The effects of earnings management on information asymmetry and stock price synchronicity

Dong Quang Dang; Korkos, Ioannis; Wu, Weiou Article The effects of earnings management on information asymmetry and stock price synchronicity Cogent Economics & Finance Provided in Cooperation with: Taylor & Francis Group Suggested Citation: Dong Quang Dang; Korkos, Ioannis; Wu, Weiou (2023) : The effects of earnings management on information asymmetry and stock price synchronicity, Cogent Economics & Finance, ISSN 2332-2039, Taylor & Francis, Abingdon, Vol. 11, Iss. 2, pp. 1-19, https://doi.org/10.1080/23322039.2023.2290359 This Version is available at: https://hdl.handle.net/10419/304288 Standard-Nutzungsbedingungen: Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden. Sie dürfen die Dokumente nicht für öffentliche oder kommerzielle Zwecke vervielfältigen, öffentlich ausstellen, öffentlich zugänglich machen, vertreiben oder anderweitig nutzen. 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If the documents have been made available under an Open Content Licence (especially Creative Commons Licences), you may exercise further usage rights as specified in the indicated licence. https://creativecommons.org/licenses/by/4.0/ Cogent Economics & Finance ISSN: (Print) (Online) Journal homepage: www.tandfonline.com/journals/oaef20 The effects of earnings management on information asymmetry and stock price synchronicity Dong Quang Dang, Ioannis Korkos & Weiou Wu To cite this article: Dong Quang Dang, Ioannis Korkos & Weiou Wu (2023) The effects of earnings management on information asymmetry and stock price synchronicity, Cogent Economics & Finance, 11:2, 2290359, DOI: 10.1080/23322039.2023.2290359 To link to this article: https://doi.org/10.1080/23322039.2023.2290359 © 2023 The Author(s). Published by Informa UK Limited, trading as Taylor & Francis Group. Published online: 06 Dec 2023. Submit your article to this journal Article views: 1269 View related articles View Crossmark data Citing articles: 2 View citing articles Full Terms & Conditions of access and use can be found at https://www.tandfonline.com/action/journalInformation?journalCode=oaef20 FINANCIAL ECONOMICS | RESEARCH ARTICLE The effects of earnings management on information asymmetry and stock price synchronicity Dong Quang Dang 1 *, Ioannis Korkos 1 and Weiou Wu 1 Abstract: In this study, we test whether earnings management has a positive impact on information asymmetry as well as whether earnings management has a negative impact on stock return synchronicity to investigate how discretionary accrual earnings management affects the imbalance of information and the comovement of stock prices in Vietnam. We utilise the Pooled OLS (OLS), Random Effects (RE), Fixed Effects (FE), and System GMM models to evaluate our dataset collected from 356 non-financial companies listed on the Hochiminh City Stock Exchange (HOSE) spanning from 2012 to 2021. We find that in Vietnamese market earnings manipulations through accrual based falsify the market and cause information asymmetry leading to adverse effects on market liquidity and stock price synchronicity. Additionally, our findings exhibit greater co-movements between stock prices and earnings management at the larger firms with long incorporation history and are audited by Big Four Audit firms due to their credibility. These findings are particularly useful for foreign investors in making investment decisions as we found that their influences on earnings management in Vietnamese market is limited. Subjects: Corporate Finance; Investment & Securities Keywords: earnings management; quality of information; information asymmetry; stock price synchronicity; audit quality JEL classification: G14; G31; G32 1. Introduction Corporate stakeholders, including shareholders, lenders, and especially outside investors, pay great attention to earnings management as it is widely considered an important input information to their decision-making process. In fact, earnings management can have real consequences on the stock market via information quality related to a firm. Specifically, although the adjustments of earnings can be informative, the intentions of misleading the company’s stakeholders may erode the investor’s trust. In certain instances, a high level of earnings management is recognised as a low level of earnings quality, implying a bad signal by the financial market (Abad et al., 2016). According to Du and Shen (2018), untransparent earnings management shatters the credibility of financial reporting, adversely impacts on stock prices. Furthermore, according to Durana et al. (2021), the growing risk of bankruptcy is associated with the earnings management. Moreover, the Dang et al., Cogent Economics & Finance (2023), 11: 2290359 https://doi.org/10.1080/23322039.2023.2290359 Page 1 of 19 Received: 26 July 2023 Accepted: 28 November 2023 *Corresponding author: Dong Quang Dang, Business School, London South Bank University, London, UK E-mail: [email protected] Reviewing editor: David McMillan, University of Stirling, United Kingdom Additional information is available at the end of the article © 2023 The Author(s). Published by Informa UK Limited, trading as Taylor & Francis Group. This is an Open Access article distributed under the terms of the Creative Commons Attribution License (http://creativecommons.org/licenses/by/4.0/), which permits unrestricted use, distribution, and reproduction in any medium, provided the original