The role of management control systems in reducing and preventing managerial misreporting: A critical analysis

Abstract

To manage the company efficiently, management control systems depend on truthful information from their employees. In contrast to the classical principal-agent theory, in which managers represent purely self-interested individuals, behavioral science research has shown that honesty preferences play a role in managers' decisions. The aim of this thesis is to investigate how management control systems can contribute to reducing and preventing managerial misreporting through a clever design of control instruments. The object-of-control framework of Merchant/Van der Stede (2017) is used in the context of this study. Based on literature, formal and informal control instruments are examined for their potential to bring truthful reporting in the interest of the company. The results show that management control systems can contribute to reducing and preventing managerial misreporting through a clever design of the control instruments, and that companies can benefit from managers’ honesty preferences. The management control system should take care to behave fairly toward managers itself and, in particular, implement measures that improve social norms for honesty in the company, thereby creating a mutual-monitoring effect. Since control instruments can also have a negative impact on truthful reporting if they are poorly designed, companies should ensure that their management control system is holistically designed.

Keyowrds: Managerial misreporting; management control system; honesty; disclosure; formal and informal controls.