35 Pages Posted: 18 Sep 2009 Last revised: 3 Jul 2014
Date Written: July 2, 2014
Earnings management to round up reported EPS causes under-representation of the number four in the first post-decimal digit of EPS data, or "quadrophobia." We develop a simple measure of earnings management based on a firm's history of quadrophobia. Quadrophobia is pervasive and persistent, and predicts future restatements, SEC enforcement actions, and class action litigation. Quadrophobia, even if the result of proper accounting practices, thus appears correlated with a propensity to engage in other problematic accounting practices. The incidence of quadrophobia increases (declines) when firms gain (lose) analyst coverage and is more pronounced in pro forma earnings in a manner consistent with capital market pressure causing strategic rounding.
Keywords: earnings management, earnings per share, forensic accounting, analyst coverage, accounting restatements, SEC enforcement actions, class action securities fraud litigation
JEL Classification: G38, K22, M41
Suggested Citation: Suggested Citation
Malenko, Nadya and Grundfest, Joseph, Quadrophobia: Strategic Rounding of EPS Data (July 2, 2014). Rock Center for Corporate Governance at Stanford University Working Paper No. 65; Stanford Law and Economics Olin Working Paper No. 388. Available at SSRN: https://ssrn.com/abstract=1474668 or http://dx.doi.org/10.2139/ssrn.1474668
By Ron Kasznik