Determinants of accounting choices in Egypt : an empirical study
The positive accounting theory (PAT) approach hypothesises that, in imperfect markets, accounting choice may be determined by managers seeking to influence reported earnings and capital structure (Watts and Zimmerman, 1978). In particular, PAT argues that accounting choices are likely to be motivated by factors such as managers' bonus schemes, the firm's debt/equity ratios and the wider political influence of third parties (Watts and Zimmerman, 1978; 1986). Most prior literature focuses on Western countries, primarily the USA. However, this literature is limited by the manner in which ownership is measured as well as in the theorising of the link between ownership structure and PAT hypotheses. PAT predications have not yet been extensively examined in developing countries. The Egyptian empirical context of this thesis provides a valuable opportunity to examine accounting choices in a relatively recently established, and rapidly growing, capital market. Specifically, the thesis suggests that such choices are likely to be different in manager-controlled firms from those in owner-controlled firms because agency issues vary between the two categories of companies. In particular, the consequences of managers' relationships with their owners are considered for the two types of firms. These consequences are then examined within the extant literature of the PAT hypotheses. This study develops PAT's basic hypotheses in the Egyptian context and tests them using both (a) data from the Cairo stock exchange on publicly traded companies and (b) questionnaire-based data that includes many smaller privately owned companies. The sample for the questionnaire survey consists of the 320 largest firms operating in the Cairo area, Alexandria and Menoufia. The sample of the database consists of the 118 most frequently traded firms listed on the Cairo stock exchange: the data was collected from the annual reports published during the period 1999-2001. Two accounting alternatives were chosen as dependent variables in the current study: the depreciation policy and the inventory valuation decisions of the firms responding to the questionnaire survey and included in the database. The economic factors considered in the current study that might influence a firm's choice of accounting methods are the firm's ownership/control status, the existence of bonus schemes, a firm's leverage characteristics and a firm's size. The data obtained using these methods are then statistically analysed in order to determine if significant conclusions can he achieved by using both univariate and multivariate analysis. The findings from the study as a whole (including both univariate and multivariate analyses) are broadly consistent with the main bonus plans contracting and debt-covenant hypotheses. These findings suggest that the existence of management incentive plans are significantly related to depreciation policies and inventory valuation methods that increase accounting income. Moreover, there is some evidence that the leverage characteristics of firms are related to the choices of depreciation policies and inventory valuation methods. However, the nature and influence of political visibility on managers' accounting choices is unclear. Even the largest companies tend to adopt income-increasing accounting methods. Such behaviour is consistent with managers believing that there are no significant political costs associated with increasing levels of income for large entities. It is possible that accounting choices in Egypt reflect the historical, cultural, fiscal and regulatory influences that exist in that country. Overall the study provides evidence to support the relevance of the identified explicit contracting PAT hypotheses to accounting in Egypt, but it lends no empirical support for the relevance of the implicit political costs contracting theory hypothesis in Egypt. The general conclusion that can be derived from the analysis undertaken within the present study is that PAT hypotheses may offer some explanations about accounting choices in developing countries - particularly Egypt. Even though the PAT approach is in effect based on North American contract analysis and on a US style institutional environment, it appears to offer useful insights into how Egyptian managers choose between discretionary accounting alternatives in dissimilar ownership/control status. It remains likely that PAT hypotheses that are well supported in the USA may not be appropriate in many other countries so that additional (and in some cases, different) variables may be needed to explain accounting policy choices in some economies.