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Measuring Distress Risk: The Effect of R&D Intensity

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  • LAUREL A. FRANZEN
  • KIMBERLY J. RODGERS
  • TIMOTHY T. SIMIN

Abstract

Because of upward trends in research and development activity, accounting measures of financial distress have become less accurate. We document that (1) higher research and development spending increases the likelihood of misclassifying solvent firms, (2) adjusting for conservative accounting of research and development increases the number of correctly identified distressed firms, and (3) adjusted measures of distress alleviate previously documented anomalously low returns of large, high distress risk, low book-to-market firms. The results hold after updating stale parameters and under various tax assumptions. Our evidence raises concerns about interpretation of extant literature that relies on accounting measures of distress. Copyright 2007 by The American Finance Association.

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Bibliographic Info

Article provided by American Finance Association in its journal The Journal of Finance.

Volume (Year): 62 (2007)
Issue (Month): 6 (December)
Pages: 2931-2967

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Handle: RePEc:bla:jfinan:v:62:y:2007:i:6:p:2931-2967

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Cited by:
  1. Demirtas, K. Ozgur & Rodgers Cornaggia, Kimberly, 2013. "Initial credit ratings and earnings management," Review of Financial Economics, Elsevier, vol. 22(4), pages 135-145.
  2. Henselmann, Klaus & Scherr, Elisabeth, 2012. "Content analysis of XBRL filings as an efficient supplement of bankruptcy prediction? Empirical evidence based on US GAAP annual reports," Working Papers in Accounting Valuation Auditing 2012-2, Friedrich-Alexander-Universität Erlangen-Nürnberg, Lehrstuhl für Rechnungswesen und Prüfungswesen.

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