The impact of CEOs’ accounting backgrounds on earnings management and conservatism

Nan Hu,Ling Liu,Rong Huang,Xu Li

doi:10.1108/jcc-10-2016-0016

Abstract

Purpose Existing literature in experimental accounting research suggests that accounting professionals and people with accounting backgrounds tend to have a lower level of moral reasoning and ethical development. Motivated by these findings, this paper aims to examine whether chief executive officers (CEOs) with accounting backgrounds have an impact on firms’ earnings management behavior and the level of accounting conservatism. Design/methodology/approach The authors classify CEOs into those with and without accounting backgrounds using BoardEx data. Using discretionary accruals from several different models, they do not find that CEOs with accounting backgrounds are more likely to engage in income-increasing accruals. However, the authors find that CEOs with accounting backgrounds exhibit lower levels of conservatism, proxied by C-scores and T-scores (Basu, 1997). This finding suggests that CEOs with accounting backgrounds recognize bad news more quickly than good news, consistent with the accounting principle of “anticipating all losses but anticipating no gains”. Findings The authors show that firms whose CEOs have accounting backgrounds exhibit lower levels of accounting conservatism. However, these firms do not exhibit higher levels of income-increasing discretionary accruals. This study documents the impact of CEOs’ educational backgrounds on firms’ accounting choices and confirms prior findings in experimental accounting research using large sample archival data. Originality/value This paper is the first study that investigates the impact of CEOs’ accounting backgrounds on firms’ financial reporting policy. The findings may have some policy implications. If accounting backgrounds of CEOs can make a significant difference on firms’ behavior, it is reasonable to make CEOs accountable for the quality of financial reporting. This paper is one of the first to empirically test inferences drawn by experimental accounting research. There has been a gap between archival and experimental accounting studies. The authors propose that interesting research questions can be addressed by filling in such a gap.

Highlights

Existing literature in experimental accounting research suggests that accounting professionals and people with accounting backgrounds tend to have a lower level of moral reasoning and ethical development (Tull, 1982; Armstrong, 1984, 1987; Ponemon, 1988, 1990; Shaub 1989; Ponemon and Gabhart, 1990; Ponemon and Glazer, 1990)
This paper examines whether chief executive officers (CEOs) with accounting backgrounds have an impact on firms’ earnings management behavior and the level of accounting conservatism
Consistent with the hypotheses developed from the experimental accounting research, we find that firms whose CEOs have accounting backgrounds exhibit lower levels of accounting conservatism, but not higher levels of income-increasing discretionary accruals

Summary

Introduction

Existing literature in experimental accounting research suggests that accounting professionals and people with accounting backgrounds tend to have a lower level of moral reasoning and ethical development (Tull, 1982; Armstrong, 1984, 1987; Ponemon, 1988, 1990; Shaub 1989; Ponemon and Gabhart, 1990; Ponemon and Glazer, 1990) Motivated by these findings, this paper examines whether chief executive officers (CEOs) with accounting backgrounds have an impact on firms’ earnings management behavior and the level of accounting conservatism. We find that CEOs with accounting backgrounds exhibit lower levels of conservatism, proxied by C-scores and T-scores (Basu, 1997) These findings are consistent with prior evidence in experimental studies that accountants strictly follow norms, codes and rules and are less likely to report conservatively.

Literature review and hypotheses development

Findings

Conclusion