Earnings Managements

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Instructor’s Manual—Chapter 11

CHAPTER 11
Earnings Management
11.1

Overview

11.2

Patterns of Earnings Management

11.3

Evidence of Earnings Management for Bonus Purposes

11.4

Other Motivations for Earnings Management
11.4.1 Other Contracting Motivations
11.4.2 To Meet Investors’ Earnings Expectations and Maintain Reputation
11.4.3 Initial Public Offerings

11.5

The Good Side of Earnings Management
11.5.1 Blocked Communication
11.5.2 Theory and Empirical Evidence of Good Earnings Management

11.6

The Bad Side of Earnings Management
11.6.1 Opportunistic Earnings Management
11.6.2 Do Managers Accept Securities Market Efficiency?
11.6.3 Implications for Accountants

11.7

Conclusions on Earnings Management

Copyright © 2009 Pearson Education Canada

339

Instructor’s Manual—Chapter 11

LEARNING OBJECTIVES AND SUGGESTED TEACHING APPROACHES
1.

To Outline Reasons for Earnings Management

I recommend introducing students to the topic of earnings management by discussing
Healy’s seminal 1985 bonus plan paper. Healy’s evidence that bonus plans motivate earnings management helps students to take contracting theory seriously. It opens up a whole new set of considerations in accounting policy choice beyond the disclosure of useful information to investors.
While it is somewhat cynical, I sometimes ask the question whether management would admit to the behaviour documented by Healy, and whether the auditor would assist or oppose the manager in this type of earnings management. For those interested in research methodology, Healy’s paper can be used to point out the desirability in accounting research areas such as this of using empirical analysis of hard data, with good experimental design and statistical analysis, in order to more fully understand management’s accounting policy choices. Having said this, it is important that the Healy results not be “oversold,” since Healy faced substantial methodological

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