work is properly cited. The terms on which this article has been published allow the posting of the Accepted Manuscript in a repository by the author(s) or with their consent. earning manipulations cause information asymmetry as the firm’s managers may either pursue their interests over the shareholder at the firm’s expense (Arar et al., 2018; Jang et al., 2022; Kliestik et al., 2020) or mask firm financial information disclosure via altering accounting policy. The mechanism of the relationship between earnings management and stock price is represented via firm performance, which significantly relates to corporate governance. In fact, for the purpose of earnings manipulation, the manager can employ two approaches: real-based earnings management and accruals-based earnings management. Specifically, they can reschedule the firm operation by reallocating resources, such as sacrificing investments in certain departments to achieve income targets (Roychowdhury, 2006). Alternatively, managers can utilise allowed accounting policies to impact accruals (Teoh et al., 1998). Furthermore, under manipulated circumstances, accruals could lead to biased results (Ha et al., 2022), while foreign investors are concerned about the quality of corporate financial disclosure to assess the quality of financial statements (Vo et al., 2019). However, in practice, weak corporate governance is frequently observed in developing countries due to poor management in reporting standards, for instance, in Vietnam (ADB, 2014), and this directly impacts the stock market performance. Indeed, the Vietnamese market is well-known for many scandals related to profit reporting due to insufficient control of reporting standards (Ta et al., 2018). Two of the biggest scandals are the fraudulent reporting of the KSS and JVC corporations in Vietnam, which hampered the firms’ access to foreign capital channels and shattered investor trust (Trung et al., 2020). Nevertheless, the Vietnamese market still offers an intriguing case to study earnings management’s effects on information asymmetry and stock price synchronicity among markets. This is because the Vietnamese financial market offers fascinating traits for this study, such as the differences between Vietnamese Accounting Standards and IFRS (International Financial Reporting Standards) in the financial statements. Additionally, the Vietnamese economy has displayed impressive economic growth recently, and the stock market has dramatically increased in the last two decades (Vo, 2017). In addition to that, Vietnam has actively participated in various international organisations and agreements, such as the World Trade Organisation (WTO) and Trans-Pacific Partnership (TPP). Therefore, the market has now had the opportunity to approach various sources of international capital funds and vice versa, improving market performance. The evidence is that the newly registered capital of international investors has reached 13.43 billion USD, which is 95.7% year on year (Ministry of Planning and Investment Portal, 2023). Furthermore, participation in international organisation and agreements require changes in the systems to meet requirements in terms of finance. Therefore, the government constantly innovates the market restructuring program (Vo, 2017), which potentially shapes how companies in Vietnam conduct earnings management practices and changes the dynamic relationships in the market. However, the literature studying insightful earnings management and stock market synchronicity in the Vietnamese context is limited. Therefore, analysing the influences of earnings management on the stock market in Vietnam is necessary and will fill this gap. This study aims to explore the impacts of earnings management on stock price, focusing on its role as an indicator of information environment quality in Vietnam. Our research objectives are designed as follows. Firstly, we investigate the relationship between earnings management and information asymmetry in Vietnam’s financial environment by exploring how agency conflicts arise from incomplete and asymmetric information and how earnings management influences information asymmetry. While many studies investigate factors influencing earnings manipulation in Vietnam, most focus is on corporate governance, such as board size, composition, and ownership. Given that the studies on earnings management’s impact on Vietnam’s stock market is scarce, this research seeks to enhance our understanding of the complex interplay between earnings management practices, information asymmetry, and stock market dynamics, particularly in the unique context of Vietnam’s frontier market. Secondly, the relationship between earnings management and stock price synchronicity is thoroughly examined. Because there are conflicting perspectives in the existing literature regarding stock price synchronicity, especially implications for information Dang et al., Cogent Economics & Finance (2023), 11: 2290359 https://doi.org/10.1080/23322039.2023.2290359 Page 2 of 19 quality within firms. Our result shows a negative association between earnings management and stock price synchronicity in Vietnam, where synchronicity is notably lower than in developed markets. This finding contributes new insights to the literature. Lastly, when building the models to test the link between earnings management, information asymmetry, and return synchronicity, we also pay attention to audit quality and foreign ownership variables. We argue that they play a critical role in monitoring and controlling the quality of earnings management. Hence, this paper also examines these two factors’ moderating effects on the relationships between earnings management, information asymmetry, and stock price synchronicity. The remaining of our paper is structured as follows: Section 2 discusses the literature review and hypothesis establishments. Section 3 describes the research methodology. Section 4 provides descriptive statistics, research outcomes, and discussion. Section 5 concludes. 