R D expenditures and earnings targets: evidence from France

Abstract

Research and development (R&D) investments reduce current-period earnings while the benefits associated with the investments occur in the future. This problem implies an earnings management tool to boost short-term performance. While there is much evidence regarding managerial discretion through R&D capitalization, empirical studies that directly examine managerial discretion through R&D expenditure adjusting have not been widely provided in the European context. This paper seeks to determine if earnings targets influence R&D investment by encouraging R&D cuts after IFRS adoption. Focusing on a French setting, where companies invest heavily in R&D, results show that managers tend to cut the R&D expenditures in order to achieve earnings target. Studying two earnings management incentives: avoidance of losses (positive earnings target) and earnings decreases (positive earning growths target), findings support thresholds assumption and provide evidence on real earnings management through R&D expensing. This empirical research contributes to the literature by providing further evidence that post-FRS, R&D cut is a strategic decision influenced by earnings management to boost performance.

Myopia in investment: Seasoned manager’s age and long-term investment distortion

“…Study results also supported by Docherty & Hurst (2018), movements of stock mar-ket momentum could lead to myopia in investments as firm value is affected by investor's perception of trust about stock's future value than its fundamental value, thus affecting market-to-book equity ratio of a firm. It should be noted that several manufacturing companies during the study experienced capital deficiency conditions in their financial statements and set aside priorities on R&D expenditures, even though Guidara & Boujelbene (2015) found that French companies that averaged 46% of the company's total sales for R&D investments were able to enjoy investment opportunities are almost double their market-to-book equity ratio, if R&D funding can be a priority within the company then the potential for this increase can also occur in the manufacturing industry in Indonesia.…”

“…Variable measurement of market-to-book equity is based on Lundstrum (2002) who designed this approach as Q-theory of investment implies that investment opportunities are sufficient to explain all investment activity, also the usage of market-to-book equity ratio to control the variation in firm-year investment and making it a good proxy for investment opportunities. This variable is also used by Guidara & Boujelbene (2015) who stated greater investment opportunity (measured with market-tobook equity ratio) could make it costly to cut R&D expenditure, so controlling this variable could represent discretionary R&D expense treatment, as myopia in investment is calculated through R&D expense.…”

“…Choi & Lee (2017) also used this variable to assess the effect of firm size on R&D expenditure types through the shares of sales revenue spent on R&D investments, as small and large firms have different incentives on R&D investment. Furthermore, according to Guidara & Boujelbene (2015) large firm size could limit the discretionary decision of a firm, and this means that firm size could be a driver of investment myopia. Hovakimian (2009) and Chowdhury (2011) also measured firm size with natural logarithm of total assets to assess the effect of firm size to R&D expenditure.…”

The Impact of R&D Expenditures on Earnings Management

“…A further paper on this topic was published by R. Guidara and Y. Boujelbene (2015), who on the basis of 800 firm-year observations (80 French companies qualified as R&D intensive in the reports within [2005][2006][2007][2008][2009][2010][2011][2012][2013][2014] showed that firms manage R&D expenditures to avoid earnings losses and decreases. The empirical part of the study provides evidence that decisions concerning R&D budgets are used to help achieve earnings targets.…”

Forecasting the level of earnings management of Russian and Chinese companies

“…There are also papers that focus on a particular type of accruals. For instance, Rasmussen (2013) analyzes earnings management on the basis of revenue recognition, while Guidara and Boujelbene (2015), Shust (2015) and Garanina, Nikulin and Frangulantc (2016) consider accounting treatment of R&D costs as an earnings management tool. Much attention in recent years has also been given to real earnings management that is treated as an alternative to accrual-based earnings management (e.g., Zang, 2012;Chan et al, 2015;Malik, 2015).…”