Bank Earnings Management using Commission and Fee Income: the Role of Investor Protection and Economic Fluctuation

We investigate whether banks use commission and fee income to manage reported earnings as an income-increasing or income smoothing strategy. We find that banks use commission and fee income for income smoothing purposes and this behaviour persist during recessionary periods and in environments with stronger investor protection. The implication of the findings is that bank non-interest income which achieves diversification gains to banks is also used to manipulate reported earnings. Our findings show that real earnings management is prevalent among banks in Africa. Further research into earnings management should examine real earnings management among non-financial firms in developing regions. From an accounting standard setting perspective, our evidence suggests the need for national/international standard setters to adopt strict revenue recognition rules that ensure that banks or firms report the actual fees they make, and to discourage banks from delaying (or deferring) the collection of fee income to manage or smooth reported earnings opportunistically.