This study examines the rounding phenomenon in operating cash flows for firms listed in the three major U.S. stock exchanges (i.e., New York Stock Exchange, NASDAQ, and American Stock Exchange) and the U.S. Over-the-Counter (OTC) market. It finds that firms listed in the three major stock exchanges roundup earnings, but they do not round-up operating cash flows; while firms listed in the OTC market roundup both earnings and operating cash flows. Overall, the results from this study provide consistent evidence that firms have incentives to round up operating cash flows to paint a rosy picture of the firms’ performance; however, it is more difficult to round-up cash flows than to round-up earnings. Therefore, in an environment where the rules and disclosure requirement is strict (i.e., the three major U.S. stock exchanges), firms do not have the opportunities to round-up cash flows; but in an environment where the rules and disclosure requirement are less strict (i.e., the OTC market), firms actually do round-up cash flows in practice.

This study investigates the rounding phenomenon in the over-the-counter (OTC) market and finds that (1) similar to firms listed in the major U.S. stock markets, OTC-listed firms manipulate their reported earnings and revenues through rounding; (2) rounding manipulation is more severe in the OTC market than in the major stock markets and (3) the enforcement of SEC’s mandatory disclosure requirements in 1999 reduced OTC firms’ rounding manipulation activities. This study extends the rounding manipulation literature and provides the first piece of empirical evidence of rounding manipulation in the OTC market. It helps scholars and investors better understand firms in the OTC market. This study also provides feedback to policy makers and regulators on the effectiveness of the SEC mandatory disclosure requirement on OTC firms’ financial reporting quality.

Purpose – The paper aims to examine the rounding phenomenon in reported earnings and revenues of Japanese publicly listed firms to achieve key reference points. The paper also examines the changes of rounding behavior among Japanese publicly listed firms around the asset bubble burst in 1990. Design/methodology/approach – To test the null hypothesis of no managerial effort to round earnings and revenues, the paper compared the observed frequency of each number in the second place of earnings and revenues numbers to the expected occurrences of the number as predicted by Benford's law. Findings – The paper finds that rounding manipulation is prevalent in the reporting of both earnings and revenues among the firms. The paper also documents that rounding manipulation is more severe in reported earnings than that in reported revenues. The paper finds constant rounding manipulation behavior in reported earnings upon the asset bubble bursting in 1990; however, the magnitude of rounding manipulation in reported revenues decreases significantly after the bubble burst. This finding supports the argument that Japanese firms tend to focus more on short-term performance in the post-bubble era. Originality/value – This paper is the first study to focus on rounding behavior in reported revenues of Japanese firms. As important as the earnings are on firms' valuation and contractual measures, revenues deserve intensive awareness in the financial studies. The study also explores the changes of Japanese managers' rounding manipulation behavior since the asset bubble burst in 1990. Documentation of the structural changes in the lost decades in Japan can provide valuable lessons for other countries in similar situations.

INTRODUCTION This study seeks to accomplish two goals regarding the issuance of seasoned private placements of common equity (hereafter, private placements): (1) to investigate managers' earnings manipulation behavior of U.S. issuers around the time of the issuance; (2) to examine whether such earnings manipulation behavior helps explain the long-term post-issue stock underperformance. Private placements, together with seasoned public offerings of common equity (SEO), are two important vehicles by which public firms obtain equity financing. Contrary to seasoned public offerings of common equity, which issue new equity to the general public, private placement issuers sell new equity to a restricted number of investors. More than 30 percent of seasoned equity financing from external investors in recent years has come from private placements (Federal Reserve Bulletin, see Appendix A). While there is a sizeable body of literature on earnings management around the time of seasoned public offerings and on the issuers' post-issue stock underperformance, research on these issues related to private placements is scarce. Studies on earnings management constitute an important research stream in the literature about the quality of earnings. Typical research methodology on earnings management first identifies a firm-specific event around which managers' incentives to engage in opportunistic earnings manipulation appear to be strong, then employs various accrual models to test the researchers' earnings management hypotheses (Healy and Wahlen 1999). In response to the call of Dechow and Skinner (2000) for further research on earnings management incentives around the time of securities issuance, this study examines, among other things, earnings management around the time of private placement, an important corporate event. Earnings have been widely used by investors to assess firm value and security offerings provide a direct incentive to manipulate earnings (Dechow and Skinner 2000). Managers of an issuing firm could use the accounting methods allowed under generally accepted accounting principles (GAAP) to inflate reported earnings at the time of the issuance in an attempt to portray a rosy picture of the firm's prospects. To the extent that such income-increasing accounting choices are not detected by investors, managers may obtain more favorable terms when selling new shares, thus gaining direct monetary benefits for themselves and the firm. Existing literature provides an abundance of evidence of earnings management around the time of various types of security issues, particularly initial public offerings (Aharony et al. 1993; Friedlan 1994; Teoh et al. 1998a; DuCharme et al. 2001), seasoned public equity offerings (Teoh et al. 1998b; Rangan 1998), convertible bond issues (Margetis 2004), and stock-for-stock mergers (Erickson and Wang 1999). Since private placement is one of the most important sources of corporate financing, this study predicts that managers of the issuing firms have strong economic incentives to inflate reported earnings around the time securities are issued. This study finds that managers of U.S. private placement issuers tend to engage in income-increasing earnings management around the time of the issuance. The mean and median of the discretionary accruals, the proxy for earnings management, of 348 sample firms from 1989 to 2001 are 3.27 percent and 2.49 percent of total assets in the year prior to the issue year. To eliminate the impact of other influencing factors, the study employs a control sample consisting of firms matched on size and leverage in the same industry of the issuing firms. In the year prior to the private placements, the discretionary accruals of the issuing firms significantly exceed their non-issuing peers by 3.99 percent in mean and 1.98 percent in median. Issuing private placements could be an endogenous choice. To mitigate this self-selection bias, the study also adopts the propensity score matching method to form the control sample. …

PurposeThis study examines the effect of auditing and the integral approach to interim reporting on cosmetic earnings management, referred by Kinnunen and Koskela as earnings manipulative behavior to report earnings numbers to achieve key cognitive reference points represented by N×10k.Design/methodology/approachUsing Benford's Law, the analysis employs 182,278 positive quarterly earnings observations and 103,470 negative quarterly observations for all publicly listed US companies from 1993 to 2003.FindingsThe empirical results show that firms tended to engage in cosmetic earnings management in each of the four fiscal quarters. More importantly, it was found that the degree of cosmetic earnings management is significantly less severe in the fourth fiscal quarter, which is the only quarter audited, than any of the previous quarters. This result suggests that the auditor plays an important role in reducing the cosmetic earnings manipulative behavior.Originality/valueThe findings of the study add more evidence to the ongoing debate about the effectiveness of auditing in preventing earnings management.

Studies examining the US seasoned equity offerings suggest that managers of the issuing firms involved in aggressive earnings management prior to the issue in order to sell shares at inflated prices. In this study we investigate earnings management made by managers around the time of seasoned equity offerings among 901 Japanese issuers from 1976-1999. In contrast to the findings of the US issuers, we find that Japanese managers tend to choose not to manage earnings prior to the stock offerings but rather defer earnings management to the post-issue period to cover up poor firm performance. Additionally, our analysis of stock returns of the issuers suggests that post-issue stock underperformance is most severe in the first two years after the issue. It appears that investors have been successful in undoing the accounting maneuvers made by the issuers and have set the firms' post-issue stock prices according to their fundamental values.