Using Goodwill Impairment To Effect Earnings Management During SFAS No. 142s Year Of Adoption And Later

Abstract

Prior research (Bens and Heltzer, 2004) shows that the market penalizes firms less for reporting goodwill write-downs below-the-line than it does for presenting them above-the-line. Only in 2002, the year SFAS No. 142 became effective, did goodwill impairments enjoy below-the-line treatment. The current research provides evidence that firms “cherry picked” this year to recognize large impairment losses, thus removing much of the burden from future years when these losses otherwise would have been reported above-the-line. The study also indicates that, even though the number of firms taking goodwill write-offs declined subsequent to 2002, those entities that did so seemed to be taking these discretionary hits because earnings were already depressed in the current year. As such, the big bath earnings management observed in the year of adoption in previous studies (Jordan and Clark, 2004 and 2005) appears to continue even though these impairment losses no longer receive favorable below-the-line treatment.