The Use of Advertising Activities to Meet Earnings Benchmarks: Evidence from Monthly Data

Abstract

Using a unique database of monthly advertising spending in media outlets, we examine whether managers engage in real earnings management to meet quarterly financial reporting benchmarks. We extend prior literature by: (1) separately analyzing advertising activities, allowing us to explore novel issues such as the possibility that managers could either reduce or boost advertising to meet an earnings benchmark; (2) analyzing actual activities as opposed to inferring them from reported expenses, which are also subject to accrual choices; (3) investigating the timing, within a fiscal quarter, of altered advertising spending; and (4) examining quarterly as opposed to annual earnings benchmarks. Overall, we find that managers reduce their advertising spending to avoid losses and avoid earnings decreases. However, we also provide evidence that firms in the late stages of their life cycle choose to increase advertising to meet earnings benchmarks. Finally, we find some evidence that firms increase their advertising activities in the third month of a fiscal quarter and in the fourth quarter to meet or beat prior year’s earnings.

Keywords: Real earnings management, advertising, earnings benchmarks

JEL Classification: M41, M432, G38