2. Literature review 2.1. Earnings management and information asymmetry Information asymmetry happens when one or more parties in the market have more or better information than the others. For example, the fact is that managers in charge of a company’s day- to-day operations will have better knowledge and information about the firm compared to shareholders or outside investors. Information asymmetry exists between insiders (managers and shareholders) and outsiders (investors). Based on the microstructure theory, literature often explains the link between earnings management and information asymmetry. According to Abad et al. (2016) and Cerqueira and Pereira (2015), when trading in the stock market, certain market participants can acquire superior information. This fact divides investors into the informed and uninformed. Informed investors can achieve their information advantages via two main ways. First, they may have access to valuable private information withheld by the insiders. Second, information advantages belong to traders with greater abilities in processing and interpreting public information to unveil an accurate picture of the firm’s performance and value hidden behind manipulated figures (Kim & Verrecchia, 1994). The worse the quality of the information environment is, the more intense the information differentiation between informed and uninformed investors will be. Brown and Hillegeist (2007) claim that higher quality of information disclosed by firms can help to reduce information asymmetry by decreasing the possibility that investors can trade on private information (informed trading). So, it is not difficult to predict the positive relationship between earnings management and information asymmetry as the former is one featured characteristic, and the latter is one failure of an inefficient market. Most prior studies agree on the positive associations between earnings management and information asymmetry. For example, Bhattacharya et al. (2013) observe the impact of earnings quality on information asymmetry. Their results reveal that information asymmetry is significantly and positively correlated to both two earnings quality components, including innate (nondiscretionary) accruals and discretionary accrual (earnings management). Further, the research also adds that a low level of earnings quality contributes not only to an elevated information asymmetry but also to the increase in adverse selection risk around the earnings releasing time. Research by Easley and O’hara (2004) and Houqe et al. (2017) document that earnings accruals are a price-risk factor, creating informational advantages for informed traders. Uninformed investors are aware of the existence of information asymmetry as well as their informational disadvantages. They, therefore, will require a higher return to compensate for the adverse selection in trading, leading to a higher cost of capital. Despite a large body of literature examining the effects of earnings management on information asymmetry, no study has been found to investigate this relation in the context of the Vietnamese market. Although the associations between earnings management and information asymmetry Dang et al., Cogent Economics & Finance (2023), 11: 2290359 https://doi.org/10.1080/23322039.2023.2290359 Page 3 of 19 are not directly investigated in some papers, similar opinions on this relationship are mentioned and shared among authors. For example, when studying the effects of earnings management on cash holdings, Hong and Linh (2020) explained that the discretionary production costs and selling expenses bring opportunities for managers to mask the genuine performance of the firm, thus increasing the intensity of information asymmetry. Khuong et al. (2020) tested the impact of earnings management on investor decisions and received a surprising result that investors tend to favour companies with higher levels of earnings management. The authors view this strategy as a bad investment and explain this ironic finding as a phenomenon of information asymmetry issue. Based on our review, we propose a hypothesis on the relationship between earnings management and information asymmetry as follows: H1: Earnings management has a positive impact on information asymmetry. 