opportunity costs is often incorrectly treated in resource allocation analysis.

There are two important implications of the study for the design of administrative systems. One concerns formal systems for the authorization of capital expenditures, and the other, formal organization structures and responsibilities.

The first implication is that capital budgeting procedures must be designed to correct the tendency of sensation managers, who constitute 56% of the managerial population and 62% of financial executives (Myers & McCaulley, 1985 in Chenhall & Morris, 1991), to mis-specify the treatment of existing assets. This is particularly serious because academic texts (e.g. Horngren & Foster, 1987), suggest that financial executives should be responsible for capital budgeting processes and empirical studies confirm this to be so in the majority of cases (e.g. Gitman & Forrester, 1977 in Chenhall & Morris, 1991). Given that capital budgeting procedures will tend to be designed and administer managers with a sensing cognitive style likely that mis-specification of the treatment existing will be embedded into the computer programs and review procedure that constitute the formal processes. Knowing that the errors are due in part to the predominant cognitive style of the managers’ response for the design and administration of the capital budgeting process suggests that the specifying and designing this key component the resource allocation process should be trusted to a multi-disciplinary team contains different skills, priorities, and cognitive style

The second implication concerns an appropriate response to sponsorship bias. The issue complex, on the one hand, capital investment acceptance and ultimate success appear too enhanced by a manager adopting a role “project champion” (Bower, 1972).

---

[1] Chenhall & Morris (1991) used only one dimension of four dimensions of Jung’s’ typology for cognitive style. The dimension is individual processes of perception dimension.

EARNINGS AND CASH FLOW PERFORMANCES SURROUNDING IPO (Bahasa Inggris Bisnis 2)

EARNINGS AND CASH FLOW PERFORMANCES SURROUNDING IPO

Rahman, A., and Y. Hutagaol

(Faculty of Economics University of Indonesia)

ABSTRACT

Initial public offerings (IPOs) offer a fruitful area to be explored given the existence of asymmetric information among various parties interested in the IPO. This study attempts to examine whether there is significant increase in earnings level prior to the offering to be interpreted as the existence of earnings management. The behaviour of cash flow from operation is also examined.

A sample of 35 Indonesian IPOs that made public during 2002-2005 periods was examined. The t-test for mean difference was performed to test whether earnings differences persist. The findings show that earnings level tends increase in the year closes to the IPO date, but decrease in the next two year after that. The behaviour of cash flow from operating activities is almost similar. However, this study is unable to state that earnings management is strongly evidenced in Indonesian IPO setting.

Keywords: IPOs, prospectus, earnings and cash flow performance.

1. Introduction

This study examines earnings management of Indonesian initial public offerings (IPO). Companies offering shares publicly for listing are required by the securities law to meet certain financial and operating criteria. Because of the major impact of the offering prices on their private wealth and the explicit use of accounting numbers, particularly accounting earnings, the managers and the major stockholders of IPO firms have the incentives to manage earnings numbers to maximize their private wealth.

According to Healy and Wahlen (1999: 368), earnings management occurs "when managers use judgment in financial reporting and in structuring transactions to alter financial reports to either mislead some stakeholders about the underlying economic performance of the company or to influence contractual outcomes that depend on reported accounting numbers". We interpret this broad definition as including earnings management in IPO.

Levitt (1998), former chairman of United States’ capital market regulator, has asserted that aggressive earnings management has been of concern to regulators for several years and that concern has only intensified following evidence of improper accounting practices by Enron, WorldCom, and some other major corporations. Thus, a better understanding of how earnings management occurs could help (1) regulators and standard setters identify the areas most in need of regulatory change; (2) auditors evaluate and report on their clients' quality of earnings, and train novice auditors about earnings management; (3) CEOs, CFOs, audit committees, and investors focus attention on those areas of the financial statements where they should be most skeptical; (4) managers and audit committees anticipate the transactions that investors will view most skeptically; (5) educators teach students about earnings management; and (6) researchers focus their analyses on areas of high-earnings-management activity.

A number of studies using Indonesia IPOs have been conducted, but the results are still mixed. For example, Gumanti (2001) does not find strong support that issuers of IPO manage accrual in the period prior to offering. Gumanti (2003) also does not find evidence that manufacturing firm making IPO manage earnings prior to the IPO date. However, these studies use accruals base model to predict whether earnings before IPO date are managed. Exception of this study is Gumanti and Swastika (2005) who examine the behaviour of IPO’s performance in the periods before and after the issue.

