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The impact of SME’s pre-bankruptcy financial distress on earnings management tools

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  • Campa, Domenico
  • Camacho-Miñano, María-del-Mar

Abstract

Previous literature finds that situations that put managers under significant levels of pressure (e.g. IPO, upcoming credit rating changes, violation of debt covenant, etc.) might affect the way earnings are manipulated. The aim of this study is to investigate whether the pressure caused by the non-temporary level of financial distress, conditions the choice between real activity and discretionary accrual manipulation. Using a selection of financial distress indexes and pre-bankruptcy data of a sample of bankrupt small companies operating in a code law country, our findings show that, on average, firms with higher levels of financial distress show more extensive signs of upward earnings management through real transaction manipulation rather than accruals and vice versa. Accordingly, real activity earnings management is preferred over accruals when managers are under significant levels of ‘pressure’ such as being close to face a bankruptcy procedure, despite its implications for the firm in the long term.

Suggested Citation

  • Campa, Domenico & Camacho-Miñano, María-del-Mar, 2015. "The impact of SME’s pre-bankruptcy financial distress on earnings management tools," International Review of Financial Analysis, Elsevier, vol. 42(C), pages 222-234.
  • Handle: RePEc:eee:finana:v:42:y:2015:i:c:p:222-234
    DOI: 10.1016/j.irfa.2015.07.004
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    More about this item

    Keywords

    Bankruptcy; Earnings management; Real activity manipulation; Accrual manipulation; SMEs; Panel data;

    JEL classification:

    • G33 - Financial Economics - - Corporate Finance and Governance - - - Bankruptcy; Liquidation
    • M41 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Accounting
    • M21 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Business Economics - - - Business Economics
    • C33 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Models with Panel Data; Spatio-temporal Models

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