Abstract:
This paper attempts to shed light upon management choice to engage in earnings management beyond the bounds of Generally Acceptable Accounting Practice. I examine how limitations in accrual earnings management capabilities and unexpected variations in real earnings management can drive more prominent use in non-GAAP earnings management (NGEM). NGEM is approximated using restatements as result of irregularities and AAER enforcements. I have conducted my analyses in three stages. First, I examine a subsample of firms with high probability in engaging in NGEM and conduct a longitudinal analysis on the REM behavior of these firms leading to the period of high probability of restatement. I find that there is indeed more aggressive use of REM leading to the period of high probability of restatement. Next I examined whether firms with unexpected REM fluctuations and constrained AEM behavior are more likely to engage in NGEM behavior. I find weak evidence of constraints in AEM drives NGEM. Finally I examine whether the use of industry specialist auditors can help deter constrained AEM firms from resorting to the use of NGEM. I find no evidence suggesting industry specialist auditors can restrain the use of NGEM for firms with constrained AEM.
