Use Of Discretionary Accruals Research Articles

Earnings Management in the Charitable Sector: A Canadian Study

This article examines whether charitable organizations use discretionary accruals to manage their surplus or deficit. Linear regression was used to analyze the financial data of a broad sample of Canadian charitable organizations. Results showed that discretionary accruals were used to manage these income figures. This approach is compounded by the magnitude of grants, public benefit, and leverage. The results hold whether the charity anticipates a surplus or a deficit, but not if it displays a high level of public benefit. In that case, charities with an anticipated surplus increase their use of discretionary accruals to decrease earnings, whereas charities that anticipate a deficit are not inclined to manage their deficit toward zero. This study complements prior literature on nonprofits and shows that even though tax laws differ among countries, charity managers in various contexts are motivated to manage earnings and are influenced by various factors in doing so.

Earnings management and impression management: European evidence

This study explores the relationship between Earnings Management and Impression Management in the context of some European listed companies. The analysis focuses on the readability of annual reports, measured by the file size. Earnings management is assessed using the modified Jones model. The sample consists of 2,953 listed companies from 17 industries of 24 European countries between 2012 and 2018 resulting in 13,020 firm-year observations. It has been found that one standard deviation increase in financial reports file size increases discretionary accruals in around 4%. These results are robust across different sample specifications in terms of firms’ size, industry and country. The findings show that increased intensity in the use of discretionary accruals is obfuscated by the disclosure of less readable annual reports, implying that Earnings Management and Impression Management are used complementarily. The conclusions have impact both for investment management and for policy, preventing inefficient allocation of capital budgeting and providing additional information that improves regulation on financial reporting transparency. AcknowledgmentThe authors are grateful to financial support from FCT – Fundação para a Ciência e Tecnologia (Portugal), national funding through research grant (UID/SOC/04521/2020).

The credibility of earnings announced by new stock companies: accrual and real earnings management

Research background: An initial public offering (IPO) creates an excellent opportunity to research the impact of changes in the institutional environment of companies on the trustworthiness of the information disclosed in financial statements.
 Purpose of the article: The main aim of the study is to analyze the use of accrual and real earnings management to inflate earnings, revenue, or total assets around the going public event. Therefore, this paper contributes to the stream of study on the quality of financial reporting of new stock companies.
 Methods: Two main approaches reflect the use of various types of earnings management activities, i.e., discretionary accruals and real earnings management. In both cases, it was necessary to use proper OLS method estimated models to identify the normal level of categories that affect the results reported in financial statements.
 Findings & value added: Based on a sample of 183 IPOs from the Warsaw Stock Exchange between 2005 and 2015, generally, managers of newly-listed companies actively use discretionary accruals, reduce production costs and certain discretionary expenses, and abnormal cash flows from operations ? i.e., all proxies of earnings management used in the paper ? in the periods around the IPO. In the period prior to the IPO, managers more often introduce techniques typical of the real sphere of the company's operations, in particular, the deliberate modeling of certain discretionary costs. In turn, the use of discretionary accruals dominates in the year after the IPO.

Earnings Management of Insolvent Firms and the Prediction of Corporate Defaults via Discretionary Accruals

Studies on the characteristics of insolvent firms’ earnings management are critical, as the ripple effects of a firm’s opportunistic accounting and insolvency on society can be widespread and significant. This study divides a dataset of unlisted firms into four groups (large firms that have received external audits; small- and medium-sized enterprises (SMEs) that received external audits; SMES that did not receive external audits; private businesses that did not receive external audits) and analyzes whether there are differences in terms of the discretionary accruals between groups. This study also uses discrete time logit regression to determine if the use of discretionary accruals is predictive of whether unlisted firms would become insolvent. This study used several models (a modified Jones model, a Kothari model, and performance matching model by ROA group) to measure discretionary accruals, which was used as a proxy for earnings management. The results of our study showed that, in the one year prior to insolvency, discretionary accruals were largest among non-externally audited private firms, followed by those of non-externally audited SMEs, externally audited SMEs, and externally audited large firms. The discretionary accruals of non-insolvent firms were larger than those of insolvent firms from the period of one year to three years preceding insolvency, and this difference increased as insolvency approached. The discretionary accruals were shown to have the ability to predict whether or not firms would become insolvent in two to three years before the occurrence of insolvency, but they did not support prediction for one year before the occurrence of insolvency. The findings suggest that additional accounting information should be used together to predict insolvency for unlisted firms.

