Do Australian companies manage earnings to meet simple earnings benchmarks?
Measurement error in unexpected accruals is an important problem for empirical earnings management research. Several recent studies avoid this problem by examining the pooled, cross–sectional distribution of reported earnings. Discontinuities in the distribution of reported earnings around key earnings thresholds may indicate the exercise of management discretion (i.e. earnings management). We apply this approach to the detection of earnings management by Australian firms. Our results generally indicate significantly more small earnings increases and small profits than expected and conversely, considerably fewer small earnings decreases and small losses than expected. These results are much stronger for larger Australian firms. We undertake an exploratory analysis of alternative explanations for our results and find some evidence consistent with management signalling its inside knowledge about the firm's expected future profitability to smooth earnings, as opposed to ‘management intent to deceive’ as an explanation for our results.
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