2.2. Earnings management and stock price synchronicity Roll (1988) is the first scholar to develop the term stock price (or stock return) synchronicity as well as its method of estimation. He divides stock return variation into systematic and firm-specific variations (including market and industry variations). Systematic variation causes the comovements between stock and the market. Therefore, it is called stock price synchronicity. Roll (1988) also claims that a lower level of synchronicity may “imply the existence of either private information or else occasional frenzy unrelated to concrete information”. In detail, he explains that the stock price’s co-movement depends on the amount of firm-level and market-level information contained in the stock price. The asynchronous movement of a firm’s stock price with the whole market is due to the private information (firm-level information) compounded in the stock price. After Roll’s (1988) research, stock return synchronicity has been widely examined in a variety of studies, and many of them provide support for the view that a lower level of stock price synchronicity is associated with a higher amount of private information incorporated in stock price, which implies a more transparent information environment with substantial investor protection and vice versa (Hu & Liu, 2013; Jin & Myers, 2006; Morck et al., 2000). Nevertheless, a growing body of literature reports on the opposite finding such as Dasgupta et al. (2010) considerd the impact of the disclosure of both time-variant and time-invariant firm fundamentals and come to the conclusion that the improvement in information transparency will increase stock return co-movement. This standpoint, especially, tends to be more dominant in emerging market studies (Nguyen et al., 2022). Piotroski and Roulstone (2004) and Chan and Hameed (2006) examined emerging markets and reported that the more analyst coverage interprets, the more information for investors and making stock prices more synchronous. Nguyen et al. (2022) studied the concept of stock price synchronicity in the Vietnamese market, and they synthesise two main reasons why stock prices should co-move more with the market in better corporate governance and environment. The first reason concerns “the intuitive implication of market efficiency” (Dasgupta et al., 2010), which implies trading stocks of outside investors incorporate their knowledge and anticipations into stock prices. A transparent information environment ensures a high quality of information disclosed and improves the accuracy of investor’s forecasts (Jin & Myers, 2006). As a result, if the predicted events occur after, they will not create many surprises and shocks to the stock prices. More informative stock prices today should lead to less firm-specific information taken in stock prices and higher synchronicity in the future and vice versa. Farooq and Ahmed (2014) and Hu and Liu (2013) provided the second explanation for the positive connection between stock return synchronicity and the efficiency of corporate governance mechanisms. Foreign and institutional investors, as the most diversified investors in financial markets, are often interested more in stocks of companies with better management and disclosure because they expect to minimise firm-specific risk and experience only market-wide or industry risks (Farooq & Ahmed, 2014; Parrino et al., 2003). As a result, stock return variation can be mainly explained by the market or industry-level information, indicating a higher level of stock return synchronicity (Hasan et al., 2014; Hu & Liu, 2013). Dang et al., Cogent Economics & Finance (2023), 11: 2290359 https://doi.org/10.1080/23322039.2023.2290359 Page 4 of 19 A limited amount of papers are found to be engaged in the relationship between earnings management and stock return synchronicity due to accessibility to essential data, but when discovered, the results are more prone to show a positive link between the two metrics. For instance, Hutton et al. (2009) examined the link between opacity and return synchronicity in the US market. They use earnings management as a proxy for opacity and report that earnings management is positively related to the stock price co-movement. This finding is supported by Das et al. (2016) and Johnston (2009). However, because the impacts of transparency and quality of information disclosure on stock price synchronicity remain controversial, we do not rush to assume the positive relationship between earnings management and stock return synchronicity. Nguyen et al. (2020) and Vo (2017) investigated stock price synchronicity in the Vietnamese market, and they concur with the opinion that “in emerging markets, stock prices move more together when corporate governances improve”. High synchronicity signifies corporate transparency and an efficient information environment and vice versa. Therefore, we hypothesise a negative impact of earnings management on return synchronicity in the Vietnamese market. H2: Earnings management has a negative impact on stock return synchronicity. 3. Test design 3.1. Measure for earnings management Total accruals consist of two components: non-discretionary accruals and discretionary accruals. Non-discretionary accruals are accrual amounts that arise or vanish naturally over time or with changes in the business cycle, following established accounting principles. In contrast, discretionary accruals represent managerial choices to adjust cash flows intentionally. The utilisation of discretionary accrual models equating with earnings management is widespread. When scrutinising earnings adjustments, discretionary accruals indicate the quality of disclosed financial information (Kliestik et al., 2021). In this research, we measure earnings management by discretionary accruals. We run different models to estimate this variable. In the end, we choose Dechow et al. (1995) method because its coefficient of determination (R-squared) is highest (R-squared = 61.85%). According to Valaskova et al. (2021), the modified model by Dechow et al. (1995) is one of the most important and widely applied