Exploring the impact of corporate social responsibility on real earning management and discretionary accruals

AbstractCorporate social responsibility (CSR) and earning management have become important to firm’s operation. Previous researches use of discretionary accruals (DA) as a proxy variable for earnings management can easily result in errors in empirical analysis. Thus, this study uses the CSR index proposed by Chen et al. 2013. Journal of American Business Review, 2, 181–188, discretional accrual and real earning management to examine the association with CSR, earning management, and firm value. The empirical results find that the firm engages CSR not only to increase more information transparency of CSR and creating interaction with stakeholders but also to reduce earning management phenomenon. When firm has lower CSR performance, it has prone to earning management. In addition, CSR performance can enhance firm value, but the firm engage CSR to cover up and shift attention away from earnings manipulation by managers, it would decrease firm value.

Aggregate Discretionary Accruals and Future Market Returns: International Evidence

We conduct a cross-country analysis to provide further insight into the “lean-against-the-wind” hypothesis of aggregate discretionary accruals (Kang et al. 2010), i.e., opportunistic use of discretionary accruals in times of market undervaluation. We investigate whether the reversal of firm-level effect extends to non-U.S. firms and identify institutional factors that affect the association between aggregate discretionary accruals and future market returns. We find that the association between aggregate discretionary accruals and future market returns is less positive in countries with stronger disclosure requirements and more in countries with greater financial analysts, suggesting that aggregate discretionary accruals contain less garbling component in stronger legal/regulation environments and more garbling component in countries where the market incentive to manipulate earnings is high. We also use a K-median clustering to classify the sample countries into two clusters using seven country-level institutional variables. The results suggest that countries that have institutional features that lead to earnings management have greater coefficients on aggregate discretionary accruals, while countries that have institutional characteristics that mitigate earnings management behavior have smaller coefficients on aggregate discretionary accruals. In sum, our results are broadly consistent with the “lean-against-the-wind” hypothesis and highlight the role of institutional and socio-economic factors in understanding the phenomenon.

Rule- vs. Principle-Based Accounting Standard and Earnings Characteristics : An Analysis Using ASC 606

We examine the effect of the adoption of the new revenue recognition standard (ASC 606) on earnings quality and the role of earnings in the debt market. We find that ASC 606, a transition from a rules-based to a principles-based accounting standard, decreases earnings predictability, which is demonstrated by increased absolute analyst forecast error and analyst forecast dispersion, and increases the use of discretion in preparing earnings numbers, which is demonstrated by increased discretionary accruals. In addition, the use of earnings-based covenants decreases in debt contracting, while the use of capital-based covenants increases, which indicates a decrease in the usefulness of earnings numbers in contracting. In terms of the stock market response, overall, the earnings response coefficient (ERC) does not change after the new rule. However, following the adoption, the ERC has increased for firms with high institutional holdings and decreased for firms with low institutional holdings. Our analysis supports the idea that this is due to monitoring from institutional investors curbing the use of discretionary accruals.

The role of discretionary accruals and the relevance of accounting profit for algerian companies

The goal ofthis study is to examine the extent ofearnings management activity and its effect on the consistency of financial reporting released by listed and unquoted Algerian firms in the Algiers Stock Exchange following the introduction of IFRS (International Financial Reporting Standards) in 2009 and to test the influence of positive accounting theory on earnings management practices. In order to determine the appropriate model, we gathered datafrom 42 companies in various sectors ofactivity for the period 20112015 and, with these data, we were able to retrieve 3 companies due to the issue of discontinuity of their results. This relation was measured and analyzed using the multiple regression test established in scientific literature used to assess the use of discretionary accruals. The findings of the study indicate that Algerian companies have practiced earnings management over various years of study and we ended up choosing a Jones model.

