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Earnings Management and the Revelation Principle

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Abstract

When the Revelation Principle (RP) holds, managing earnings confers no advantage over revelation. We construct an explanation for earnings management that is based on limitations on owners' ability to make commitments (a violation of the RP's assumptions). Traditionally, earnings management is seen as sneaky managers pulling the wool over the eyes of gullible owners by manipulating accruals; our limited commitment story suggests that the owners, too, can benefit from earnings management. We categorize a variety of extant explanations of earnings management, along with our own, according to which of the assumptions of the RP each explanation violates. Plausibility of multiple simultaneous violations of the assumptions, and strategic use of various accounting and real instruments of earnings management, complicate the task of detecting such management in field data.

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Authors and Affiliations

  1. Fisher College of Business, The Ohio State University, Columbus, Ohio, 43210-1399

    Anil Arya

  2. Graduate School of Industrial Administration, Carnegie Mellon University, Pittsburgh, Pennsylvania, 15213-3890

    Jonathan Glover & Shyam Sunder

Authors
  1. Anil Arya
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  2. Jonathan Glover
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  3. Shyam Sunder
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Arya, A., Glover, J. & Sunder, S. Earnings Management and the Revelation Principle. Review of Accounting Studies 3, 7–34 (1998). https://doi.org/10.1023/A:1009631714430

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