Int. J. of Accounting and Finance   »   2016 Vol.6, No.3

 

 

Title: Accruals and real earnings management: testing the debt covenant hypothesis

 

Authors: Umar Butt; Trevor Chamberlain; Sudipto Sarkar

 

Addresses:
College of Business, Zayed University, Dubai, UAE
DeGroote School of Business, Hamilton, ON, L8S 4M4, Canada
DeGroote School of Business, Hamilton, ON, L8S 4M4, Canada

 

Abstract: This paper examines earnings management activities around debt covenant violations. We focus on accruals management and real activities manipulation behaviour of managers in the quarters around the covenant violation. We expect covenant restrictions to influence these activities in the quarters surrounding and the quarter of the violation. The evidence is consistent with managers manipulating earnings using accrual-based and real earnings management activities and provides evidence for the debt covenant hypothesis. Cross-sectional analyses reveal that managers appear to manipulate accruals in successive quarters in order to increase reported earnings. The evidence on the use of real activities suggests that while managers increase reported earnings in the violation quarter, they have limited discretion over the use of real earnings management techniques in the quarters surrounding the violation.

 

Keywords: debt covenant violations; accruals manipulation; real earnings management; reported earnings.

 

DOI: 10.1504/IJAF.2016.081691

 

Int. J. of Accounting and Finance, 2016 Vol.6, No.3, pp.167 - 196

 

Date of acceptance: 21 Apr 2016
Available online: 18 Jan 2017

 

 

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