Reported Earnings Quality Under Conservative Accounting and Auditing

2005 ◽  
Vol 20 (3) ◽  
pp. 229-256 ◽  
Author(s):  
Pradyot K. Sen
Keyword(s):  
Firm Value ◽  
Informational Efficiency ◽  
High Quality ◽  
Cost Estimates ◽  
Future Earnings ◽  
Current Period ◽  
Conservative Accounting ◽  
Reported Earnings ◽  
Investment Firm ◽  
Investment Growth

While conservatism may lead to a reduction of the current period's income, a consistent use of conservative accounting builds a hidden reserve that can inflate future earnings when investment growth slows down. For the same reason, reported earnings may be of a lower quality in terms of predictability of future cash flow when investments are growing. Managers of a growing firm, therefore, must choose to report a conservative but lower quality number or to undo the effects of conservatism by less conservative current-period cost estimates to improve the quality of reported earnings. Such departure from conservatism in the current period may lead to a conflict with the auditor, which may affect firm value as well as the manager's own wealth. Managers of a steady-state investment firm, on the other hand, have an opportunity either to report conservative and high quality earnings or to slow down its investments and/or choose less conservative current period cost estimates to report higher earnings in order to effectively mimic the (high quality) report of the growing firm. In this environment, an increase in auditor's conservatism may improve the informational efficiency of the market by reducing the incentives of the nongrowing firms to mimic a growing firm's disclosure. An increase in incentives that are based on firm value tends to increase a growing firm manager's propensity to report higher quality earnings while increasing the nongrowing firm's manager's propensity to cut back investment. Thus, we are faced with a situation where improving incentives for reporting higher quality earnings may be associated with an incentive to reduce investments by some firms.

scholarly journals Earnings Smoothing as Information Signaling or Garbling: A Review of Literature

2018 ◽  
Vol 10 (1) ◽  
pp. 131
Author(s):  
Nor Afifah Shabani ◽  
Saudah Sofian
Keyword(s):  
Private Information ◽  
Firm Value ◽  
Future Research ◽  
Journal Articles ◽  
Actual Performance ◽  
Future Earnings ◽  
Information Signaling ◽  
Earnings Smoothing ◽  
Reported Earnings

Earnings smoothing, which refers to the action of managers managing earnings to reduce fluctuations of reported earnings, is a special type of earnings management because while earnings smoothing may be used to distort shareholders and creditors’ view of corporate actual performance, it may also serve as a tool to communicate corporate private information of future earnings to the aforementioned stakeholders. Hence, it comes to no surprise when prior literatures reveal that the studies on the role of earnings smoothing are divided into two streams: as information signaling and information garbling. This paper aims to review prior literatures, specifically on the role of earnings smoothing either as information signaling or garbling based on four themes: firm value, financing need, compensation contract and outsiders’ intervention. This paper reviews journal articles gathered from Web of Science database. Based on the shortcomings of prior literatures, this paper highlights avenue for future research.

Accounting Conservatism, the Quality of Earnings, and Stock Returns

2002 ◽  
Vol 77 (2) ◽  
pp. 237-264 ◽  
Author(s):  
Stephen H. Penman ◽  
Xiao-Jun Zhang
Keyword(s):  
Stock Returns ◽  
Joint Effect ◽  
Accounting Conservatism ◽  
Future Earnings ◽  
Diagnostic Measures ◽  
Conservative Accounting ◽  
Future Return ◽  
Net Operating Assets ◽  
Reported Earnings

When a firm practices conservative accounting, changes in the amount of its investments can affect the quality of its earnings. Growth in investment reduces reported earnings and creates reserves. Reducing investment releases those reserves, increasing earnings. If the change in investment is temporary, then current earnings is temporarily depressed or inflated, and thus is not a good indicator of future earnings. This study develops diagnostic measures of this joint effect of investment and conservative accounting. We find that these measures forecast differences in future return on net operating assets relative to current return on net operating assets. Moreover, these measures also forecast stock returns—indicating that investors do not appreciate how conservatism and changes in investment combine to raise questions about the quality of reported earnings.

Disclosures of Insider Purchases and the Valuation Implications of Past Earnings Signals

2011 ◽  
Vol 87 (1) ◽  
pp. 313-342 ◽  
Author(s):  
David Veenman
Keyword(s):  
Firm Value ◽  
Securities And Exchange Commission ◽  
Data Availability ◽  
Information Uncertainty ◽  
Market Reactions ◽  
Future Earnings ◽  
Earnings Information ◽  
Reported Earnings

