Earnings Management and Corporate Investment Decisions

36 Pages Posted: 7 Nov 2016

See all articles by Brandon Julio

Brandon Julio

Lundquist College of Business, University of Oregon

Youngsuk Yook

Board of Governors of the Federal Reserve System

Date Written: 2016-10

Abstract

We investigate the relationship between earnings management and the efficiency of corporate investment decisions. Using discretionary accruals to measure intertemporal transfers of earnings, we show that earnings management exhibits a concave relationship with the investment sensitivity to investment opportunities as measured by Tobin's Q. We find that the association is concentrated among high Q firms. The effect is present among well governed firms, suggesting that better governed firms manage accruals strategically. The concave relationship suggests that the marginal impact of earnings management on investment efficiency decreases with the amount of earnings management. Using cases of misreporting, we document that excessive earnings management does not improve investment efficiency. Taken together, these results support the view that a moderate amount of earnings management helps improve corporate investment decisions while an excessive amount undoes the benefit of earnings management.

Keywords: Corporate Investment Decisions, Earnings Management

Suggested Citation

Julio, Brandon and Yook, Youngsuk, Earnings Management and Corporate Investment Decisions (2016-10). FEDS Working Paper No. 2016-086. Available at SSRN: https://ssrn.com/abstract=2864845 or http://dx.doi.org/10.17016/FEDS.2016.086

Brandon Julio (Contact Author)

Lundquist College of Business, University of Oregon ( email )

1280 University of Oregon
Eugene, OR 97403
United States

Youngsuk Yook

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States
202-475-6324 (Phone)

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