Do Models of Discretionary Accruals Detect Actual Cases of Fraudulent and Restated Earnings? An Empirical Evaluation

45 Pages Posted: 18 May 2006 Last revised: 24 Dec 2007

See all articles by Keith L. Jones

Keith L. Jones

University of Kansas

Gopal V. Krishnan

Bentley University

Kevin Melendrez

New Mexico State University - Department of Accounting & Business Computer Systems

Abstract

We examine the association between the existence and the magnitude of a fraudulent event that overstated earnings, non-fraudulent restatements of financial statements, and nine competing models of discretionary accruals, accrual estimation errors (Dechow and Dichev 2002 and McNichols 2002), and the Beneish (1997 and 1999) M-score. We use the size of the downward earnings restatement following the discovery of the fraud to proxy for the degree of discretion exercised to perpetrate the fraud. We find that the accrual estimation errors exhibit the strongest association with the existence and the magnitude of fraud and non-fraud restatements. Further, our results suggest that total accruals could be a low-cost alternative to many commonly used measures of discretionary accruals in detecting smaller fraud. The accrual estimation errors have incremental explanatory power over total accruals for both smaller and larger frauds.

Keywords: Discretionary accruals, Earnings management, Fraud, Restatements, M-score

JEL Classification: M41

Suggested Citation

Jones, Keith Lamar and Krishnan, Gopal and Melendrez, Kevin, Do Models of Discretionary Accruals Detect Actual Cases of Fraudulent and Restated Earnings? An Empirical Evaluation. Contemporary Accounting Research, Forthcoming, Available at SSRN: https://ssrn.com/abstract=895541 or http://dx.doi.org/10.2139/ssrn.895541

Keith Lamar Jones

University of Kansas ( email )

1654 Naismith Drive
MS 5F4
Lawrence, KS 66045
United States
785-864-6997 (Phone)
785-864-5328 (Fax)

Gopal Krishnan (Contact Author)

Bentley University ( email )

175 Forest Street
Waltham, MA 02452
United States
781-891-2477 (Phone)

Kevin Melendrez

New Mexico State University - Department of Accounting & Business Computer Systems ( email )

United States

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