Institutional Ownership, External Auditor Reputation, Financial Leverage, and Earnings Management

Profits show the performance of managers before the related parties, such as investors and creditors. Therefore, managers often incorrectly state them in the published annual financial reports to protect their reputation. Undoubtedly, this action needs to be reduced by the governance mechanism, like supervision by institutions as the owner and audit by the external public accountant firm. To control these two effects on profits management, additionally, this study employs financial leverage. This study aims to prove the impact of institutional ownership, the external auditor reputation, and financial leverage on profits management. The population and the samples are the non-financial companies establishing the LQ45 index from 2014 to 2018, getting taken by the simple random sampling technique. Also, the regression model performs as the technique to examine the data. By denoting the testing of the hypothesis results and the discussion section, this study summarizes that institutional ownership and reputable external auditor effectively decrease profits management. Additionally, although firms have much debt, they cut the tendency to manage their profits because of applying transparency.


INTRODUCTION
For a company, profits are the end goal. By owning them, the company can positively contribute to shareholder prosperity, business expansion (Kasmir, 2013), and build a reputation before creditors (Gitman & Zutter, 2012). Moreover, these profits are recorded and announced to the public (Siallagan & Machfoedz, 2006). Regarding these profits directly reflect the manager's operational performance (Kasmir, 2013); consequently, to protect their reputation, managers do not correctly report them (Merchant & Rockness, 1994).
One way to decrease the possibility of profit management is by implementing a virtuous governance mechanism. In this context, the company can handle it by demanding institutions as its owner (Herawaty, 2008). According to Herawaty (2008), enhancing the proportion of institution shares is an effective way to reduce it. This action stands affirmed by the study result of Sumanto, Asrori, & Kiswanto (2014), Ajay & Madhumathi (2015), Gumilang, Suhadak, & Mangesti (2015) that reports the higher portion of the share the institutions have, the lower the profit management occurs.
Additionally, high leverage can cut the firm's tendency to manage its profits as long as it applies transparency. This propensity stands confirmed by the study of Kao & Chen (2004), Emamgholipour, Bagheri, Mansourinia, & Arabi (2013), Firnanti, Pirzada, & Budiman (2019), showing a negative effect of financial leverage on profits management.
To prove the effectiveness of institutions becoming the owner, the external auditor's reputation, and financial leverage on profits management, this study takes the companies forming the LQ45 index between 2014 and 20188. As reputable companies in their market capitalization, these companies should be able to overcome profits management.
The institutions having the dominant stock portion in the public company usually consist of banks, pension funds, investment trust, investment companies (Yang, Chun, & Ramadili, 2009). In good governance, these institutions actively monitor and supervise top managers. Consequently, the propensity of managers for managing profits goes down (Ajay & Madhumathi, 2015). They do it because of the institutions' proxy fight, which probably makes them fired up (Rose, Westerfield, & Jaffe, 2010). This argument obtains the confirmation of Sumanto et al. (2014), Ajay & Madhumathi (2015), and Gumilang et al. (2015), showing a negative effect of institutional ownership on profits management. By mentioning this explanation, planned hypothesis one is as follows. H1: The influence of institutional ownership on profits management is negative.
When the audit function runs perfectly, profits management does not certainly occur. To attain this condition, the public accounting firm needs to exist (Lopes, 2018). As the service scope, besides tax consulting, this firm provides the auditing service (Wen, Yang, Bu, Diers, & Wang, 2018). Because of the unsatisfactory situation, the technical competence and independence possessed by the auditors affiliated with the big four can only shrink the tendency of earnings management (Lopes, 2018). This statement also obtains confirmation from Kao & Chen (2004), Yang et al. (2009), Herlambang & Darsono (2015, Shirzad & Haghighi (2015), Sastrawati & Hatane (2016), Lopes (2018), andFirnanti et al. (2019). They reveal that the existence of the big four affiliated with public accounting firms can reduce the potency of managing profits. By mentioning this explanation, planned hypothesis two is as follows. H2: The influence of reputable external auditors on profits management is negative.
Financial leverage shows the use of debt for funding the company's assets (Sartono, 2008). The managers in the company with high liabilities usually tend to manage the profits because they want to ensure the creditors that the company managed still look good (Yang et al., 2009). Unlike this company, a company implementing transparency will disclose its real condition to the public (Tjager, Alijoyo, Djemat, & Soembodo, 2003). As a consequence, the managers do not tend to manipulate profit even though the firm has a significant portion of the debt, as Kao & Chen (2004), Emamgholipour et al. (2013), Firnanti et al. (2019) express. By mentioning this explanation, planned hypothesis three is as follows. H3: The influence of financial leverage on profits management is positive.