Before IPO, the operating results for a great proportion of companies demonstrate a bright performance but declined substantially right after the stock offerings, suggesting the existence of earnings management by the IPO firms. The phenomenon is particularly severe for accounting earnings. As a result, accusation that IPO firms manage earnings to inflate offering prices ensues and results in widespread public outcry and demands for government actions. In light with this accusation, this study investigates whether IPO firms manage earnings to raise offering prices.

The remainder of this paper is organized as follows. Section two presents review of literature. Section three describes sample selection and variable measurement. This is followed by findings and discussions. Final section summarises and provides genesis for future study.

2. Review of Literature

A detailed prospectus is required before new securities can be offered to the public in an IPO. It provides information about the offering itself, a brief history of the firm’s business, information related to past financial performance, ownership details, and the risks associated with the investment. The investment community recognizes that the most detailed and precise information about the issuing firm is found in the offering prospectus. In addition, the prospectus is a legal document that protects the issuer and the underwriter because it is written proof that the investor was provided with all the material facts related to the offering. However, very little is known about how useful prospectus information is to investors in their decision to invest in an individual IPO. Because a number of issuers lack a history of past revenues or earnings, investors are likely to be quite skeptical about the value of prospectus information. Teoh et al. (1998) report that earnings management prior to going public is related to long-run underperformance which could further erode the investor’s confidence in the value of the information contained in the prospectus, because it shows that firms could resort to window dressing prior to going public. Nevertheless, information contained in a prospectus is often the first window to a potential investor about the firm’s past and its projected future performance.

The valuation of IPOs and the setting of IPO offer prices represent a challenging crossroads between valuation theory and practice. Theory dictates the use of discounted cash flow as the conceptual foundation of valuation. Unfortunately, estimates of future cash flows and discount rates for IPOs are imprecise (See Kim and Ritter, 1999). In addition, it seems that stereotypical industry practice emphasizes the use of accounting numbers as cash flow surrogates and comparable firm multiples such as P/E ratios as proxies for discount factors.

Of course, even casual inspection of the data reveals that offer prices and initial market prices do not conform rigidly to simple multiples of accounting numbers, implying that underwriters and market participants incorporate additional information into the valuation equation. An important question raised within the IPO literature, therefore, is just how much variation in IPO prices remains to be explained by factors other than accounting numbers and comparable firm multiples. However, the findings reported by Kim and Ritter (1999) suggest that IPO pricing is largely unrelated to historical accounting information. One interpretation of their results is that underwriters and investors build their cash flow and discount rate estimates with vastly different information.

Theoretically, cash flows are impossible to manipulate through accounting choices. Given that earnings management can be achieved through accrual items, the difference between earnings and cash flows can be an inference basis for the behaviour of earnings management.

Empirical evidence seems to indicate that the evidence is identified in certain economic settings, but not in others, and even conflicting results occur in studies using similar context, which indicate that the motive and incentive for earnings management among preparers of financial reports are different. Dechow and Skinner (2000) assert that share offerings (IPO) provide direct incentive for managing earnings. In the same spirit, Healy and Wahlen (1999) contend that the capital market provides specific incentive for earnings management and in particular in the case of an IPO in which managers “overstate” reported earnings in periods prior to equity offers.

Despite the widely accepted view that information contained in a prospectus is valuable in assessing the risk of the offering, very little attention has been devoted in the finance literature to studying the usefulness of the information contained in the prospectus vis-à-vis the subsequent performance of the issuer. Hensler et al. (1997) and Jain and Kini (2000) examine the survival of IPOs in the aftermarket using some information from the offering prospectus.

Hensler et al. (1997) find that the issuer’s size, age at the time of the IPO, level of underpricing, insider ownership, industry membership, and the level of IPO activity in the market are significantly positively related to the probability of survival whereas the number of risk factors listed in the offering prospectus is significantly negatively related to the likelihood of survival. Jain and Kini (2000) show that venture capitalist backed IPOs are more likely to survive compared to others because they attract prestigious investment bankers, influence managers in strategic resource allocation decisions, influence institutional investors, and help attract analyst following of the firm sooner.

