Earnings management and the distribution of earnings relative to targets: UK evidence

By Pelham Gore, P. Pope, Ashni Singh. 2007

112 citations recorded by the source corpus.

Abstract In this paper we provide new evidence on discontinuities in the distribution of reported earnings, using a large sample of UK firms. We examine the discontinuity phenomenon in the context of earnings management. We report that the empirical distribution of earnings before discretionary working capital accruals does not reflect the unusually high frequencies of small surpluses and unusually low frequencies of small deficits relative to targets found in the distribution of actual (reported) earnings, i.e. after discretionary working capital accruals. We find that discretionary working capital accruals have the effect of significantly increasing the frequencies of firms achieving earnings targets both overall and by small margins. Thus, we document an explicit link between working capital accruals-based earnings management and the discontinuities observed in the empirical distribution of earnings relative to targets. We also examine earnings management before and after the issuance of FRS 3 ‘Reporting Financial Performance’ and find evidence that FRS 3 altered earnings management strategies adopted by companies.

Subfields: Accounting, Strategy and Management

View Paper: https://www.semanticscholar.org/paper/e5d67c5aa0e240f88962915cc26a84dd820d9923

How researchers see this paper

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In Accounting

1. O. Vogler
2. Martin Walker
3. Benedikt Link
4. M. Stich
5. J. Ernstberger
6. K. Hussainey

In Strategy and Management

1. O. Vogler
2. Martin Walker
3. Benedikt Link
4. M. Stich
5. J. Ernstberger

Citations in the corpus

• Earnings management or forecast guidance to meet analyst expectations? (2009, unknown): “Gore et al. (2007) examine the distributional properties of reported and pre-managed earnings and find that AWCAs are the main source of discontinuity of earnings levels throughout the period 1989–1998, but to a lesser extent post-FRS 3.”
• R&D Expenditure and Earnings Targets (2009, unknown): “…to achieve earnings targets, including aggressive cash flow recognition (Burgstahler and Dichev, 1997), discretionary accruals (Bartov et al., 2002; Gore et al., 2007), reclassification of core expenses as special items (McVay, 2006) and share repurchases (Bens et al., 2003; Hribar et al., 2004).”
• The Real Effects of Mandatory Quarterly Reporting (2017, background): “Whereas most empirical studies on the importance of incentives from meeting/beating earnings targets are conducted in the US, prior literature also documents such behavior in EU settings (e.g., Glaum et al. 2004; Gore et al. 2007).”
• How far can we trust earnings numbers? What research tells us about earnings management (2013, methodology): “Gore et al. (2007), for the UK, and Daske et al. (2006), for the EU, present evidence that UK and EU firms manage accruals to just meet or beat consensus forecasts.”