Lawrence D. Brown
Georgia State University
Marcus L. Caylor
Georgia State University
Abstract: Using data from the mid 1970s to the mid 1990s, Burgstahler and Dichev (1997) and Degeorge, Patel and Zeckhauser (1999) find the following hierarchical rank ordering of achieving earnings management thresholds, avoid: (1) losses, (2) earnings decreases, and (3) negative earnings surprises. We re-examine the rank ordering of achieving earnings management thresholds using data from 1985-2001. Early in our study period (1985-1993), we confirm the findings of the extant literature that managers are less likely to avoid negative earnings surprises than to avoid either losses or earnings decreases. Late in our study period (1996-2001), we find precisely the opposite. Managers are more likely to avoid negative earnings surprises than to avoid either losses or earnings decreases. We provide a simple economic rationale for why avoiding negative earnings surprises have become the most important threshold for managers to achieve in recent years. The temporal change in the positive valuation consequence of avoiding negative earnings surprises is significantly greater than that of avoiding either losses or earnings decreases, and the positive valuation consequences of avoiding negative earnings surprises exceeds that of avoiding either losses or earnings decreases in recent years.
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