Abnormal Accrual Estimates and Evidence of Mispricing

52 Pages Posted: 1 Dec 2011 Last revised: 5 Dec 2011

C.S. Agnes Cheng

Hong Kong Polytechnic University - School of Accounting and Finance

Cathy Zishang Liu

affiliation not provided to SSRN

Wayne B. Thomas

University of Oklahoma - Michael F. Price College of Business

Multiple version iconThere are 2 versions of this paper

Date Written: December 1, 2011

Abstract

To estimate abnormal accruals, prior research employs a wide variety of models and estimation procedures. We evaluate the performance of three representative models – modified Jones model (MJ), MJ with operating cash flows (MJOCF), and MJ with return on assets (MJROA) – and two estimation procedures – industry-specific and firm-specific regressions. In evaluating the performance of various models, we use mispricing tests (i.e. relating current accruals to future returns) as our main test. We find that the best performing model is the firm-specific MJOCF model followed by the industry-specific MJROA model. However, when we use the recursive firm-specific procedure (i.e. based on current and previous years’ information only), we do not find the firm-specific MJOCF model outperforms the industry-specific MJROA model. We recommend that researchers use the industry-specific MJROA model to estimate abnormal accruals when investigating earnings management. For evaluating earnings quality that can include management estimation error, the firm-specific MJOCF remains clearly the best model from the perspective of abnormal accrual mispricing.

Keywords: abnormal accruals, accrual model(s)

JEL Classification: M41, M43

Suggested Citation

Cheng, C.S. Agnes and Liu, Cathy Zishang and Thomas, Wayne B., Abnormal Accrual Estimates and Evidence of Mispricing (December 1, 2011). Available at SSRN: https://ssrn.com/abstract=1966820 or http://dx.doi.org/10.2139/ssrn.1966820

C.S. Agnes Cheng (Contact Author)

Hong Kong Polytechnic University - School of Accounting and Finance ( email )

M715, Li Ka Shing Tower
Hung Hom, Kowloon, Kowloon
Hong Kong

Cathy Zishang Liu

affiliation not provided to SSRN

Wayne B. Thomas

University of Oklahoma - Michael F. Price College of Business ( email )

Michael F. Price College of Business,
307 W Brooks, Rm 212B
Norman, OK 73019
United States
405-325-5789 (Phone)
405-325-7348 (Fax)

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