Accrual-based and real earnings management and political connections

Geert Braam, Monomita Nandy*, Utz Weitzel, Suman Lodh

*Corresponding author for this work

Research output: Contribution to JournalArticleAcademicpeer-review

Abstract

This study examines whether the trade-off between real and accrual-based management strategies differs between firms with and without political connections. We argue that politically connected firms are more likely to substitute real earnings management for accrual-based earnings management than non-connected firms. Although real earnings management is more costly, we expect that politically connected firms prefer this strategy because of its higher secrecy and potential to mask political favors. Using a unique panel data set of 5493 publicly traded firms in 30 countries, our results show that politically connected firms are more likely to substitute real earnings management strategies for accrual-based earnings management strategies than non-connected firms. We also find that when public monitoring and, therefore, the risk of detection increases, politically connected firms are more likely to resort to less detectable real earnings management strategies. Our finding that political connections play a significant role in the choice between accrual-based and real earnings management strategies suggests that focusing only on accrual-based measurements underestimates the total earnings management activities of politically connected firms.

Original languageEnglish
Pages (from-to)111-141
Number of pages31
JournalInternational Journal of Accounting
Volume50
Issue number2
DOIs
Publication statusPublished - 1 Jun 2015
Externally publishedYes

Keywords

  • Accrual-based earnings management
  • Political connection
  • Public monitoring
  • Real earnings management
  • Substitution of earnings management strategies

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