Agency Conflicts, Earnings Management, and Conservatism

Bertomeu, Jeremy; Darrough, Masako N.; Xue, Wenjie

doi:10.2139/ssrn.2267104

Cited by 10 publications

(5 citation statements)

References 72 publications

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“…Our results on performance measure manipulation are related to the now large theoretical literature on earnings management (e.g., Dye ; Demski ; Arya et al ; Christensen et al ; Bertomeu et al ; Marinovic ). The earnings management in our model involves cherry‐picked corrections, which are also studied in Arya and Glover () and Larmande and Ponssard ().…”

Section: Introductionsupporting

confidence: 76%

Information Asymmetries about Measurement Quality

Glover

Levine

2019

Contemporary Accting Res

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This article studies contracts between a principal and an agent that are robust to information asymmetries about measurement quality. Our main result is that an information asymmetry about measurement quality not only reduces the usefulness of a given performance measure for stewardship purposes, it also qualitatively changes the way the performance measure is used if the information asymmetry is sufficiently large. We also study the manipulability of performance measures, assuming that poor measurement quality creates room for manipulation via selective (cherry-picked) corrections by the agent. With known imperfect measurement quality, manipulability lowers the cost of providing incentives. Manipulability introduces overstatements only, while imperfect measurement introduces both overstatements and understatements. However, with an information asymmetry about measurement quality, manipulability can increase the cost of providing incentives, since there is now an induced information asymmetry about manipulability.Asymétrie de l'information relative à la qualité des critères d'évaluation RÉSUMÉLes auteurs étudient des contrats mandant-mandataire suffisamment solides pour résister aux asymétries de l'information relative à la qualité des critères d'évaluation. Selon leur principal constat, l'asymétrie de l'information quant à la qualité des critères d'évaluation a pour conséquence non seulement de réduire l'utilité d'un critère donné d'évaluation de la performance à des fins de gérance, mais aussi de modifier l'aspect qualitatif de son utilisation lorsque l'asymétrie de l'information est suffisamment importante. Les auteurs analysent également la mesure dans laquelle les critères d'évaluation de la performance peuvent être manipulés, en s'appuyant sur l'hypothèse selon laquelle la piètre qualité des critères d'évaluation les expose à être manipulés par le mandataire au moyen de corrections sélectives. Dans le cas de critères d'évaluation connus mais imparfaits, la possibilité de manipuler les critères réduit les coûts associés à l'instauration de mesures incitatives. Des critères d'évaluation de la performance exposés à la manipulation entraînent uniquement des surestimations, alors que des critères d'évaluation imparfaits entraînent à la fois des surestimations et des sous-estimations. Cependant, en situation d'asymétrie de l'information relative à la qualité des critères d'évaluation, des critères d'évaluation de la performance qui se prêtent à la manipulation risquent d'accroître les coûts associés à l'instauration de

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Section: Introductionsupporting

confidence: 76%

Information Asymmetries about Measurement Quality

Glover

Levine

2019

Contemporary Accting Res

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“…Gao (2012) studies whether and how conservatism constrains earnings management in a debt contract setting, finding that conservatism is generally beneficial, and Gao (2013) shows that, to safeguard against managerial ex post opportunism, the optimal ex ante measurement rule is conservative because, in the face of managerial optimism and opportunism, a conservative rule requires more verification of the transaction characteristics that are favourable to managers. In contrast, Bertomeu et al (2013) demonstrate that more conservative accounting may be associated with more highly powered managerial incentives linked to reported earnings and this, in turn, increases the incentives for earnings management.…”

Section: Stewardship and Managerial Monitoringmentioning

confidence: 79%

The implications of research on accounting conservatism for accounting standard setting

Mora

Walker

2015

Accounting and Business Research

110

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This paper provides a commentary on the academic literature on accounting conservatism with a view to highlighting the insights of that literature that are potentially useful for accounting standard setters. We begin by introducing the basic concepts of conservatism focusing on the distinction between conditional and unconditional conservatism. We then briefly discuss the objectives of financial reporting and the economics of information, paying particular attention to the role of stewardship in the Conceptual Framework, and the economic concepts of adverse selection and moral hazard. The two middle sections of the paper provide overviews of, respectively, the theoretical and empirical literatures on accounting conservatism. Having summarised the theoretical and empirical literatures, we then try to synthesis the implications of the literature for standard setters, paying particular attention to understanding the costs and benefits of conservatism, implications for the Conceptual Framework, highlighting the particular demands of public debt markets for conservatism, and explaining how accounting standards might be adapted to allow some degree of flexibility in conservative accounting choice. The final section discusses the limitations of the academic literature from the practical point of view of standard setters, and highlights areas for new research that may be of more direct value for policy-making.

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“…Also see a similar prediction in Lu and Sapra (2009), where clients prefer conservative auditors when they have relatively poor ex ante payo¤s from investment. 7 Several papers use an equivalent notation where P(S g j g ) = + and P(S g j b ) = (e.g., Venugopalan 2004;Li 2013;Bertomeu et al 2013). Our notation can be equivalently stated using P(S g j g ) = p + (1 p)(1 c) and P(S g j b ) = (1 p)(1 c) so that our parameter p is equivalent to , and = (1 p)(1 c).…”

Section: Modelmentioning

confidence: 99%

“…the board can prevent manipulation by promising the manager a payment of M if and only if the report is unfavorable. Of course, such a contract is not only costly but would also dilute e¤ort incentives in a richer setting where the manager chooses 10 See Bertomeu et al (2013) for a setting that explicitly considers optimal contracts in a moral hazard setting that features the interaction between conservative accounting and manipulation. There, the …rm faces no investment decisions but instead constructs the accounting system and a compensation contract in order to minimize the cost of inducing the manager to exert e¤ort.…”

Section: Modelmentioning

confidence: 99%

“…Our study di¤ers from these by showing a setting where conservative accounting leads to more manipulation, and the manager's ability to manipulate renders the optimal accounting system less conservative. 5 In a concurrent study, Bertomeu et al (2013) show that conservative accounting can increase incentives for manipulation in a setting in which the manager's compensation depends on accounting reports. There, the board designs an accounting system to induce productive e¤ort at the lowest possible compensation cost.…”

Section: Introductionmentioning

confidence: 99%

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Corporate Governance, Accounting Conservatism, and Manipulation

2017

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We develop a model to analyze how board oversight a¤ects …rms' …nancial reporting choices, and managers'incentives to manipulate accounting reports. Ceteris paribus, conservative accounting is advantageous because it enables boards to make more cautious project approval decisions. This feature of conservatism, however, causes managers to manipulate the system in an attempt to distort decision making. E¤ective reporting oversight curtails managers'ability to manipulate, reducing the negative side e¤ects of conservatism. Our model predicts that stronger reporting oversight leads to greater accounting conservatism, manipulation, and investment e¢ ciency.

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Agency Conflicts, Earnings Management, and Conservatism

Cited by 10 publications

References 72 publications

Information Asymmetries about Measurement Quality

Information Asymmetries about Measurement Quality

The implications of research on accounting conservatism for accounting standard setting

Corporate Governance, Accounting Conservatism, and Manipulation

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