Evidence of Avoiding Working Capital Deficits in Australia

Abstract

This study examines the incidence of managerial interventions in Australian firms to avoid reporting working capital deficits. We document a significant discontinuity in the distribution of current ratios at 1.0. We also find that the propensity of Australian firms to avoid working capital deficits is largely determined by the costs and benefits of management interventions. Firms with short-term or long-term debt are less likely to engage in accounts manipulation, while firms paying dividends are more likely to do so. Further examination of the components of current assets and current liabilities reveals that, to avoid working capital deficits, Australian firms tend to undertake actions to overstate accounts receivable rather than overstate inventory or understate current liabilities. The results provide practical guidance and implications for shareholders, auditors and regulators in identifying accounting irregularities.

Moderating Effects of Firm Size and Leverage on the Working Capital Finance–Profitability Relationship: Evidence from China

“…We designed Equation (1) to test the relationship between WCF and profitability. This model uses the WCF square variable along with WCF to capture the break-even point.…”

“…The relationship between profitability and working capital has remained a critical issue since the late 1990s. The literature defines working capital as the value of current assets after excluding current liabilities [1][2][3] and refers to the management of current assets, current liabilities, and inventories for profit maximization and sustainable growth [4][5][6][7][8]. Working capital management significantly contributes to firm value by maintaining a balance between risk and profitability [5,7,[9][10][11][12][13].…”

Accruals Management to Avoid The Current Ratio Falling Below One: An Empirical Analysis Among Nonprofits

“…Last but not least, while prior nonprofit studies tend to focus on earnings management related to income statement items (e.g., earnings management toward zero earnings-see, for example, Jegers, 2013;Verbruggen et al, 2011-and expense misreporting to improve efficiency ratios-see, for example, Krishnan et al, 2006;Yetman & Yetman, 2012), we focus on the management of balance sheet information. This study also contributes to previous literature on the specific phenomenon under study (i.e., Dyreng et al, 2017;Jiang et al, 2016) by considering the distribution of the pre-managed current ratio. Doing so, we provide more direct evidence of accrual management aimed at improving the current ratio.…”

“…We are the first study to empirically document the avoidance of the current ratio falling below one in a nonprofit setting. Whereas prior research already documents this type of behavior in a listed firm setting (Dyreng et al, 2017;Jiang et al, 2016), these results are not necessarily generalizable to the nonprofit sector with its specific and distinct characteristics (Hofmann & McSwain, 2013). Moreover, while being a crucial issue for the survival and success of an organization, research on working capital management is scant among NPOs.…”

“…Prior studies among listed firms reveal that managers window dress their financial statements (by managing working capital components) to avoid the current ratio (a popular liquidity metric, cf. next paragraph for further details) falling below one (Dyreng et al, 2017;Jiang et al, 2016). The aim of this study is to examine whether this type of behavior also occurs in nonprofit organizations (NPOs).…”