The Impact of Terrorist Attacks and Mass Shootings on Earnings Management

Abstract

This study investigates the role of salient events on accrual-based and real earnings management activities. For people using availability heuristics, the salience of an event may temporarily increase perceived risk even though the actual risk does not change, and individuals making decisions by availability heuristics are subsequently more likely to assign a higher probability to unrelated negative future events. I use terrorist attacks and mass shootings as salient events and conjecture that the negative effects of terrorist attacks and mass shootings spill over and lead to pessimistic risk assessments of financial reporting choices. The findings show a decrease in accrual-based and real earnings management for firms located in the impacted regions. The documented effects are driven by firms with high information asymmetry levels and pessimistic annual reports. Additional analysis reveals that affected firms decrease the readability of their annual reports, suggesting affected firms engage in a more complex narrative disclosure. The findings of this paper support the argument that managers exhibit a cognitive bias which affects their financial reporting choices.

Keywords: accruals management, discretionary accruals, earnings management, real earnings management, terrorist attacks, mass shootings, heuristics, salient events, readability

JEL Classification: D83, G14, G41, M14, M40, M41, Q54