Platt (1995) also uses prospectus data to predict the survival of an IPO firm beyond the first three years of its public life and finds that predicting bankruptcies is difficult at best. Only 31% of bankrupt IPOs are correctly classified, whereas the corresponding rate for surviving IPOs is more than 90%. The results are, however, based on a small sample of 32 bankrupt and 76 surviving IPOs. These studies provide the first evidence that information contained in the prospectus can be gainfully employed to assess the risk of an individual IPO.

The literature has paid considerable attention on the long-run underperformance of IPOs. Ritter (1991) and Loughran and Ritter (1995) present evidence that IPOs significantly underperform their matched-firm benchmarks in the five years after their offering. Researchers have reported long-run underperformance of IPOs in several other financial markets in such countries as Latin America (Aggarwal et al., 1993), Japan (Hwang and Jayaraman, 1995; Howe et al., 1996), the United Kingdom (Espenlaub et al., 2000), Finland (Keloharju, 1993), Singapore (Lee et al., 1996), Korea (Kim et al., 1994), Germany (Stehle et al., 2000), China (Mok and Hui, 1998), South Africa (Page and Reyneke, 1997), and Malaysia (Paudyal et al., 1998).

Recent studies have examined some of the factors that affect this long-run underperformance. Brav and Gompers (1997) show that underperformance is concentrated in small non-VC-backed IPOs, and Teoh et al., (1998) attribute the long-run underperformance to earnings management prior to the IPO. Houge et al. (2001) find that IPOs with greater uncertainty exhibit poor stock return performance in the long run. Klein (1996) reports earnings management through accruals in the periods before the offering on US IPOs. That is, IPO firms tend to use income increasing discretionary accruals in the periods prior to the offering.

Gumanti (2003) examine the incidence of earnings management of IPO firms in manufacturing industry that went public over the period of 1991-1994 at the Jakarta Stock exchange. Using the total accrual approach that is similar to the one developed by Friedlan (1994), Gumanti study finds that the issuers of Indonesian IPOs do not make income increasing discretionary accruals in the periods prior to the offering. The positive changes in earnings in these periods do not contribute to positive discretionary accruals. The second test examining the behavior of discretionary accruals in the year after the offering, that is the first year as a public firm, shows evidence of earnings management. However, Rahman and Hutagaol (2007) find evidence that manager manage earnings through accruals in the periods before the offering on a sample of 149 IPOs that went public during 1994-2003. This conflicting result demands further examination whether earnings management in Indonesia IPO setting is pervasive.

Previous studies largely use accruals approach in testing earnings management in IPO setting either using a simple accruals model developed in Healy (1985), DeAngelo (1986) and Friedland (1994) or Jones and modified Jones (1991) model including the industrial adjusted model. In this study a difference approach is used, that is an earnings benchmark model. The spirit in doing so is based on Holland and Ramsay (2003) who examine whether Australian firms manage earnings to meet earnings benchmark. They assert that Australian companies manage earnings to ensure reporting of positive profits and to sustain the previous year’s profit performance.

3. Sample and Research Method

The sample in this study includes 35 firms making IPO at the Indonesian Stock Exchange during 2001-2005 periods. All the firms have December 31 as their fiscal year end. Financial statement data for these firms include three years before and two years after the IPO year. Note that the complete financial report in terms of the latest year available in the prospectus is treated as the year zero and consequently be used as the benchmark.

This study examine the behaviour of two mostly target variables in assessing the performance of IPO, namely the level of earnings and cash flow from operating activities. These two variables and their derivative have been used and extensively examined in previous studies examining earnings management of earnings manipulation of the firms, in various economic setting not limited to IPO per se. Holland and Ramsay (2003) use the level and change of earnings and cash flow from operation to detect whether firms manage earnings to meet simple earnings benchmark.

In line with Holland and Ramsay (2003), this study also examines the behaviour of earnings and cash flow from operation in the periods before and after the IPO year. The comparison of the level of earnings and cash flow follows Jain and Kini (1994) who use the latest year of IPO complete financial year as the benchmark in examining the performance of IPO firms.

4. Findings and Discussions

A sample of 35 IPO firms meets the selection criteria. Of the 35 sample firms, 14 firms went public in 2002, three were in 2003, ten firms went public in 2004, and eight firms made an IPO in 2005.

