Authors: George Peppas, George Golfis

Title: Loan Loss Provisions, Earnings Management and Net Interest Margin: The Case of EU Commercial Banks

Abstract

Earnings management is a phenomenon observed in throughout the entire range of companies. The banking industry has two extra characteristics, high leverage and the obligation of compliance of the capital adequacy criteria arising from Basel III. In light of the above characteristics, banks have additional incentives to manipulate financial statements to conform to the requirements of capital adequacy and to ensure greater profits through the holding of smaller capital reserves. In our paper, we analyze the ways of manipulation of financial statements of banks and we examine if banks use loan loss provisions to manipulate earnings. In addition to the above, we investigate weather, investigate whether the net interest margin can be used as an estimator of loan loss provisions and if the banks with a lower net interest margin manipulate their earnings through the use of loan loss provisions. We conclude that the banks that have with a lower net interest margin (in their countries) underestimate loan loss provisions in order to manipulate their earnings.