The effects of accounting regulations on financial statement quality and earnings management : A theory and tests

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This project examines the relation between accrual reliability and earnings persistence, using a large sample of listed firms in 1965-2004. The results show that the accrual component of earnings is overestimated. The accrual component is less reliable than the cash flow component. Accrual categories, the change in non-cash working capital, the net non-current operating assets and the change in net financial assets, are overestimated. In this period, the persistence of earnings is decreasing. The change in non-cash working capital and the net non-current operating assets are less persistent than the cash flow component. The accrual reliability may be related to earnings management. Earnings management, using operating assets and/or debts, causes a serious problem. Accounting regulations are minimum standards which require the minimum level of information reliability. High reliability accounting information induces investors' information acquisitions, and market efficiency. However, a policy maker requires more reliable accounting information, and the costs are socially increasing. In the cost-benefit view, the level of reliably should be determined.