In a perfect world it would be needless to indulge in creative accounting or fraud because all expectations would be fulfilled. In the real world, however, it may be tempting for companies to adopt creative accounting or even fraud so as to live up to expectations. Several major incentives are discussed below.
Most commonly, companies may increase reported earnings or fabricate nonexistent transactions so that they can obtain greater salaries, bonuses and ...view middle of the document...
Firms may also enter creative entries because the market prefers steady sets of profits rather than fluctuating profits. Another possible motivation for indulging in creative accounting is that companies will suffer a loss if they do not indulge in it when their competitors all do so.
In some special circumstances, external pressures might cause companies to adopt creative accounting or fraud. First, to avoid breaching loan covenants, managers may need to keep a certain gearing level. Second, companies issuing shares to raise money in stock market are likely to use creative accounting because higher profits lead to higher share price. Third, for companies considering mergers and acquisitions, higher share price help bidders reduce the cost if offering shares as a part of payment or help targets gain greater strength in defense efforts. Fourth, managers may decrease profits in order to escape from government intervention. Fifth, a new management team can reduce the profits to create a lower base for easier profits boost. Sixth, when companies are.