CHAPTER ONE

INTRODUCTION

1.1 BACKGROUND OF THE STUDY

In the quest to optimize their objective, which hinges primarily on quantifiable performance, financial managers have adopted various capital structures as a means to that goal. A firm can finance its investment by debt and/or equity.

Leverage and earnings quality is a key concern for all investors and potential investors in any organization. As posited by Biddle et al. (2009), financial information quality is termed as the precision with which financial reporting conveys information about the firm’s operations, in particular its expected cash flows that inform equity investors. Their definition is consistent with the Financial Accounting Standards Board (FASB) Statement of Financial Accounting Concepts No. 1 (1978), which states that one objective of financial reporting is to inform present and potential investors in making rational investment decisions and in assessing the expected firm cash flows. Literature on stewardship accounting posits that an accounting number is deemed value relevant if it has a significant association with equity market value (Barth, Beaver, & Landsman, 2001), and could be used to estimate future returns (Beaver, 1968). Thus, if reported earnings are considered by investors to be value relevant and useful in estimating future returns, market value of shares and earnings should normally be related.

Corporate scandals in organization in the last decade and the collapse of big firms in recent around the world have raised concerns about leverage and earning quality which led to the passage of Sarbanes–Oxley Act which had a focus on the financial aspects of corporate governance. The Nigeria Banking Sector was not also free of these said corporate scandals which led to the various reforms by Central Bank of Nigeria (CBN) that forced some of those affected banks out of Business.

Leverage and earnings information is relevant to the extent that it is capable of influencing a decision maker by helping him/her to predict the outcomes of present event or to confirm or correct prior expectations (Bushman, Chen, Engel and Smith, 2004).

The use of fixed-charged funds, such as debt and preference capital along with the owner’s equity in the capital structure is described as leverage or gearing (Dare and Sola, 2010). An unlevered firm is an all-equity firm, whereas a levered firm is made up of ownership equity and debt. leverage takes the form of a loan or other borrowing (debt), the proceeds of which are (re)invested with the intent to earn a greater rate of return than the cost of interest. If the firm’s marginal rate of return on asset is higher than the rate of interest payable on the loan, then its overall return on equity will be higher than if it did not borrow (Laurent, 2005). On the other hand, if the firm’s return on assets is lower than the interest rate, then its return on equity (ROE) will be lower than if it did not borrow. Leverage allows a greater potential return to the investor than otherwise would have been available, but the potential loss is also greater: if the investment becomes worthless, the loan principal and all accrued interest on the loan still need to be repaid (Andy et al., 2002). This constitutes financial risk (Pandey; 2005). The degree of this financial risk is related to the firm’s financial  structure.  The total combination of common equity, preferred stock and short and long term liabilities is referred to as financial structure. That is, the manner in which the firm finances its assets constitutes its financial structure. If short-term liabilities are subtracted from the firm’s financial structure, we obtain its capital structure. In other words, the firm’s permanent or long- term financing consisting of common equity, preferred stock and long term debt is called capital structure.

It is to this end that the study examines leverage and earnings quality of Nigerian listed banks. The Deposit Money Banks is one of the most vital sectors in Nigeria economy such that whatever happens to it may affect other sector within the economy and as such it is important to study these internal and external variables that may affect the leverage and earnings quality of Banks.

1.2 STATEMENT OF THE PROBLEM

Leverage and earnings quality has become a global concern particularly in recent time due to the reported cases of corporate failures arising from improper, false and misleading financial reporting in firms which hitherto had enjoyed good reputation due to the track record of great success in their lines of business (Agrawal and Chadha, 2005). A financial statement is said to be misleading if it lacks the qualities of accuracy, relevancy, comparability, reliability, compatibility and it contains fundamental errors or is prepared with the intention to deceive and/or confuse the users. Such deception can be carried out in a number of ways, among which are distortions of accounting records, falsification and omission of transactions, or misapplication of accounting principles (Higgs, 2003).

Leverage and earning quality plays a vital role in constraining managers (account information preparers) from man over the accounting numbers which will ultimately improve the quality of reported accounting information. There has been inconclusive findings and divergent views in prior literatures as to whether firm leverage and earning quality have impact on performance and financial information quality. Fraud is a complex phenomenon; It is rampant in both private and public sectors of Nigeria Economy.

1.3 OBJECTIVE OF STUDY

The main objective of the study is to examine leverage earnings quality of Nigerian listed banks. The specific objectives are as follows:

i.        To examine the Impact of Firm Size on earning quality of listed Banks in Nigeria.

ii.       To determine the effect of Dividend on Financial information quality of listed Banks in Nigeria;

iii.      To assess the Influence of Leverage on Financial information quality of listed Deposit Money Banks in Nigeria.

iv.      To determine the Impact of Firm Growth on earnings quality of listed Banks in Nigeria.

1.4 THE RESEARCH QUESTIONS

The following question shall be in the course of this research study.

i.        What is the extent to which firm size Impact on earning quality of listed Banks in Nigeria?

ii.       Does dividend influence Financial information quality of listed Banks in Nigeria?

iii.      Does Leverage influence earnings quality of listed Deposit Money Banks in Nigeria?

iv.      To what extent does Firm Growth influences on earnings quality of listed Banks in Nigeria.

1.5 RESEARCH HYPOTHESES

The following are the research hypotheses:

HO:   There is a significant impact of leverage and earnings of Nigerian Listed Banks.

HO:   There is no significant impact of leverage and earnings of Nigerian Listed Banks.

1.6 SIGNIFICANCE OF THE STUDY

This research is on leverage and earnings quality of Nigerian listed banks, and it will be beneficial to the Nigerian banking sector, this research work will serve as a framework for scholars and students who are researching into similar topics, most especially students of Accountancy department of KEN SARO-WIWA POLYTECHNIC, BORI, RIVERS STATE, and other institutions of learning. The study is also intended to provide a yardstick for the banking sector, Nigerian government, accountant, auditors and the society at large on influence of value for money audit on the profitability of manufacturing firms.

1.7 SCOPE OF THE STUDY

Basically, the scope of this research work is on leverage and earnings quality of Nigerian Listed banks. The study is centered on assessing the influence of Economic Growth, Firm Size, Dividend, Leverage and Firm  Growth  on  Financial  information  quality  of  Nigerian Listed  Banks.

The study limits scope to some selected Banks in Rivers State which include First Bank, Union Bank, FCMB and ECOBANK.

1.8 LIMITATION OF THE STUDY

In carrying out an investigation of this native the researcher must of necessity be faced the following constraint.

Firstly, the time constraint’s the time frame provision for this study was short.

Secondly, financial constraints. Usually, a study of this nature involved some level of expenditure therefore, finance was also a limiting factor.

Thirdly, poor response from the respondent and inability to access the entire population of the study. In the next segment significance of the study will be discussed. Lastly, poor measurement instrument.

1.9 DEFINITION OF TERMS

Banks:        A bank is a financial institution licensed to receive deposits and make loans.

Earnings:    Income derived from an investment or product.

Financial information:   It is a formal record of the financial activities and position of a business, person, or other entity.

Leverage:    The ratio of a company’s loan capital (debt) to the value of its ordinary shares (equity); gearing.

Quality:      The standard of something as measured against other things of a similar kind; the degree of excellence of something.