Two firms are from agriculture sector, four are from basic industry and chemical, 13 are from finance sector, six firms are from trade and services sector, followed by utility which is represented by four firms. Three firms are from miscellaneous industry, two are from mining sector and only one is from real estate.

5. Summary and Conclusion

Because the wealth of the managers is linked to the IPO prices, the requirement provides incentives for the managers of an IPO firm to manage earnings. Using a sample of Indonesia 35 IPOs during the 2002-2005 periods, this study investigates whether managers of the IPO firms exercise income-increasing discretionary accruals before IPO to maximize the offering prices and private wealth. Evidence suggests that companies use different discretionary components for earnings management in the most current year prior to the offering.

Further study may compare the figures for IPO long before the economic crisis and those after the crisis, for instance five years after the crisis.

References

Aggarwal, R., R. Leal, and L. Hernandez, 1993. The aftermarket performance of initial public offerings in Latin America, Financial Management 22, 42-53.

Brav, A. and P. Gompers, 1997. Myth or reality? The long-run underperformance of initial public offerings: Evidence from venture and nonventure capital-backed companies, Journal of Finance 52, 1791-1821.

DeAngelo, L.E. 1986. Accounting number as valuation substitutes: A study of management buyouts of public stockholders. The Accounting Review, 59: 400-420.

Dechow, P. M, and D. J. Skinner. 2000. Earnings management: Reconciling the views of accounting academics, practitioners, and regulators. Accounting Horizons 14 (June): 235-250.

Espenlaub, S., A. Gregory, and I. Tonks, 2000. Re-assessing the long-term underperformance of UK initial public offerings, European Financial Management 6, 319-342.

Gumanti, T.A., 2001, Earnings management pada penawaran pasar perdana di Bursa Efek Jakarta. Jurnal Riset Akuntansi Indonesia, 4(2): 165-183.

Gumanti, T.A., 2003. An Investigation of Earnings Management in Indonesian Manufacturing Initial Public Offerings, Gadjah Mada International Journal of Business, 5(3): 345-362.

Gumanti, T.A., dan Swastika, D.L.T., 2005. Kinerja Operasi Pasca Initial Public Offerings di Bursa Efek Jakarta, Jurnal Akuntansi dan Bisnis Manajemen, 12 (1):1-13.

Hamao, Y., F. Packer, and J. R. Ritter, 2000. Institutional affiliation and the role of venture capital: Evidence from initial public offerings in Japan, Pacific-Basin Finance Journal 8, 529-558.

Hameed, A. and G. H. Lim, 1998. Underpricing and firm quality in initial public offerings: Evidence from Singapore, Journal of Business Finance and Accounting 25, 455-468.

Hanley, K. W., A. A. Kumar, and P. J. Seguin, 1993. Price stabilization in the market for new issues, Journal of Financial Economics 34, 177-197.

Hayn,C.,1995, The information content of losses, Journal of Accounting and Economics 20,125-153.

Healy, P. 1985. The effect of bonus schemes on accounting decisions. Journal of Accounting and Economics 7: 85-107.

Healy, P., 1985, The effect of bonus schemes on accounting decisions, Journal of Accounting and Economics 29,85-107.

Healy, P.M. and J.M. Wahlen, 1999, A review of earning management literatures and it is implication for standard setting, Accounting Horizons 13(4),365 – 383.

Healy, P.M., and J. M. Wahlen. 1999. A review of the earnings management literature and its implications for standard setting. Accounting Horizons 13 (October): 365-383.

Hensler, D. A., R. C. Rutherford, and T. M. Springer, 1997. The survival of initial public offerings in the aftermarket, Journal of Financial Research 20, 93-110.

Holland, D., and A. Ramsay, 2003, Do Australian companies manage earnings to meet simple earnings benchmarks?, Accounting and Finance, 43: 41-62.

Houge, T., T. Loughran, G. Suchanek, and X. Yan, 2001. Divergence of opinion, uncertainty, and the quality of initial public offerings, Financial Management 30, 5-23.

Howe, J. S., S. Kim, and E. Lee, 1996. The aftermarket performance of IPOs: The Korean experience, Advances in Pacific-Basin Finance Management 2, 157-164.