Earnings Management at the Segment Level

45 Pages Posted: 24 May 2007 Last revised: 30 Jan 2009

See all articles by Rebecca N. Hann

Rebecca N. Hann

University of Maryland - Robert H. Smith School of Business

Yvonne Y. Lu

Lehigh University

Date Written: January 2009

Abstract

We provide new empirical evidence on segment-level earnings management for a large sample of multi-segment firms by examining whether and how managers exploit their discretion in cost allocation to avoid reporting losses. We document that prior to SFAS 131 there is a significant discontinuity at zero (a "kink") in the frequency distribution of segment profits. After the implementation of SFAS 131, however, we do not observe a kink. Further, we find that the extent of cost under-allocation is significantly greater for the "small profit segments" than for the "small loss segments" only in the pre-SFAS 131 period; it is insignificantly different across the two groups in the post-SFAS 131 period. Taken together, our results are consistent with the pre-SFAS 131 kink being driven by opportunistic cost allocation, and the new segment reporting standard deterring earnings management in the form of cost under-allocation.

Keywords: Earnings management, segment profitability, discretionary disclosure, earnings distribution, cost allocation

JEL Classification: M4

Suggested Citation

Hann, Rebecca N. and Lu, Yvonne Y., Earnings Management at the Segment Level (January 2009). Marshall School of Business Working Paper No. MKT 04-09, Available at SSRN: https://ssrn.com/abstract=1138164 or http://dx.doi.org/10.2139/ssrn.1138164

Rebecca N. Hann (Contact Author)

University of Maryland - Robert H. Smith School of Business ( email )

College Park, MD 20742-1815
United States

Yvonne Y. Lu

Lehigh University ( email )

621 Taylor Street
Bethlehem, PA 18015
United States
610-758-3438 (Phone)
610-758-3443 (Fax)

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