Earnings Manipulation To Achieve Cognitive Reference Points In Income

Document Type

Article

Publication Date

1-1-2008

School

Accountancy

Abstract

Thomas (1989) demonstrates that U.S. firms with positive earnings manipulate income by rounding up the second earnings digit to increase the first earnings digit by one, thereby reaching cognitive reference points in income. Companies with negative income manipulate earnings in the opposite direction. The current study replicates Thomas' (1989) twenty-year old research ot ascertain if this type of earnings management continues today, particularly in light of the heightened scrutiny managers now face to present fair financial reporting. The results suggest that managers of negative earnings firms no longer engage in this manipulative behavior while managers of positive earnings firms continue to do so. In addition, for positive earnings firms, the findings indicate that the propensity to engage in this form of earnings management iis related to specific company characteristics. Small firms appear to manage earnings to achieve cognitive reference points more intensively than large firms. Likewise, low-leverage companies exhibit this manipulative behavior more frequently than high-leverage firms, and less profitable firms engage in this activity more aggressively than companies enjoying high profit margins.

Publication Title

Academy of Accounting and Financial Studies Journal

Volume

12

Issue

3

First Page

97

Last Page

112

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