ABSTRACT This study examines whether disclosures of insider equity purchases on Securities and Exchange Commission (SEC) Form 4 resolve uncertainty regarding the valuation implications of reported earnings. Defining information uncertainty as ambiguity about firm value arising from low earnings precision, I predict and find that insider purchase filings trigger more positive market reactions in firms with greater information uncertainty (lower quality accruals). After controlling for future earnings changes, I further find that market reactions to purchase filings are predictably associated with prior earnings changes. The strength of this effect is increasing in the magnitude of insider purchases, as well as the level of information uncertainty. Overall, these findings suggest that, in addition to signaling future earnings information, Form 4 purchase filings help investors learn about the valuation implications of past earnings signals. Data Availability: All data are available from public sources.

scholarly journals EARNINGS AND FIRM VALUE: THE MODERATING IMPACT OF LARGE DEFERRED TAXES AND LARGE ACCRUALS IN INDONESIA

2021 ◽  
Vol 22 (2) ◽  
pp. 241-248
Author(s):  
Bambang Sutopo ◽  
Arum Kusumaningdyah Adiati ◽  
Purnama Siddi
Keyword(s):  
Financial Reporting ◽  
Firm Value ◽  
Stock Exchange ◽  
Financial Information ◽  
Deferred Taxes ◽  
Conservative Accounting ◽  
Negative Effect ◽  
Deferred Tax ◽  
Reported Earnings ◽  
The Relationship

Deferred tax and accruals have the characteristic of causing reported earnings to be above or below normal. Both are permitted to be used by companies in financial reporting. This study examines whether large deferred taxes and large accruals have an impact on the relationship between earnings and firm value. Using a sample that includes 1938 company-year observations for the 2007−2017 periods listed on the Indonesia Stock Exchange (IDX), this study found that large positive deferred taxes with large positive accruals had weakened the relationship between earnings and firm value. In contrast to these results, a large negative deferred tax with a large negative accrual does not have an impact on the relationship between earnings and the firm value. This finding suggests that “liberal” accounting policies that cause reported “above normal” earnings have a negative effect on the association between earnings and firm value. However, “below normal” earnings resulting from “conservative” accounting policies do not affect the association between earnings and firm value. The uniqueness of this study is the incorporation of deferred taxes with accruals with variations in the form of positive versus negative and large versus small. The findings imply that the presentation of financial information with small deferred taxes and small accruals is more beneficial for investors compared to financial information with large positive deferred taxes and large positive accruals. However, results of this study indicate that large negative deferred taxes and large negative accruals, indicating conservative accounting, are not responded differently by investors.

Audit Quality and the Market Value of Cash Holdings: The Case of Office-Level Auditor Industry Specialization

2014 ◽  
Vol 34 (2) ◽  
pp. 27-57 ◽  
Author(s):  
Jeong-Bon Kim ◽  
Jay Junghun Lee ◽  
Jong Chool Park
Keyword(s):  
Financial Reporting ◽  
Firm Value ◽  
Capital Investment ◽  
Audit Quality ◽  
Cash Holdings ◽  
Market Value ◽  
High Quality ◽  
Value Of Cash ◽  
Office Level ◽  
Industry Specialist

SUMMARY This study investigates the monitoring role of high-quality auditors defined as office-level industry specialists in the stock market valuation of cash assets. We find that the market value of cash holdings is significantly higher for the client of an industry specialist auditor. The marginal value of cash is 34 cents higher for the client of a joint-industry specialist at both the national and city levels than for the client of a nonspecialist. We also find that cash holdings are more closely associated with capital investment and the market value of capital investment is significantly higher when the auditor is a joint-industry specialist. Moreover, we find that the value of cash increases significantly when the client changes its auditor to a joint-industry specialist. Our findings hold even after controlling for the client's governance efficacy and financial reporting quality. Our results provide new insight into the mechanism through which high-quality audits affect firm value: External audits facilitate shareholders' monitoring over managerial cash expenditures, thereby leading market participants to attach a higher value to cash holdings.

Special Items: A Descriptive Analysis

2011 ◽  
Vol 25 (3) ◽  
pp. 511-536 ◽  
Author(s):  
Peter M. Johnson ◽  
Thomas J. Lopez ◽  
Juan Manuel Sanchez
Keyword(s):  
Firm Value ◽  
Temporal Frequency ◽  
Descriptive Analysis ◽  
Financial Statements ◽  
Comprehensive Analysis ◽  
The Other ◽  
Future Earnings ◽  
Special Items ◽  
Increasing Function ◽  
Frequency Magnitude

SYNOPSIS We provide a comprehensive analysis of special items and the characteristics of the firms that recognize them. Our analysis reveals that the temporal frequency, magnitude, and persistence of special items has increased significantly in the last 30 years, and that such increases are primarily driven by negative special items. More recently, however, our evidence is consistent with both a decline in frequency and magnitude of negative special items. On the other hand, we find that the frequency of reporting of positive special items, which remained relatively constant through 2002, has increased in more recent years. We also find strong evidence that subsequent special item reporting is an increasing function of the frequency of “prior” special item reporting. Using a random subsample of firms reporting special items, we document that 22 percent of the amounts reported in Compustat do not reconcile with the amounts reported on the firms' actual financial statements. Our comprehensive analysis should be of interest to regulators, academics, and managers interested in the implications of special items on firm-related consequences such as future earnings and firm value. Our examination can also serve as a catalyst for researchers interested in extending this important area of inquiry.