The Variable Definition
There are two types of variables employed in this study. Firstly, the explained variable, profit management, is measured by the ratio of accrual working capital to revenue (AWCR) at the end of the year. This proxy refers to Suhardianto & Harymawan (2011). Secondly, the explaining variables: i.e., institutional ownership, external auditor reputation, and financial leverage. a. Related to institutional ownership (IO), the ratio of shares owned by institutions at the end of the year becomes this proxy. It denotes Asrori & Kiswanto (2014), Ajay & Madhumathi (2015), and Gumilang et al. (2015). b.
Related to the reputation of external auditors (DBIG4), the dummy variable of the firms hiring the big four auditors (DBIG4=1) and non-big four auditors (DBIG4=0) at the end of the year becomes this proxy. It denotes Kao & Chen (2004) Related to financial leverage, we use the debt to total asset ratio (DAR) at the end of the year as the proxy. It denotes Kao & Chen (2004), Emamgholipour et al. (2013), and Firnanti et al. (2019).

Population and Samples
This study utilizes the non-financial companies forming the LQ45 index on the Indonesia Stock Exchange between 2014 and 2018 as the population. These companies get picked up because of the same structure of the debt.

The method for analyzing the data
By checking the nature of the research variables, the suitable method to analyze data is the regression model with pooled data, as seen in the second equation.

III. RESULT AND DISCUSSION
The result displayed in this section consists of the explanation of the classical assumption test (see point 3.1), the regression model estimation (see point 3.2), the hypothesis testing (see point 3.3), and the discussion presenting the hypothesis testing clarification (see point 3.4)

The result of the classical assumption tests
In this study, the regression model's residuals do not meet the normality test, mirrored by the asymptotic probability (2-tailed) of the Z-statistic Kolmogorov-Smirnov of 0.001, as displayed in Table 2, which is less than 5% significance level. By seeing the number of observations, this condition gets allowed because of the central limit (Bowerman & O'Connell, 2003).
• As seen in Table 4, the Z-statistic's asymptotic probability of the runs test based on mean is 0.365. Because this value goes beyond a 5% significance level, the autocorrelation does not exist. • As displayed in Table 5, IO, DBGIG4, and DAR's variance inflation factor is 1.002, 1.099, and 1.098. All these values are less than 10; therefore, the multicollinearity is not available.  Table 6 exhibits the regression model's estimation result showing the influence of institutional ownership, reputable external auditor, and debt policy on profits management and the information related to the hypotheses testing, like the probability of t-statistic for each independent variable: IO, DBIG, and DAR.

The result of the hypothesis testing
Contrasting the probability value of the t-statistic (see Table 6) with the significance level (α) of 5% is vital to test the null hypotheses one, two, and three. This value has to be less than 5% to reject these hypotheses.
• IO has a probability value of 0.0193. Therefore, the first null hypothesis becomes banned. Instead, the first hypothesis becoming the alternative gets accepted. • DBIG4 has a probability value of 0.0000. Hence, the second null hypothesis becomes disallowed. Instead, the second hypothesis becoming the alternative gets supported. • DAR has a probability value of 0.0184. Consequently, the third null hypothesis becomes rejected. Instead, the third hypothesis becoming the alternative gets acknowledged.

Discussion
Based on the hypotheses testing, this research expresses three pieces of evidence. Firstly, institutional ownership decreases profits management. This situation means the monitoring done by the institutions is effective because of the proxy fight right. If they use this proxy, they can replace the position of existing managers with the new ones. Therefore, managers will obey what the institutions want. Based on this fact, this research affirms Sumanto et al. (2014), Ajay & Madhumathi (2015), and Gumilang et al. (2015).
Secondly, the reputable external auditor reduces profits management. This condition means the public accountant firms (PAF) allied with the big four auditors can diminish earnings management. Unlike the PAFs associated with non-big four auditors, the PAFs connected with the big four auditors have more competency and independence. Finally, debt policy lessens profits management. This circumstance is only for the firms applying transparency. The managers in these firms attempt to report the actual earnings while the liabilities position goes up. Based on this fact, this research supports Kao & Chen (2004), Emamgholipour et al. (2013), and Firnanti et al. (2019).
By considering the results, this study recommends several things to the firms to reduce the manager's tendency to manage the profits. Firstly, to monitor managers effectively, the institutions must participate actively and operate the proxy contest if managers do not want to follow the reputable firm's rules without the earnings management issue. Secondly, the firms suggest employing public accountant firms affiliated with the big four auditors. Thirdly, applying the transparency principle as the foundation of the managers to work.

IV. CONCLUSION AND RECOMMENDATIONS
This study aims to prove the effect of institutional ownership, the external auditor reputation, and financial leverage on profits management of the non-financial companies becoming the member LQ45 index from 2014 to 2018 as the sample. Based on the examined hypotheses and the discussed results, this study infers three pieces of evidence. 1.
The effect of institutional ownership on profits management is negative.

2.
The effect of the external auditor's reputation on profits management is negative. 3.
The effect of financial leverage on profits management is negative.
As the limitations, this study only uses the non-financial companies forming the LQ45 index, five years as the number of periods, and three contributing factors of earnings management. Three situations expose the chance for the next research to: a. Utilize all the non-financial firms in the Indonesia stock exchange to result in the broader conclusion about these three determinants of earnings management; b.
Outstretch number of periods into 10 or 15 years; c.
Apply the other explaining variables of profit management like managerial ownership, the supervising board-related measures (board size, independence, meeting), audit committee size, firm size, firm growth, growth opportunity, company age, profitability, free cash flow, asymmetric information, cash flow from operating activity.