and exhibits the most power in earnings management detection. By referring to the work done by Dechow et al. (1995), discretionary accruals or earnings management is calculated in three steps as follows: Step 1: Estimate the values of parameters α0, α1, α2 and α3 from Equation 1: Step 2: Estimate non-discretionary accruals based on the above-estimated values of coefficients α, α1, α2, and α3 and Equation 2: Step 3: Discretionary accruals or earnings management can be achieved by Equation3: Where: t denotes year; EM is earnings management and also called the discretionary accruals; TAC is the total accrual, calculated as net income minus cash flow from operations; NDA is the nondiscretionary accruals; TAA is the firm’s total assets; Sale is the total changes in sales; ACC is the total changes in accounts receivables; FA is total fixed assets. Dang et al., Cogent Economics & Finance (2023), 11: 2290359 https://doi.org/10.1080/23322039.2023.2290359 Page 5 of 19 3.2. Measure for information asymmetry As discussed above, information asymmetry can exist between managers and shareholders, between insiders and outsiders, or among outsider investors. This paper focuses on the information imbalance between insiders and outside investors under the effects of earnings management. Drobetz et al. (2010) and Fosu et al. (2016) developed a measure for information asymmetry based on analyst’s forecasts of earnings per share (EPS). In detail, information asymmetry for one year is computed as the dispersion of analyst forecast, which is the standard deviation of forecasted EPS of all quarters in that year. For interpretation, a higher level of dispersion indicates greater information asymmetry (Drobetz et al., 2010). Equation 4 and Equation 5 specify the method to estimate information asymmetry. Where t and q denote year and quarter, respectively; ASYM is information asymmetry for each year; SD is the standard deviation; Forecasted EPS is the analyst’s forecasts of earnings per share (for one quarter); ROE is the return on equity ratio (calculated for each quarter in a year); RRE is the rate of retained earnings (estimated for each year). 3.3. Measure for stock price synchronicity Roll (1988) proposes that market-wide and industry variations cause a stock to co-move with the market while the firm fundamentals related to the price non-synchronicity. Based on this suggestion, he builds a traditional capital asset pricing model which employs the firm’s stock return as a dependent variable and the market and industry returns as explanatory variables to estimate the level of synchronicity of the firm’s stock price with the whole market. Synchronicity is presented by R-square, with R-square being the coefficient generated by the regression. Yet, when examining this measure, Morck et al. (2000) suggest a modified version of Roll’s (1988) model to resolve the issue of spurious results (which generally happens in emerging economies when few industries are more dominant than others) and the issue related to the naturally bounded values of R-square. Thus, we follow Morck et al. (2000) to compute stock price synchronicity. The coefficient of determination (R-square) is calculated from the regression Equation 6: Then, synchronicity can be defined as: Where: i and t denote firm and day, respectively; r it is the return of firm i at day t; r mt is the market return at day t; SYNCH is stock price synchronicity; R 2 is the coefficient of determination of the regression Equation 7. 3.4. Research models To test the impact of earnings management on information asymmetry and stock price synchronicity, we build two econometric models which both take earnings management as the Dang et al., Cogent Economics & Finance (2023), 11: 2290359 https://doi.org/10.1080/23322039.2023.2290359 Page 6 of 19 independent variable. We also control for the effects of audit quality (AUDIT), foreign ownership (FOWN), firm size (SIZE), managerial ownership (MOWN), firm age (AGE), and firm leverage (LEV) as they are documented in other research to have impacts on information asymmetry and stock price synchronicity. Nguyen et al. (2020), Ntow-Gyamfi et al. (2015), and Vo et al. (2019) found the critical role of audit and foreign investors on corporate mechanisms and disclosure quality improvement. Their research also provides evidence that firm leverage, size, and age are relevant in determining stock price synchronicity. Recent literature recognises the moderating role of audit quality and foreign investors in enhancing and improving earnings quality and the quality of financial reports in general. Therefore, our models also include the interaction terms between earnings management and the above variables. We also control for the effect of industry dummies and year dummies in the models. As proposed to our hypotheses, we expect that α1 will receive a positive value while α2 will show a negative value. Where i and t denote firm and year, respectively. SYN is the stock price synchronicity, measured by Roll’s (1988) modified model (see Equation 6 and Equation 7); ASYM is the information asymmetry, estimated by Equation 4 and Equation 5. EM stands for earnings management and is calculated through the model by Dechow et al. (1995) (see Equation 1, Equation 2, and (3)). AUDIT represents a firm’s audit quality, which receives a value of 1 if the firm is audited by a Big4, and a value of 0 if the firm is audited by other audit companies. FOWN is foreign ownership, measured as the rate of shares held by foreign investors. CONTROL represents other control variables, including firm size (SIZE), managerial ownership (MOWN), firm age (AGE), and firm leverage (LEV). SIZE is calculated as the natural logarithm of the firm total assets’ market value. MOWN is the proportion of shares held by the company directors, their spouses, and children. AGE is the number of the year from the time of the first operation. LEV is the total debt-to-equity ratio. 