The Distribution Of Annual Net Income Scaled By The Market Value At The Beginning Of The Year

1618 Words Aug 28th, 2015 7 Pages
The distribution of annual net income scaled by the market value at the beginning of the year (Burgstahler and Dichev, 1997). Notice the obvious shift of observations from just under expected levels of income to just over expected levels, showing evidence of earnings management.

Dechow et al. (2000) focus on firms with positive earnings and firms with zero forecast error to evaluate whether firms manipulate accruals and special items to beat the zero earnings benchmark. However, the result fails to establish a significant difference between the level of discretionary accruals and working capital accruals in firms that achieve the target and those that fall short.
The earning distribution method is based on the assumption that the target is unbiased (zero forecast error), which is unrealistic. Moreover, information asymmetry is likely to lead to inaccuracy in the forecasts provided by analysts. The models also only present an overview of earnings management, but cannot explain just how many companies executed the earnings management and to what extent they used manipulation.

Interestingly, Nelson et al. (2003) interviewed 253 experienced auditors and confirmed the existence of accrual-based earnings management. However, many managers deny using the accrual-based method due to the implications of FRS3 (Choi, et al., 2006), and the stigma that is linked to accounting manipulation after recent scandals.

ii) Real Earnings Management
Schipper (1989) defines real earnings…

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