Quadrophobia: Strategic Rounding of EPS Data

Malenko, Nadya; Grundfest, Joseph

doi:10.2139/ssrn.1474668

Quadrophobia: Strategic Rounding of EPS Data

Rock Center for Corporate Governance at Stanford University Working Paper No. 65

Stanford Law and Economics Olin Working Paper No. 388

35 Pages Posted: 18 Sep 2009 Last revised: 3 Jul 2014

See all articles by Nadya Malenko

Nadya Malenko

University of Michigan, Stephen M. Ross School of Business; Centre for Economic Policy Research (CEPR); European Corporate Governance Institute (ECGI)

Joseph Grundfest

Stanford University Law School

Date Written: July 2, 2014

Abstract

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 A., 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