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The Ethics Of Earnings Management Essay

4144 words - 17 pages

The Ethics of Earnings Management:  The Case of Income Smoothing 
James Gaa  University of Alberta  May 2007 

Information Asymmetry 
In Most Situations, People Do Not Have the Same  Information  Management Inevitably Has Information that Would be  Useful to Investors – and other Stakeholders  In Financial Reporting:  Information Asymmetry Follows Immediately from the  Separation of Ownership and Management

May 2007 

The Ethics of Earnings  Management 

Corporate Transparency (OECD) 
“The Corporate Governance Framework Should Ensure  that  Timely and Accurate Disclosure is made  on All Material Matters regarding the Corporation,  ...view middle of the document...

  The word ‘Secrecy’ Refers to the Resulting Concealment.” 
(Bok, Secrecy 1983, pg. 5)
May 2007  The Ethics of Earnings  Management  6 

Secrecy and Information Asymmetry 
There are Two Cases:  Decreasing Information Asymmetry  Truthful Disclosures Reduce Asymmetry  Maintaining or Increasing Information Asymmetry  Secrecy Maintains Asymmetry  In the Setting of Publicly Accountable Entities,  Transparency – Disclosure of All Material Information –  is the Standard Case  In this Setting, Secrecy Needs to be Justified 
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The Basic Ethical Problem 
Every Company Needs to  Make Disclosures  Keep Secrets  So, Every Company Needs a Strategy for Disclosing  Information about Itself  Often: to Maximize Secrecy / Minimize Disclosure  May Include Earnings Management  Is Earnings Management a Legitimate Part  of a Company’s Disclosure Strategy?
May 2007  The Ethics of Earnings  Management  8 

The Problem of Earnings Management 
Earnings Management  The Alteration of Financial Reports  In Order to Affect the Behaviour of Others  For Me: the Biggest Issue in Financial Accounting and  Reporting  Why: It Strikes at the Core of the Traditional Ideal of  Accounting:  The Preparation of Neutral – Unbiased – Information 
May 2007  The Ethics of Earnings  Management  9 

Empirical Evidence 
Earnings Management is Common  Strategies are Often Complex and Multi­period  It is Done for a Variety of Motivations: Often  for the Benefit of Management,  Not (Solely) to Benefit Stakeholders  Managers are Willing to Incur Real Economic Costs in  Order to Alter Financial Reports
May 2007  The Ethics of Earnings  Management  10 

Earnings Management 
The Alteration of Financial Information to Produce a Predetermined  Result by Intervening or Interfering in the Neutral Operation of the  External Financial Reporting Process  Involving the Use of Judgment  in Financial Reporting, or  in Creating or Structuring Transactions in Ways that have No  Business Purpose Other than to Alter Financial Reports  to Alter the Distribution of Information,  for the Purpose of either  Affecting Some Stakeholders’ Evaluation of the Underlying  Economic Performance of the Company or  Influencing Contractual Outcomes that Depend on Reported  Accounting Numbers. 
May 2007  The Ethics of Earnings  Management  11 

Earnings Management: What 
The Alteration of Financial Information to Produce a  Predetermined Result  by Intervening or Interfering  in the Neutral Operation of the External Financial Reporting  Process

May 2007 

The Ethics of Earnings  Management 


Neutrality – FASB 
100. … It is, above all, the Predetermination of a Desired  Result, and the Consequential Selection of Information  to Induce that Result, that is the Negation of Neutrality in  Accounting.  To be Neutral, Accounting Information Must Report  Economic Activity as Faithfully as Possible, Without ...

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