Internal corporate governance and cash flow manipulation

TLDR: In this article , the authors examined whether internal corporate governance mechanisms are effective in curbing cash flow manipulation through real activities, misclassification, and timing, and found that corporate boards in India play an active role in managing real activities but fail to control the manipulation through misclassifications and timing.

Abstract: PurposeThe authors examine whether internal corporate governance mechanisms are effective in curbing cash flow manipulation through real activities, misclassification, and timing.Design/methodology/approachThe sample comprises of firms from an emerging market, India with data for years 2004 through 2015. The authors use the methodology given in Roychowdhury (2006).FindingsThe authors find that corporate boards in India play an active role in curbing cash flow manipulation through real activities but fail to control cash flow manipulation through misclassification and timing.Practical implicationsThe study suggests that corporate boards should pay more attention to the reported cash flow numbers. Regulators can reduce the opportunities available for cash flow misclassification by fixing relevant accounting and governance norms. Auditors can also help by critically focusing on the cash flow classifications presented by management.Originality/valueThis study, to the authors’ knowledge, is the first study that talks about the role of internal governance in a trade-off between different cash flow manipulation techniques.