Comparing Earnings Management in Germany and the USA

Abstract

This study presents empirical evidence concerning the effect of different accounting standard on earnings management. Prior studies have shown that accounting standards influence earnings management. Tighter accounting standards regime restricts management’s discretion to manipulate accruals, and at the same time, induces more costly real earnings management activities. To investigate this issue, the levels of earnings management in the U.S. are compared with those of Germany. The data are obtained from the Osiris database. The sample comprises 4,388 firm-year observations for U.S companies and 792 firm-year observations for German companies for the period of 2004-2007. To capture accrual earnings management, we use discretionary accrual, and to capture real earnings management we sum standardized abnormal cash flow from operation (CFO), abnormal production costs, and abnormal discretionary expenses. The result indicates that Germany’s relatively principle-based GAAP yields a higher level of accrual-based earnings management than the US’s relatively rule-based GAAP. On the other hand, we also document that US GAAP yields a higher level of real-based earnings management than Germany’s GAAP.