Real Versus Accrual-based Earnings Management

Abstract

This article examines the relationship between accrual-based earnings management (AM) and real earnings management (RM) in the Indian context by considering 673 listed non-financial companies for the period 2009–2013. The article quantifies AM and RM and tests whether Indian companies choose substitute relationship over complementary relationship between AM and RM after factoring firm-specific parameters such as firm size, market-to-book ratio, leverage, accounting flexibility, return on asset (ROA), business group affiliation and absolute accruals. Modified Jones model (1991) and Roychowdhury model (2006) have been used for quantifying AM and RM, respectively. To model the relationship between AM and RM, two-stage least square (2 SLS) regressions method has been used. The results suggest that Indian companies undertake both AM and RM with a higher predisposition towards AM. The positive association between the two supports complementary relationship between two and indicates that Indian companies use AM and RM to garner greater benefit from earnings management.