Earnings Management

Topics: Board of directors, Revenue, Balance sheet Pages: 17 (4730 words) Published: August 25, 2010
Earnings Management can be for positive or for fraudulent purposes. This project explores the various methods in which firms engage in Earnings Management and different models which may explain the various factors effecting Earnings Management.|

TABLE OF CONTENTS
Introduction3
Revenue Management3
Earnings Management3
Motives5
Instruments5
Project Methodology8
Objective8
Scope8
Methodology8
Analysis9
Model 19
Model 214
Model 321
Satyam Case Analysis:28
Conclusion29
REFERENCES32

Introduction
Revenue Management
It is a scientific way of maximizing profitability in capacity constrained industries by dynamically managing prices, inventories and capacity. The application of revenue management is based on the fundamental principles of market segmentation and price discrimination. Techniques of revenue management are widely used in the services industry. At a basic level, it involves allocating the right inventory to the right customer at the right price. This is also known as yield management. In the Indian context application of revenue management can be seen in many fields: * Travel and Tourism:

* Advance purchase of tickets offered by airlines
* Weekend discount by hotels
* Tatkal service by Indian Railways
* Different tariffs charged by power generation and distribution companies * Software companies
Revenue management has been named as the “number one emerging business strategy” by the Wall Street Journal. Application of management science models based on linear programming has improved the contribution to profit for a major steel company (Tata Steel) in India by $73 million in 1986-87 and given a cumulative impact of hundreds of millions of dollars in later years.

Earnings Management
It covers a wide variety of legitimate and illegitimate actions by management that affects the earnings of a company. It is strategy used by the management to deliberately manipulate the company’s earnings in order to smooth earnings over two or more interim or accrual accounting periods or to achieve a designated earnings level to meet security analysts’ forecasts. Companies prefer to smooth earnings in contrast to having years of exceptionally good or bad earnings. It includes legitimate discretionary choices of when to enter into transactions that require accounting recognition, adding a product line, selling a division, decreasing expenditures. For example, implementation of a decision to enhance the entity’s credit and collection activities may legitimately support reducing the estimate of bad debt expense. Abusive earnings management is deemed by the Securities & Exchange Commission to be "a material and intentional misrepresentation of results". This is the case when the management circumvents GAAP in an effort to influence reported earnings. Accounting records may be falsified, all the legal liabilities may not be reported, and fictitious transactions may be entered. In many cases, leadership is responsible for employing techniques to manage and smooth earnings. It should however, be noted that earnings management that constitutes fraud is distinctly different from earnings management perceived to reduce the quality of earnings. While the pure-fraud cases are to be dealt with through criminal law, issues such as earnings management are also to be dealt with through stringent provisions securities regulation and corporate governance norms. The current evidence indicates a greater incidence of the former type of cases rather than the latter, but beyond a point the distinction between the two gets somewhat blurred (as in Satyam’s case) and hence caution must be exercised to prevent both types of occurrences. A major area of concern regarding practice of earnings management is the effect it has on destabilizing the stock markets.

Motives
The major drivers which motivate the management to resort to techniques of earnings management may be discussed...

References: * between Pakistani Listed Companies and Chinese Listed Companies by Syed Zulfiqar Ali Shah, Hui Yaan and Nousheen Zafar (2010)
* Ownership Structure and Earnings Management in Emerging Markets: The Case of Jordan by Nedal Al-Fayoumi, Bana Abuzayed and David Alexander (2010)
* Board of Directors and Opportunistic Earnings Management: Evidence from India by Jayati Sarkar, Subrata Sarkar and Kaustav Sen(2006)
* Case Study of Satyam Scam by Subhendra Kataria and Siddharth Kamdar: http://www.scribd.com/doc/16782318/Case-Study-of-Satyam-Scam
* Understanding Corporate Annual Reports by Brian Stanko and Thomas Zeller
* Report by Panel on Audit Effectiveness, Chapter 3: http://www.pobauditpanel.org/downloads/chapter3.pdf
* Prowess Database
* EMIS Database
* http://www.investopedia.com/university/accounting-earnings-quality/earnings9.asp
* http://www.decisioncraft.com/dmdirect/revenue_management.htm
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