4. Descriptive statistic, results and discussion 4.1. Statistic description Our data is collected from the Hochiminh City Stock Exchange (HOSE), the major Exchange in Vietnam with more than 400 listed companies. To be included in the sampled data, a company must satisfy the following criteria: 1) to be a non-financial company (which means that banks, insurance companies, and securities companies are not eligible); 2) because the calculation of analyst’s forecast EPS is based on the value for previous year’s real EPS, we require that a sampled company should be listed for at least two years so it will have data of at least one year available for research. In the end, from ten years from 2012 to 2021, we received a sample with 356 listed firms and 3,683 observations. Table 1 illustrates the descriptive statistics of all dependent, explanatory, and control variables employed in our research. Earnings management (EM) can receive a negative or positive value. The maximum and minimum value is 1.908 and −2.255, respectively. The mean and median of EM are 0.132 and 0.019, respectively, indicating that more than half of the research observations have positive discretionary accruals or earnings management. 1 R-square is the coefficient determination of Roll’s (1988) modified market model. The R-square value indicates the degree to which a firm’s stock price co-moves with the market. SYN is the normalised form of R-square. As seen in Table 1, Dang et al., Cogent Economics & Finance (2023), 11: 2290359 https://doi.org/10.1080/23322039.2023.2290359 Page 7 of 19 accruals (Thu, 2023). Incentives to manage earnings through discretionary accruals vary, but they come with the exact costs (Cheng & Warfield, 2005). Literature on price synchronicity in the context of the Vietnamese market is limited, however, studies found in this regard support the positive link between stock co-movement and corporate governance. Specifically, Nguyen et al. (2022) and Vo (2017) reported that stock price synchronicity in the Vietnamese market and emerging markets has different inferences compared to developed countries. The lower level of price co-movement implies inefficient corporate governance and vice versa. Our research is distinguished from the two above papers as we investigate the effect of the earnings quality metric on synchronicity. However, our main findings strengthen Nguyen et al. (2022) and Vo (2017) interesting viewpoint that the Vietnamese market behaves differently from the conventional thought of price synchronicity. Earnings management creates more private or less market-wide and industry information incorporated in the share prices, which can harm the price co-movement and signify a low informational environment quality. For investors, stock price synchronicity is considered an indicator to evaluate the informativeness of the stock price and the quality of accounting information. This finding implies that when considering stock price synchronicity, market participants, especially outside investors, should look at the market context they are researching (Kelly, 2014; Li et al., 2014). It might be a big mistake to extrapolate the results of developed markets to developing ones, which can result in heavy financial losses due to differences in market characteristics and governance environment. Results for variables AUDIT and FOWN are relevant to the literature and our analysis. A Big Four is expected to be better at detecting and reporting discretionary earnings management activities as they have more financial resources to invest in staff training and developing methods and techniques of audit (Le et al., 2021). Therefore, it helps to mitigate earnings manipulations and increases the transparency and the quality of corporate reporting in general. So, the managerial decision to choose a Big Four audit service can positively impact the market, giving investors more confidence to trade the company’s stock. Previous studies also show that companies audited by more prominent audit firms can enjoy lower costs of capital (Hong et al., 2019; Houqe et al., 2017). Similarly, foreign investors’ appearance can improve the Vietnamese market’s informational environment because foreign ownership is essential in supplying market capital to a developing market like Vietnam. This finding is consistent with the conclusions of the majority of studies in literature on the positive and essential role of foreign investors in emerging markets that the presence of foreign investment in the market can help with more efficient start-up regulations, enhancing protection of minority investment, improving firm’s information environments, and demonstrating an overall positive influence of capital market liberalisation (Contractor et al., 2021; Zhang et al., 2023). Our results also align with agency theory, suggesting that audits, specifically external audits conducted by independent auditors and foreign ownership (FOWN), can effectively resolve agency problems, which then can help to enhance