Detecting Earnings Management: A New Approach
Patricia M. Dechow
University of California, Berkeley - Haas School of Business
Amy P. Hutton
Boston College - Carroll School of Management
Jung Hoon Kim
Florida International University
Richard G. Sloan
University of California at Berkeley - Haas School of Business
This paper provides a new approach to testing for accrual-based earnings management. Our approach exploits the inherent property of accrual accounting that any accrual-based earnings management in one period must reverse in another period. If the researcher has priors concerning the timing of the reversal, incorporating these priors significantly improves the power and specification of tests for earnings management. Our results indicate that incorporating reversals can increase test power by over 40% and also provides a robust solution for mitigating model misspecification arising from correlated omitted variables.
Number of Pages in PDF File: 69
Keywords: Earnings Management, Accruals
JEL Classification: M41
Date posted: January 7, 2011 ; Last revised: October 13, 2011
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