Determinants Of Earnings Management: Empirical Evidence from Sharia-Compliant and Non-Sharia-Compliant Firms of Pakistan Stock Exchange

Abstract

The present study explores Earnings Management (EM) in both Sharia-compliant (SC) and non-Sharia-compliant (NC) firms listed on the Pakistan Stock Exchange (PSX) during 2016-2025. This study employs a balanced panel data set of 2,900 firm-year observations (117 NC firms and 173 SC firms) and the Modified Jones Model is used to estimate earnings management as discretionary accruals. The results of the Generalised Least Squares Random Effects regression are validated by the Breusch-Pagan, Hausman, Wooldridge and Modified Wald tests and indicate that both quality of corporate governance and financial distress are significant for explaining the EM in NC firms, whereas financial reputation (Tobin's Q) and return on equity are significant in SC firms. By using multiple methods, the comparative analysis shows that the mean EM is significantly lower than that of the other firms, the variance is smaller, and the absolute magnitude of accruals is smaller among the SC firms. A Chow test is used to test for structural differences in the determinant coefficient vectors between the two groups. Overall, the results contribute to the Islamic corporate governance (ICG) literature by showing how Sharia compliance changes the earnings management landscape in the Pakistani capital markets and what implications it carries for the regulators, investors, and standard-setters.