the quality of corporate reporting and decrease information imbalances among market participants and, hence, agency conflicts. Nevertheless, we received opposite outcomes for the moderating role of AUDIT and FOWN, although they were expected to be similar under both ASYM and SYN models. While the two models yield significant coefficients for interaction terms EM*AUDIT, they reject the effect of EM*FOWN on both dependent variables ASYM and SYN. The insignificant impact of EM*FOWN is unexpected, but it is also not inexplicable. It can be explained that foreign investors are essential participants in any market, especially in developing countries, as they contribute to the development of a market by improving the quality of the information environment and enhancing market liquidity (Vo, 2017). According to Vo et al. (2019), it is more difficult for foreign shareholders to manage earnings as “they face information disadvantages due to geographic distance, language barriers, and cultural differences”. However, the above limits are no longer significant obstacles thanks to technological improvements and globalisation. Foreign investors can effectively participate in company management, and eventually, they will act in their interest. As a result, foreign ownership can still use earnings management as an accounting tool and managerial strategy, Dang et al., Cogent Economics & Finance (2023), 11: 2290359 https://doi.org/10.1080/23322039.2023.2290359 Page 14 of 19 leading to a more complicated relationship among EM, AUDIT, and SYM or SYN. Based on the study’s outcome, we argue that foreign investors can behave differently depending on their role and the number of shares they hold in the company. The story may be completely different if they hold a controlling or relatively large stake and participate in running the company. They can act as a manager and involve earnings management in pursuing their interests. Besides the main findings, our outcome also shows that firm age (AGE) and firm size (FSIZE) are relevant predictors of information asymmetry and stock synchronicity. These findings are significant and relevant as they imply that more extensive and older companies should have more efficient corporate mechanisms, reporting, and disclosure, which can ensure maintaining public information transparency. Thus, it can reduce information asymmetry in the market and make the stocks more synchronous with the whole market’s movement. On the contrary, managerial ownership (MOWN) can hinder and harm transparency. Managers with significant ownership stakes may prioritise personal financial interests over shareholders, potentially leading to reluctance to disclose adverse information or engage in practices that manipulate financial performance. This lack of transparency can also be exacerbated by reduced external oversight, as independent board members and auditors may be less influenced or be less willing to challenge managerial decisions (Jensen & Meckling, 1976). Moreover, high managerial ownership can diminish manager’s accountability to external shareholders, further eroding transparency in their actions and reporting. 5. Conclusion This study centres around the effects of earnings management on the secondary financial market in Vietnam. We examine how accrual-based earnings management impacts the distribution of information among entities in the stock market and the synchronicity of stock prices with the whole Vietnamese market context. On the one hand, the main body of literature strongly agrees that high quality of information disclosed by firms in general and high quality of earnings, in particular, are “critical for the functioning of capital markets as an efficient allocator of scarce investment resources, reducing the extent of principal-agent information asymmetry and thereby improving firm liquidity whilst lowering the cost of financing” (Healy & Palepu, 2001). Due to its accounting nature, earnings management is considered a negative signal by the stock market. Based on these arguments, we proposed a hypothesis on the positive association between earnings management and information asymmetry. On the other hand, different viewpoints exist on the relationship between earnings management and stock price synchronicity. This is because there are two contrasting views on the stock return synchronicity’s content and implication related to the quality of the information environment in/or surrounding a firm. We, therefore, hypothesised and predicted a negative link between this variable and earnings management. Following model of Dechow et al. (1995) to estimate earnings management, we test our hypotheses by performing different regression models and considering extensive variables such as AUDIT FOWN. Our findings confirm the two proposed hypotheses and are consistent with previous findings that earnings manipulations through accrual bases can distort the market and exacerbate the problem of information asymmetry. There are differences in outside investor’s abilities to process and analyse earnings-related information. So, low quality of earnings can divide investors into the informed and uninformed and exacerbate the information asymmetry in the stock market. In addition, to a further extent, poor earnings quality, which represents a weak information environment at both the firm level (corporate governance) and market level (such as property rights protections and government index), can discourage investors from