Earnings management relates to the use of discretionary accounting accruals to manipulate reported earnings figures (Schipper, 1989, pp. 92–93; Jones, 1991, p. 206). Further, Watts and Zimmerman (1986, pp. 230–231) argue that, because corporations are particularly vulnerable to wealth-extracting political transfers in the form of legislation and/or regulation, companies may use earnings management to decrease net income in periods of increased political sensitivity. In support of this claim, recently published research (Deegan and Rankin, 1996; Patten, 2000, 2002) reports evidence indicating corporations appear to use environmental disclosure to offset negative environmental performance.

Required:

(a) Discuss how earnings management is used as a tool to reduce sensitivity to political pressure. In support of this claim, recently published research (Deegan and Rankin, 1996; Patten, 2000,

(b) Regulators may impose political costs on firms. However, there are ways that some firms practice to minimize such costs. Discuss with examples.

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a This study investigates whether firms that expect increases in earnings resulting from sudden product price increases use accounting accruals to scale back earnings and thus political sensitivity Sp... View the full answer