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Corporate diversification and earnings management

Author

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  • Imen Khanchel El Mehdi
  • Souad Seboui

Abstract

Purpose - The purpose of this paper is to find out whether corporate diversification provides a favourable environment for earnings management (agency conflicts hypothesis) or whether it mitigates this phenomenon (earnings volatility hypothesis). Design/methodology/approach - Based on a sample of US firms and making an explicit distinction between industrial and geographic diversification, univariate and multivariate analyses are used to test whether firm diversification has an impact on earnings management. Findings - Results show that the average diversified firm in the sample has somewhat more earnings management problems than a similarly constructed portfolio of stand-alone firms chosen to approximate the segments of the conglomerate. Consistent with the agency conflicts hypothesis, the authors find that geographic diversification increases earnings management whereas industrial diversification decreases it, consistent with earnings volatility hypothesis. Moreover, industrial and geographic diversification combined reinforce this phenomenon. These findings are consistent with the view that the costs of geographic diversification outweigh the benefits. Originality/value - The paper makes an important contribution to the accounting literature by providing new and significantly different evidence on the relative roles of corporate diversification in the earnings management. By linking two streams of research, earnings management and corporate diversification, one is taken into the unexplored area of the sources of the difference in earnings management between diversified and focussed firms. More specifically, this study provides evidence that earnings management is more intensively practiced in geographically diversified firms and even more so in firms that are both industrially and geographically diversified.

Suggested Citation

  • Imen Khanchel El Mehdi & Souad Seboui, 2011. "Corporate diversification and earnings management," Review of Accounting and Finance, Emerald Group Publishing, vol. 10(2), pages 176-196, May.
  • Handle: RePEc:eme:rafpps:v:10:y:2011:i:2:p:176-196
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    References listed on IDEAS

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    Cited by:

    1. Vasilescu, Camelia & Millo, Yuval, 2016. "Do industrial and geographic diversifications have different effects on earnings management? Evidence from UK mergers and acquisitions," International Review of Financial Analysis, Elsevier, vol. 46(C), pages 33-45.
    2. Farooqi, Javeria & Harris, Oneil & Ngo, Thanh, 2014. "Corporate diversification, real activities manipulation, and firm value," Journal of Multinational Financial Management, Elsevier, vol. 27(C), pages 130-151.
    3. Imen Khanchel El Mehdi, 2014. "Accrual and cash flow anomalies in diversified firms: Impact of segment portfolio management," Working Papers 2014-76, Department of Research, Ipag Business School.
    4. repec:ipg:wpaper:2014-076 is not listed on IDEAS

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