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An International Meeting of American Accounting
Association
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Is Accounting Profitability Diverging? The Roles of Accounting Conservatism, New Firms, and Industry Attributes |
Masako Darrough
Baruch College
Jianming Ye
Baruch College
Abstract: Recent empirical research has documented a substantial decrease in average accounting profitability. The phenomenon appears inconsistent with the observation that corporate profit as a fraction of national income has remained stable. This paper shows that the downward trend is fully explicable by a growing profitability gap between large and small firms within many industries, especially those with high R&D intensity. We examine the extent to which the divergence is caused by the entry of new firms to the Compustat database, increasing accounting conservatism (e.g., R&D expensing and accounting accruals). These effects are only partial explanation. We further analyze how the rate of divergence is related to several industry attributes, including the average R&D intensity, capital intensity, concentration, and growth. The results have significant implications to understanding accounting conservatism, financial statement analysis, and the economics of industrial organization.