The Practices Of Earnings Management

Understandably, there are a variety of ways in which a company can manage their earnings, and if accomplished successfully, the results can be highly profitable. Not all techniques are fraudulent, as effective earnings management is considered good for business and shareholders. Income smoothing is a specific example of permissible earnings management that involves controlling fluctuations in net income to make earnings less variable over a given period of time (Goel & Thakor, 2003). Smoothing is acceptable as long as it adheres to the restrictions of U.S. GAAP, which maintains that all revenues and expenses are accounted for in a defined fashion. There are a lot of incentives in figuring how to effectively smooth income, as substantial value can be created through the successful arrangement of financial transactions. Management is able to make more intelligent decisions with regards to the future of the firm if the earnings are able to match the forecasts. One instance this is seen is when management is faced with the decision to smooth total income or

Such an intense focus has been placed on quarterly earnings as an indication of a company’s success by everyone from analysts to executives that ethics have for the most part been thrown out the window, sacrificed to the all important number, i.e. earnings per share. This is the theory in Alex Berenson’s book “The Number: How the Drive for Quarterly Earnings Corrupted Wall Street and Corporate America.” This number has become part of a game to be played, a figure to be manipulated – beat the number and Wall Street all but throws a parade, miss it and a company’s stock may be abandoned. Take into account the incentives that executives have to beat the number and one can find plenty of reasons to manage earnings.

There are a number of areas on the earnings statement that provide management with opportunities for influencing the outcome of reported earnings.

The first possible motive of the management is to hope to raise more capital as a result of increase in company’s stock price. It is widely known that stock price is an appropriate indicator of how a company performs financially since market is perceived efficient. Based on the company’s recent struggle in its financial performance, it is understandable that the management’s priority is to come up with a means to turn the financial situation around as soon as possible. By making aggressive accounting policy changes, the company would report profits in the financial statement so that the stock price tied to company’s financial performance might increase, resulting in the potential raise in capital. Hence, it is reasonable why the top management made the decision to change its accounting policy.

Companies often are under pressure to meet or beat Wall Street earnings projections in order to increase stock prices and also to increase the value of stock options. Some resort to earnings management practices to artificially create desired results.

The article, "The Dangerous Morality of Managing Earnings" explores ethical concerns about the management of earnings. The article makes some generalizations about managers and the reporting of short term earnings. Among them are:

As stated in Exhibit 3, Earnings management is the managerial use of discretion to influence reported earnings. Within the accrual accounting system, managers have significant discretion with their firms’ accounting choices. Management has the ability to make choices that can opportunistically lead to higher or lower reported earnings. Richard 's and Ira Zar’s (CFO) actions would not change if these results were the result of GAAP flexibility because he violated the rules of accounting, the conceptual framework principle of neutrality in numerous ways to report the financial results that CA did under false pretenses. It would be one thing if CA garnered these results through legitimate business decisions versus using accounting tactics like changes in accounting estimates or outright fraud as in the use of the 35 day Month. The purpose of which was solely to allow CA to meet or exceed analysts’ estimates.

prevent decrease in stock value, higher borrowing cost, evade corporate bankruptcy and non-financial motives are believed to be more powerful (p.286). Stallworth and Degregorio (2004) identified that most companies managed earnings for several reason, however the most common motivations is the pressure to meet the market and analyst expectations by prematurely or fictitiously recognizing revenue (p.55). Stallworth and Degregorio suggests that the internal auditor should be cautious of the indications to perform abusive earning management or motivation to commit fraud, such as personal benefits like prestige, extra compensation, bonuses, employee stock option and increased stock value as a reward when earning expectations are met or exceeded, while negative outcomes provide the same level of motivation like reputational damage or embarrassment, loss of employment, demotion or lowered compensation (p.56).

Lastly, company participates in good earnings management is because it provides a way to present information to its present and potential investors about their operations. Actions such as these that achieve stable and predictable results and positive earnings trends through good planning and operational responsiveness are not illegal or unethical in any way, its just part of business. All businesses try to reach their targets and try to continue seeing growth while responding to their competition and changes in the market. Good earnings management just allows the company to continue their operations with some type of goal to achieve or target to reach. This only becomes a bad thing when those goals or targets are not reached and someone starts making up the numbers.

* With a focus on net income, managers could be incentivized to maximize ROE at the expense of other stakeholders, particularly bondholders. For instance, managers may fuel earnings growth by over-levering the company to benefit from tax shields in order to increase the value spread.  In addition, there are many other ways in which managers can manipulate earnings, for example, by slowing down depreciation charges or selling off assets to realize extraordinary gains.

This paper examines the quality of earnings for major corporations. The quality of earnings is an ongoing operation of corporations and other business alike, because the value of a business is the current and future earnings of the firm (Schroeder et al, 2011). These earnings are usually updated quarterly by a firm’s financial analyst, which provide this for investors and other users of financial information to make decisions about a firm’s financial position in the market. However, there are some differences in the quality of earnings throughout various industries, countries and by competitors. This paper evaluates the quality of earnings for one major corporation for an assessment of its current and future earnings.

In Bradshaw and Sloan’s (2002) article, there are several evidences show that market participants like analysts, investors and managers are stressing on the Street earnings. Street earnings is favoured by the majority because it provides additional useful and relevant information and makes the firm look better since it generates higher value. GAAP (Generally Accepted Accounting Principles) earnings is the traditional measurement based on regulations and it is not relevant in predicting future cash flows. Examples of earnings in the wild market are Street earnings and non-GAAP earnings. Following the trends of using non-GAAP earnings, it is a good way to let the free market to create an efficient corporate financial reporting even there are

Ethics is important in the Accounting Profession just as much as it is important in any other profession. When in the accounting profession, we will be faced with decisions on a daily basis that we will have to decide if they are ethical or not. For instance, one CEO, Kenseth, is nervous about large stockholders who have been vocal about her lately and she considers buying them out by purchasing their shares, so she can eliminate the competition and maintain her leadership as CEO (Kieso, Weygandt, Warfield, Pg. 871). She has to decide if she should buy them out or not. If she bought them out, that would be unethical because she is using inside information and her authority to benefit herself. She should keep in mind what is good for the company as a whole, and not just what is good for herself. Additionally, depending on the company, the more particular they are, the harder it is on the Accountants to make ethical decisions. They are constantly worrying about “Am I presenting this information in a good or bad way”, or “Is this right or wrong” (Kieso, Weygandt, Warfield, Pg. 21). For instance, in the case where Weller wants to implement a rule that will present the financial conditions in a

a) The earnings (net income) are considered as the most critical financial figure in the financial statements as it indicates the profitability of the company. All benefits for shareholders including both the capital gains and dividends are closely related with the earnings. In other words, the performance of the company and the management can be largely evaluated by the earnings figure. Due to the importance of earnings, it is not surprising the management is keen to improve the figure via all possible ways including legal and illegal approaches. The earnings management can be defined as using reasonable and legal means to achieve stable and optimised financing results (Burgstahler & Dichev 1997).

Earnings management (EM) refers to the act of affecting how outcomes of business activities are presented, by altering between different accounting policies, redistribution of discretionary earnings and expenses and manipulating real business activities without exceeding Generally Accepted Accounting Principles (GAAP) (Walker, 2013). In recent years, EM has become a much more prevalent topic for discussion as an increasing number of firms use the technique to achieve management targets and therefore maximise shareholder wealth. Over-performing EM usually results in fraud.