Chalk It Up to Experience: CEO General Ability and Earnings Management

We provide evidence that firms managed by CEOs with high general ability, or broad experience in their background, are more likely to utilize discretionary accruals and also realize more earnings restatements than CEOs with focused experience. This appears to be a result of transitions to CEOs with high general ability and not simply a selection of these CEOs by firms that utilize discretionary accruals extensively. Cross-sectional variation suggests that the mechanism underlying the increased use of discretionary accruals is generalist CEOs’ increased willingness to bear the risk inherent in managing earnings given their enhanced tolerance for failure stemming from outside career options.

Is Earnings Quality Associated with Corporate Social Responsibility? Evidence from the Korean Market

Socially responsible firms are believed to behave in a responsible manner to restrict earnings management and thus deliver more reliable and transparent financial information to investors. We test this hypothesis by predicting a higher quality of financial reporting for socially responsible firms in the Korean market. The entire sample analysis provides evidence for the hypothesis in the use of discretionary accruals as proxy variables for the quality of financial reporting. However, our sub-sample analysis indicates that such weak support is driven by a group of environmentally sensitive firms and the affiliates of large family-owned conglomerates, or chaebol. Socially responsible firms are less likely to be involved with earnings management in the group of non-environmentally sensitive industries and non-chaebol affiliates. These firms provide a better quality of financial reporting in terms of both the use of discretionary accruals and real activity manipulations. In line with recent studies, our findings suggest that ethical concerns in producing high-quality financial reports rely significantly on firm characteristics.

Accounting Information Quality of Latin American Firms: The Influence of The Regulatory Environment

Objective: This study aimed to investigate the relationship between the regulatory environment and the quality of the accounting information of Latin American companies, specifically regarding earnings management through accruals. Background : It is believed that the regulatory environment in which firms operate has an influence on the informational quality of disclosed financial reports, since by monitoring information regulatory bodies increase incentives for the elaboration of high quality financial reports (Shima & Gordon, 2011). On the other hand, other authors such as Silva, Galdi and Teixeira (2010) point out that when regulation originates from agencies linked to the state, governments susceptible to popular reaction could establish stricter rules or control sectors in a strategic way. Thus, companies regulated by public bodies could use earnings management practices in certain periods, such as election years. Method: The study sample was comprised of companies listed on the main stock exchanges in Latin America, according to the availability of information in the Capital IQ ® database – the main data source for this study – and that adopted IFRS as the basis for preparing their financial statements in the period analyzed (2011 to 2016), thus totaling 2,360 firm-year observations. Considering the absolute value of discretionary accruals as a proxy for earnings management, the results suggest that there is a positive relationship between the regulatory environment and the manipulation of profits. The final sample resulted in observations about the companies listed on the stock exchanges of Brazil, Chile, Mexico and Peru, where the statistical analyzes presented for each country, as well as considering the Latin American context. Results: Our results indicate that the regulatory environment is positively related to the use of discretionary accruals for companies in Brazil, Peru, Mexico, and considering Latin America as a whole. For Chile, there does not seem to be any significant relationship between these factors, so that it is concluded that there are aspects related to the country level, whether economic, cultural, or institutional, that were not mentioned by this study and that are possibly able to influence the use of discretionary accruals as a form of earnings management. Contributions : The results presented by the study contribute to the literature on information quality and regulation, first because they present evidence that regulation negatively influences the quality of accounting information, secondly because it investigates a context of emerging markets that despite the political instability, some studies predict a growth of in the coming years, especially those in Latin America, and third, because it analyzes the companies of these countries from an individual and collective perspective , allowing a discussion of the reality of each country, among them and with other contexts.

