Download This PaperFirms´ Accounting Misrepresentations - Reasons, Tools and Outcomes
71 Pages Posted: 29 Apr 2020 Last revised: 8 Jun 2021
Date Written: April 30, 2021
Abstract
The current paper investigates and determines the profile of misrepresenting firms through suitable accounting ratios. Moreover, it measures the impact of misrepresentation on the accounting characteristics. Unlike the prior literature, it splits the dataset by the managers’ reason for causing the misrepresentation. The reason is therefore hand-collected from SEC investigation reports and verified by further sources. This enables the identification of the characteristics, and quantification of the impact of the misrepresentation depending on its reason. The research is conducted with statistical tests for significance, and a firth logistic regression (Firth 1993). The results show that there are indeed differences in the characteristics of misrepresenting firms, depending on the reason for the misrepresentation. In total, three main categories of reasons for misrepresentations were identified. One category comprises small, well-performing firms. Here, the data show that the main reason for the misrepresentation is the enrichment of the managers (greed), for example through bonuses. Another category comprises small, almost bankrupt firms. Here, the data show that the managers typically misrepresent to avoid bankruptcy. The third category comprises bigger, well-established firms. Here, the data show that misrepresentation occurs in an effort to handle capital market pressure, for example through analyst forecasts. Moreover, the results suggest that, depending on the reason (and consequently the category), the misrepresentation was made through different accounting components (earnings, total assets, sales, current assets, current liabilities, inventory). The results are generally in line with the positive accounting theory as defined by Watts and Zimmerman (1986), since the results underline the importance of accounting in various contracting situations, such as in negotiating management remuneration systems.
Keywords: earnings quality, financial statement fraud, financial misrepresentation, reason for a misrepresentation, accounting characteristics, AAER
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