scholarly journals The Benefits of Conservative Accounting to Shareholders: Evidence from the Financial Crisis

2013 ◽  
Vol 27 (2) ◽  
pp. 319-346 ◽  
Author(s):  
Bill Francis ◽  
Iftekhar Hasan ◽  
Qiang Wu
Keyword(s):  
Financial Crisis ◽  
Firm Value ◽  
Governance Mechanism ◽  
Current Crisis ◽  
Stock Performance ◽  
Conservative Accounting ◽  
Alternative Measures ◽  
Recent Financial Crisis ◽  
And Control ◽  
Jel Classifications

SYNOPSIS Using the recent financial crisis as a natural quasi-experiment we test whether, and to what extent, conservative accounting affects shareholder value. We find that there is a significantly positive and economically meaningful relation between conservatism and firm stock performance during the current crisis. The result holds for alternative measures of conservatism and is validated in a series of robustness checks. We further find that the relation between conservatism and firm value is more pronounced for firms with weaker corporate governance or higher information asymmetry. Overall, our paper complements LaFond and Watts (2008) by providing empirical evidence to their argument that conservatism is an efficient governance mechanism to mitigate information risk and control for agency problems, and that shareholders benefit from it. JEL Classifications: M41; M48; G01.

Practices and solutions to improve profressional quality for preschool teachers in the organization of music education activities

2021 ◽  
Vol 66 (1) ◽  
pp. 136-144
Author(s):  
Trang Le Thu
Keyword(s):  
Music Education ◽  
Human Resources ◽  
Education Reform ◽  
Preschool Teachers ◽  
Preschool Education ◽  
Quality Of Education ◽  
High Quality ◽  
Current Period ◽  
Education Innovation

Teachers are one of the most important factorsin determining the quality of education. In the context of education innovation in recent years improve profressional capacity, major of general teacher and preschool teachers in particular are increasingly interested. In the article, author mentions situation of music education activities program at kindergartens and suggests some solutions to improve quality of music education to foster profressional capacity building bring to preschool education high quality human resources, meeting the requirements of education reform in the current period.

scholarly journals UNCONDITIONAL CONSERVATISM AS A MEDIATION BETWEEN LEVERAGE AND SIZE TO FIRM VALUE

2019 ◽  
Vol 2 (2) ◽  
pp. 69-74
Author(s):  
DINUL ALFIAN AKBAR ◽  
AMRI AMIR ◽  
SRI RAHAYU ◽  
ASEP MACHPUDIN
Keyword(s):  
Direct Effect ◽  
Firm Value ◽  
Stock Exchange ◽  
Direct Influence ◽  
Indirect Influence ◽  
Conservative Accounting ◽  
Accounting Numbers

This research is motivated by the controversy regarding the benefits of conservative accounting numbers, intended to determine the direct effect of leverage and size on firm value, and the indirect influence of these variables through unconditional conservatism as an intervening variable on firm values ​​in 2010 - 2017 on the Stock Exchange Indonesia. The results were that the variable unconditional conservatism can mediate the influence between size on firm value. There is a direct influence between leverage and size on firm value.

The Relationship between Aggressive Real Earnings Management and Current and Future Audit Fees

2016 ◽  
Vol 36 (1) ◽  
pp. 85-107 ◽  
Author(s):  
Adam Greiner ◽  
Mark J. Kohlbeck ◽  
Thomas J. Smith
Keyword(s):  
Earnings Management ◽  
Firm Value ◽  
Audit Fees ◽  
Cash Flows ◽  
Data Availability ◽  
Real Earnings Management ◽  
Increased Risk ◽  
Pricing Behavior ◽  
Reported Earnings ◽  
The Relationship

SUMMARY We examine the relationship between aggressive income-increasing real earnings management (REM) and current and future audit fees. Managers pursue REM activities to influence reported earnings and, as a consequence, alter cash flows and sacrifice firm value. We posit that the implications of REM are considered in auditors' assessments of engagement risk related to the client's economic condition and result in higher audit fees. We find that, with the exception of abnormal reductions in SG&A, aggressive income-increasing REM is positively associated with both current and future audit fees. Additional analyses provide evidence consistent with increased effort combined with increased risk contributing to the current pricing effect, with increased business risk primarily driving the future pricing effect. We, therefore, provide evidence that aggressive income-increasing REM activities have a significant influence on auditor pricing behavior, consistent with the audit framework associating engagement risk with audit fees. JEL Classifications: G21; G34; M41. Data Availability: The data in this study are available from public sources indicated in the paper.

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