Does late 10K filing impact companies’ financial reporting strategy? Evidence from discretionary accruals and real transaction management

AbstractThe study investigates how late 10K filers adapt their financial reporting strategy in the post‐late filing period in their response to bad publicity, negative market sentiment, and higher stakeholders’ scrutiny resulting from reporting delays. Both the level and change regressions show that late 10K filers significantly reduce the use of discretionary accruals from pre‐ to post‐late filing year. However, they simultaneously increase real transaction management over the same time period. The trade‐offs between the two earnings management techniques are more prominent when the late filers have a strong incentive to meet or beat earnings benchmarks. Our primary results are robust when late filings are caused by accounting, auditing, and internal control issues, and when the late filers cited no meaningful reason for late 10K filings. It is further evident that late filers with material internal control weaknesses and late filers that subsequently restate their financial statements make relatively higher trade‐offs than the matched non‐late filers. Finally, the trade‐offs between reduced accruals and increased real transaction management are stronger for the accelerated filers, and for the late filers audited by Big 4 auditors.

Engagement Partner Attributes and Audit Quality: Does the Partner’s Ownership Stake Matter?

We investigate the association between audit quality and some unique attributes of the engagement audit partners in the Turkish audit market during the period 2008-2014. We specifically examine the impact of the engagement partners’ ownership stakes in their audit firms, their busyness and in-house tenure in their current firms, and whether the impact is different for the “top guys” with the largest % ownership in the firm, on the probability of restatements, qualified opinions, going concern qualifications, and less egregious and less direct earnings management type audit failures such as the use of discretionary accruals. The results show that ownership % plays a role in independent audit judgments and increases the audit quality. We contribute to audit firm partnership and audit quality literature by introducing the engagement partner’s ownership stake in his firm as a comprehensive proxy for the auditor’s supply of audit quality. This variable could also be helpful in many emerging markets where audit fees data are not publicly disclosed. The study also sheds some light on whether the accounting and auditing reforms that took place in 2012 improved audit quality in Turkey. Our study may be of interest to researchers, regulators and client and audit firms all over the world.

Can Earnings Management Ease Financial Constraints? Evidence from Earnings Management Prior to Investment

Despite a large literature on discretionary accruals, how the use of discretionary accruals impacts corporate financial decisions is not well understood. We hypothesize that a financially constrained firm with valuable projects can use discretionary accruals to credibly signal positive prospects, enabling it to raise capital to make the investments. We examine a large panel of firms during 1987 to 2009 and find that financially constrained firms with good investment opportunities have significantly higher discretionary accruals prior to investment compared to their unconstrained counterparts. Constrained high-accrual firms have higher earnings-announcement returns than constrained low-accrual firms, obtain more equity and debt financing, and invest in projects that appear to improve performance. These results provide supporting evidence that the use of discretionary accruals can help constrained firms with valuable projects ease those constraints and increase firm value.

Analysts' experience and interpretation of discretionary accruals in predicting future earnings

Our paper investigates whether analysts' experience mitigates their forecast over-optimism associated with high discretionary accruals. Prior literature shows that analysts' forecast optimism is associated with high total accruals and working capital accruals, and this forecasting inefficiency can be mitigated by analysts' experience. We extend this line of research by first showing that forecast over-optimism is associated with higher discretionary accruals. We then show that analysts' experience with the related industry and their experience of decomposing earnings into cash flows and accruals appear to mitigate analysts' over-optimism related to discretionary accruals while analysts' firm and general experiences do not. Our study provides new evidence on how experience affects analysts' use of discretionary accruals.

