We examine whether the fraud firms are engaged in real earnings management and accrual earnings management prior to the fraud year in the Malaysian context.
Our sample comprises of 65 financial statement fraud and 65 non-fraud firms over a period of eight years from 2001 to 2008.
Using the abnormal cash flow from operations (CFO) and abnormal production costs as the proxies for real earnings management, we find that financial statement fraud firms engage in manipulating production costs during preceding two years of the fraud event. However, our results show that financial fraud firms engage in manipulating CFO prior to the fraud event. Additionally, we find that financial statement fraud firms prefer to manipulate earnings using accruals relative to real earnings prior to the fraud year.
Our results demonstrate that real earnings management is more aggressive in financial statement fraud firms compared to the non-fraud firms in the four years prior to fraud.