searching for and acquiring new information about firm-specific, reducing market liquidity and making stock price less informative. This supports our anticipation of a negative relationship between price co-movement and earnings manipulation. Additionally, we find that the size, age and audit quality of the firms Dang et al., Cogent Economics & Finance (2023), 11: 2290359 https://doi.org/10.1080/23322039.2023.2290359 Page 15 of 19 significantly and positively impact price synchronicity as these factors display the credibility of the firms, while the role of foreigner ownership is insignificant in terms of earnings management. Our paper has several managerial implications for businesses operating in the Vietnamese financial market and potentially for those in other emerging markets. First, given the positive association between earnings management and information asymmetry, managers should prioritise transparent and highquality financial reporting, enhancing investor trust and reducing information gaps between the company and its shareholders. Managers should shift their focus from short-term earnings manipulation to long-term value creation to attract long-term investors and reduce market skepticism by maintaining a commitment to sustainable growth and long-term profitability. Secondly, since the size, age and quality of audit play an important role in the stock price in Vietnam, investors should prioritise investments into the reputable companies with long history of incorporations, which are audited by Big Four audit firms to mitigate the market risks. This is especially important to foreign investors as based on our findings, the foreigner ownership has limited control on earnings management. Additionally, It is important to note that the specific managerial implications may vary depending on the industry, the company’s unique circumstances, and the regulatory environment. Managers should interpret these implications in the context of their own business and market dynamics and take appropriate actions to align their financial practices with long-term value creation and stakeholder interests. Besides, the research also has some limitations. First, our analysis focuses on the period from 2012 to 2021, in which the global and Vietnamese markets have been strongly affected by the COVID-19 pandemic. Therefore, extreme events such as lockdowns can affect the implications of the results for this period. Second, regarding variable measurements, earnings management and information asymmetry are complex concepts, and measuring them accurately can be challenging. Therefore, future studies might explore different measures and definitions of these variables, leading to varying results. In addition, the study’s findings are specific to the Vietnamese market, and it may not be appropriate to generalise them to other markets with different economic, regulatory, and cultural contexts. Therefore, future research is to employ different measures for research variables or examine the relationships in different emerging markets. Additionally, future research can group foreign investors according to the number of shares they hold to understand more insights into foreign investor’s behaviours towards earnings management and their role in the organisations. Acknowledgments The authors are grateful to Prof. David McMillan (Senior Editor) and three anonymous reviewers for many valuable comments and suggestions on earlier version of this paper. Funding This work was not supported by any funding. Author details Dong Quang Dang 1 E-mail: [email protected] ORCID ID: http://orcid.org/0009-0002-7526-0520 Ioannis Korkos 1 Weiou Wu 1 1 Business School, London South Bank University, London, UK. Disclosure statement No potential conflict of interest was reported by the author(s). Research data Data for the research is available upon request. Citation information Cite this article as: The effects of earnings management on information asymmetry and stock price synchronicity, Dong Quang Dang, Ioannis Korkos & Weiou Wu, Cogent Economics & Finance (2023), 11: 2290359. Note 1. We provide more statistical details for the negative EM group and positive EM group in Table A1 of the Appendix. References Abad, D., Cutillas-Gomariz, M. F., Sánchez-Ballesta, J. 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International Review of Financial Analysis, 90, 102796. https://doi.org/10. 1016/j.irfa.2023.102796 Dang et al., Cogent Economics & Finance (2023), 11: 2290359 https://doi.org/10.1080/23322039.2023.2290359 Page 18 of 19 Appendix Table A2. Descriptive statistics for FOWN and R-square of small groups Group 1 (FOWN >12.051) Group 2 (FOWN <12.051) FOWN R-square FOWN R-square Max 77.525 0.960 12.014 0.872 Min 0.000 0.000 0.000 0.000 Mean 19.703 0.089 7.937 0.066 SD 27.211 0.115 6.258 0.074 No. of Observations 1,841 1,841 Note: R-square is the coefficient of determination calculated from the regression Equation 4 FOWN is foreign ownership, measured as the rate of shares held by foreign investors. Table A1. Descriptive statistics for negative and positive EM EM EM <0 EM >0 Max 1.908 0.000 1.908 Min −2.255 −2.255 0.000 Mean 0.134 −0.084 0.326 SD 0.427 0.117 0.141 No. of Observations 3,683 1,729 1,954 Note: EM stands for earnings management and is calculated through the model by Dechow et al. (1995) (see Equation 1, Equation 2, and (3)). Dang et al., Cogent Economics & Finance (2023), 11: 2290359 https://doi.org/10.1080/23322039.2023.2290359 Page 19 of 19