Analysis of agency conflict with emphasis on aspects of earnings management, audit quality, and cost of equity: Game theory approach

Subject Areas : Financial Economics

Zahra   Moghadam ¹ (Ph.D. student in Accounting, Urmia University, Urmia, Iran, [e-mail])
Hamzeh  Didar ² (Department of Accounting, Faculty of Economics and Management, Urmia University, Urmia, Iran)
Kiumars  Shahbazi ³ (Urmia Un.Department of Economic Sciences, Urmia University, Urmia, Iran, [e-mail])
Ali  Ebadian ⁴ (Department of Mathematics, Urmia University, Urmia, Iran, [e-mail])

Received: 2023-08-23 Accepted : 2024-01-30 Published : 2024-02-10

Keywords: Aspects of Earnings Management, Game Theory, Nash Equilibrium, Audit Quality, Cost of Equity.,

Abstract :

This article aims to describe and explain the strategic behavior of managers and shareholders in the interactive conflict environment of joint-stock firms using the tools of game theory, specifically through signaling games. Managers, considering the quality of internal controls, engage in both deceptive and informative earnings management strategies. Shareholders then respond with strategies involving high or low capital costs and opt for either high or low-quality audit services. The findings of the research outline the theoretical conditions necessary for establishing balance in strategies such as deceptive earnings management with high capital costs and deceptive earnings management with high-quality audit services in environments characterized by weak internal controls. Additionally, it highlights the conditions required to establish equilibrium in strategies like informative earnings management with low capital costs and informative earnings management with low-quality audit services within environments boasting strong internal controls.

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