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Earnings Management under Price Regulation

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  • FARSHID NAVISSI

Abstract

Price controls1 have a major impact on firms' earnings and cash flows. Because price control regulation is costly to firms, it is a type of regulatory intervention that can impact a firm's accounting decisions (Watts and Zimmerman, 1978). Thus, regulatory changes that give firms relief from price controls provide incentives for earnings management. This paper examines discretionary accruals made by New Zealand manufacturing firms in response to two sets of regulations issued in 1971 and 1972. These regulations allowed manufacturing firms to apply for price increases to gain relief from financial hardship caused by the 1970 Price Freeze Regulation. Using a modified accruals mode! that adjusts for price†level movements, the paper tests discretionary accruals of two samples of manufacturing firms and one control sample of nonmanufacturing firms. The results provide evidence of income decreasing discretionary accruals by manufacturing firms for the years during which they could apply for price increases. The control firms do not exhibit significant discretionary accruals in 1971 or 1972. Also, this paper provides evidence that failing to adjust for price†level movements in high inflationary periods could result in inferences of income decreasing discretionary accruals where none may exist.

Suggested Citation

  • Farshid Navissi, 1999. "Earnings Management under Price Regulation," Contemporary Accounting Research, John Wiley & Sons, vol. 16(2), pages 281-304, June.
    • Handle: RePEc:wly:coacre:v:16:y:1999:i:2:p:281-304
    DOI: 10.1111/j.1911-3846.1999.tb00582.x
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    3. Norman Saleh & Kamran Ahmed, 2005. "Earnings management of distressed firms during debt renegotiation," Accounting and Business Research, Taylor & Francis Journals, vol. 35(1), pages 69-86.
    4. Yves Mard, 2005. "Vers Une Information Comptable Plus Transparente : L'Apport Des Recherches Portant Sur La Gestion Des Résultats Comptables," Post-Print halshs-00581229, HAL.
    5. Jiang, Haiyan & Hu, Yuanyuan & Zhang, Honghui & Zhou, Donghua, 2018. "Benefits of Downward Earnings Management and Political Connection: Evidence from Government Subsidy and Market Pricing," The International Journal of Accounting, Elsevier, vol. 53(4), pages 255-273.
    6. Margaret J. Greenwood & Richard M. Baylis & Lei Tao, 2017. "Regulatory incentives and financial reporting quality in public healthcare organisations," Accounting and Business Research, Taylor & Francis Journals, vol. 47(7), pages 831-855, November.
    7. Dechow, Patricia & Ge, Weili & Schrand, Catherine, 2010. "Understanding earnings quality: A review of the proxies, their determinants and their consequences," Journal of Accounting and Economics, Elsevier, vol. 50(2-3), pages 344-401, December.
    8. Boland, Matthew & Godsell, David, 2020. "Local soldier fatalities and war profiteers: New tests of the political cost hypothesis," Journal of Accounting and Economics, Elsevier, vol. 70(1).
    9. Reza M. Monem, 2003. "Earnings Management in Response to the Introduction of the Australian Gold Tax," Contemporary Accounting Research, John Wiley & Sons, vol. 20(4), pages 747-774, December.
    10. Juan Manuel García Lara & Beatriz García Osma & Fernando Penalva, 2009. "The Economic Determinants of Conditional Conservatism," Journal of Business Finance & Accounting, Wiley Blackwell, vol. 36(3‐4), pages 336-372, April.
    11. Filip, Andrei & Raffournier, Bernard, 2014. "Financial Crisis And Earnings Management: The European Evidence," The International Journal of Accounting, Elsevier, vol. 49(4), pages 455-478.
    12. Kyoungkook Lim & Giseok Nam, 2017. "Is Earnings Management in the South Korean Defense Industry Sustainable?," Sustainability, MDPI, vol. 9(11), pages 1-11, November.
    13. A. Mendes & R. L. Cardoso & P. C. Mário & A. L. Martinez & F. R. Ferreira, 2014. "Insolvency Prediction In The Presence Of Data Inconsistencies," Intelligent Systems in Accounting, Finance and Management, John Wiley & Sons, Ltd., vol. 21(3), pages 155-167, July.
    14. Gill-de-Albornoz, Belen & Illueca, Manuel, 2005. "Earnings management under price regulation: Empirical evidence from the Spanish electricity industry," Energy Economics, Elsevier, vol. 27(2), pages 279-304, March.
    15. Juan Manuel García Lara & Beatriz García Osma & Fernando Penalva, 2009. "The Economic Determinants of Conditional Conservatism," Journal of Business Finance & Accounting, Wiley Blackwell, vol. 36(3‐4), pages 336-372, April.

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