The Tendency of Firm Managers to Avoid Small Losses

Yi-Tsung Lee and Ging-Ginq Pan
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Ging-Ginq Pan: National Pingtung University of Science and Technology, Taiwan, R.O.C.

Chapter 9 in Advances in Quantitative Analysis of Finance and Accounting, 2006, pp 195-218 from World Scientific Publishing Co. Pte. Ltd.

Abstract: AbstractWe test the tendency of firm managers to report negative small earnings reluctantly, by analyzing earnings across firms listed on the Taiwan Stock Exchange. This paper provides evidence that corporate managers report small losses in earnings less often than small gains in earnings. To complement Burgstahler and Dichev (1997)'s study on cross-sectional evidence, we examine the managers' inclination to avoid small losses by comparing the reported earnings and the pre-managed earnings over time. By using pair-wise samples, our study demonstrates a strong preference of listed firms for reporting small gains rather than small losses. Since the motivation for the avoidance of losses is justified by prospect theory, we suggest that the regulators should improve earnings reporting quality by enhancing corporate governance.

Keywords: Earnings Management; Management Compensation; Option Theory and Application; Debt Management and Interest Rate Theory; Portfolio Diversification; Earnings Surprise (search for similar items in EconPapers)
Date: 2006
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