Managerial Discretion in Distressed Firms

Posted: 14 Aug 2010

See all articles by Andreas Charitou

Andreas Charitou

University of Cyprus

Neophytos Lambertides

Cyprus University of Technology

Lenos Trigeorgis

University of Cyprus - Department of Public and Business Administration; King's College London; Massachusetts Institute of Technology (MIT) - Sloan School of Management

Date Written: 2007

Abstract

This study examines the earnings management behaviour of 455 distressed US firms that filed for bankruptcy during the period 1986-2001. We examine (a) possible earnings management during the years prior to bankruptc-filing, (b) whether qualified audit opinions cause conservative earnings management behaviour, (c) whether earnings management differs between firms that discontinued operations and firms that survived thereafter, and (d) the effect of earnings management on subsequent stock returns. Our results are consistent with downwards earnings management 1 year prior to the bankruptcy-filing. Results also show that (a) firms receiving unqualified audit opinions 4 or 5 years prior to the bankruptcy-filing event manage earnings upwards in subsequent years, consistent with Rosner [2003. Earnings manipulation in failing firms. Contemporary Accounting Research 20, 361-408], (b) more conservative earnings management seems to be related to the qualified audit opinions rendered in the preceding year, (c) firms with long-term negative accruals the year of bankruptcy-filing have a greater chance to survive thereafter, and (d) more pronounced (negative) earnings management is associated with more negative (next year’s) subsequent returns.

Keywords: Distress, Bankruptcy, Earnings management, Audit opinion, Stock returns

JEL Classification: G14, G24, G32, M41

Suggested Citation

Charitou, Andreas and Lambertides, Neophytos and Trigeorgis, Lenos, Managerial Discretion in Distressed Firms (2007). British Accounting Review, Vol. 39, No. 4, 2007. Available at SSRN: https://ssrn.com/abstract=1657869

Andreas Charitou (Contact Author)

University of Cyprus ( email )

75 Kallipoleos Street
P.O. Box 20537
Nicosia CY-1678
Cyprus
+357 2 893624 (Phone)
+357 2 895030 (Fax)

Neophytos Lambertides

Cyprus University of Technology ( email )

Limassol, 3603
Cyprus

Lenos Trigeorgis

University of Cyprus - Department of Public and Business Administration ( email )

75 Kallipoleos Street
P.O. Box 20537
Nicosia CY-1678
Cyprus
00357 2 338762 (Phone)
00357 2 339063 (Fax)

King's College London ( email )

Strand
London, WC2R 2LS
United Kingdom

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

77 Massachusetts Ave. E62-663
Cambridge, MA 02142
United States

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