The Impact of Financial Leverage on Accrual-Based and Real Earnings Management

Abstract

A review of accounting literature on earnings management indicates that leverage limits earnings management due to the scrutiny of auditors and regulators. Since these studies survey the relation between leverage and accrual-based earnings management, it is predicted that leveraged firms manage their earnings through real activities manipulation. Therefore the purpose of this paper is to examine whether leverage lead to move from accrual-based earnings management to real earnings management. The statistic sample of the paper is including 118 firms listed in Tehran Stock Exchange over the period of 2008- 2013. The multiple regressions analysis based on paneled data was the methodology employed for verifying the relations between leverage and two strategies of earnings management. The results indicate that managers tend to engage more in real earnings management than accrual-based earnings management once leverage is increasing. This finding highlight that focusing only on accrual-based earnings management underestimates the total earnings management activities.