Do Firms Use Financial Engineering to Manage Their Reported Earnings?
Posted: 26 May 2005
Date Written: March 2005
Recent corporate financial scandals show that firms subject to deep legal investigations, like Enron, present extreme cases of accounting manipulations with financial engineering as securitization of receivables or debt extinguishment which are complex and characterised by a low level of disclosure. Although the use of such transactions is widespread within firms and is legitimate by accounting rules, managers can use these tools to manipulate accounting earnings in order to achieve various goals such as misleading investors and analysts, maximising firm value, and circumvent the traditional earnings management with discretionary accruals.
This paper empirically examines the determinants of the use of financial engineering techniques by a sample of multinational firms listed on the NYSE to manipulate their earnings. Our results show that leverage, credit sales, transactions with unconsolidated subsidiaries and the presence of the firm on emergent markets are significant determinants of the decision to the use of financial engineering for manipulation purposes. Our study contributes to the literature on earnings management, financial engineering and corporate reporting and can be useful to both managers in order to let them understand the impact of such financial transactions on accounting figures, to investors on their financial decisions and resources allocations and finally to regulators when disclosing accounting standards.
Keywords: Financial engineering, securitization, defeasance, earnings management, disclosure quality, firm value
JEL Classification: M41, M43, M47, M49, G38, K22
Suggested Citation: Suggested Citation