Evidence of Earnings Management from the Provision for Bad Debts

Evidence of Earnings Management from the Provision for Bad Debts

By
Maureen McNichols, G. Peter Wilson
Journal of Accounting Research, Studies on Management's Ability and Incentives to Affect the Timing and Magnitude of Accounting Accruals.
1988, Vol. 26, Pages 1-31

 Our paper examines whether managers manipulate earnings.’ We begin by modeling how a specific accounting number, the provision for bad debts, would be reported in the absence of earnings management. This model is motivated by generally accepted accounting principles (GAAP): the provison should ensure that net accounts receivable represents management’s expectation of future collections. We refer to the difference between the reported provision and the measurement specified by GAAP as a discretionary accrual and use our model to develop a discretionary accrual proxy.’ To test for earnings management, we divide our sample into partitions where the behavior of this discretionary accrual is predicted by various earnings management hypothesis.