Innovation Focused Strategy and Earnings Management

This study utilizes three approaches to investigate the extent to which firms with an innovation focused strategy engage in earnings management through the use of income smoothing, real activities, and the use of discretionary accruals. Several results are reported. First, firms with an innovative strategy report a greater percentage of earnings in the fourth quarter indicating greater earnings management. Second, innovative firms use real activities to a greater extent than non-innovative firms to manage earnings when income approaches certain earnings benchmarks. Lastly, innovative strategy firms engage in the use of discretionary accruals to a greater degree than other firms. DOI: 10.15458/85451.36

Do Auditors Overemphasize Contextual Benchmarks? Archival Evidence on Contrast Effects in Auditorss Assessment of Client Risk

As part of planning and performing financial statement audits, auditors must assess their clients’ risk. Assessed risk permeates the audit process, driving decisions regarding client retention, audit pricing, the extent of audit testing, and the nature of auditors’ written opinions. Although auditors aim to assess each client’s risk independently, prior research suggests that individuals draw on their idiosyncratic experiences and environments for benchmarks against which to contrast the case at hand. These “contrast effects” may skew auditors’ perceptions of risk, particularly if they rely on unrepresentative benchmark firms. I provide archival evidence consistent with this prediction. Using a large sample of public firms, I find that after controlling for clients’ actual risk, auditors more strictly constrain the use of discretionary accruals, are more likely to issue going concern opinions, and charge higher audit fees when clients appear riskier in the context of other clients audited by the same practice office. The reverse is true for clients that appear less risky in the context of other clients audited by the same practice office.

Association of CSR Disclosure with Accounting Conservatism : A Study of Select Indian Mining Firms

The aim of the present study was to obtain evidence of the influence of corporate social responsibility (CSR) disclosure on accounting conservatism (AC). Measurement of conservatism was done by the use of discretionary accruals. The measurement of CSR reporting is based upon the guidelines issued by the Global Reporting Initiative (GRI), obtaining data from annual reports of different mining firms. The population considered in this study were Indian mining companies enlisted in PROWESS IQ database for the period from 2000-2015. This study used purposive sampling method for data collection for 34 mining companies. The results of this study indicated a significant negative relationship existing between accounting conservatism and CSR disclosure.

Pricing of Discretionary Accruals, Stock Returns and Firms Growth: Evidence from Iran

In this study, the relationship between discretionary accruals and stock returns has been investigated by considering the growth variable in companies listed in Tehran Stock Exchanges. The study has been done using the data from 112 companies during 2010-2015 using systematic elimination sampling. For this purpose, three theories have been developed and three types of tests F, t and multivariate regression analysis were used to examine the hypothesis. The results of hypotheses indicate no significant relationship between discretionary accruals and stock returns, but with the addition of firm's growth, the use of discretionary accruals and positive discretionary accruals is more in firms with high growth than firms with low growth.

Do non-staggered board elections matter to earnings quality and the value relevance of earnings and book value?

PurposeThe purpose of this paper is to examine the impact of non-staggered voting for members of the board of directors on earnings quality and the value relevance of earnings and book value.Design/methodology/approachThe authors used a sample of Taiwanese firms whose board was elected as a whole every three years from 2003 to 2013. The authors used multiple regression analysis to test whether board of directors elections and corporate governance affected earnings quality and the value relevance of earnings and book value.FindingsThe authors found that elections led to lower earnings quality, but better corporate governance led to greater earnings quality. In the presence of board elections, earnings have reduced value relevance but book value had increased value relevance. Finally, given board elections, the relative value relevance of earnings and book value on stock price was not fully moderated by strong corporate governance.Research limitations/implicationsThe results presented here indicate the importance of better corporate governance in diffusing suspicions of management occasioned by the use of discretionary accruals in years in which board elections take place. Better corporate governance regimes led to a more positive relationship of discretionary accruals to earnings persistence, even in the presence of directorial elections. Similarly, better corporate governance regimes led to a more positive relationship between earnings per share and stock prices. Limitations include the restriction of the testing locale to Taiwan. That said, many companies around the globe use non-staggered board elections. Accordingly, these results suggest issues of importance to corporate governance advocates beyond Taiwan as well.Originality/valueThis study deepens the field’s understanding of the impact of corporate governance arrangements and schedules for electing board of directors’ members on issues of interest to stockholders.