Are Polish Public Companies 'Cooking the Books'? The Evidence from Annual Earnings Thresholds

Abstract

Earnings management erodes the usefulness of financial statements, because the typical result of “cooking the books” is the occurrence of “earnings bubble” that bursts sooner or later, causing stock price to dive. This paper explores the presence of earnings management in the case of companies listed on the Warsaw Stock Exchange in 2000-2009 period. We used the methodology based on two earnings thresholds: the negative / positive annual earnings threshold and the threshold between the decrease / increase of annual earnings. The research found that there is unusually low number of observations with the net margin between -1,5% and 0% and unusually high number of observations with the net margin between 0% and 2%, which suggests that companies with unmanaged earnings just below zero boost those earnings to the levels just above zero. The research also confirmed (although less strongly than in the case of negative / positive net margin threshold) the earnings management around zero earnings growth, which suggests that companies with unmanaged earnings that would show the small decline y/y boost those earnings in order to report the positive growth at the level just above zero.