Research Project on Earnings Manipulation.
Thousands of analysts spend hours everyday crunching numbers to project the returns companies will make in the future and the corresponding value of their stock prices. As executive compensation becomes more closely tied to the performance of a company's stock, executives pay much more attention to analysts" forecasts. A plethora of past research has indicated that there is evidence that when close to meeting analysts" expectations, executives will manage earnings to meet the Street's predictions. Additional research has shown that the market severely punishes companies who miss projected quarterly earnings targets by as little as a penny. .
The existence of earnings management within the equities markets is a proven fact. Professionals debate about the ethical issues surrounding an executive management team of a company actively managing earnings toward a predetermined target. Earnings management becomes more than just a numbers game when executives continue to reach into the cookie jar made up of accounting reserves and assumptions. When things don't go according to plan, managers are forced to stretch even more the following quarter. Such situations can quickly spin out of control. But even if everything works out as management hopes and no one is the wiser, Arthur Leavitt, former SEC chairman, argues that the integrity of the market is compromised. .
"Increasingly, I have become concerned that the motivation to meet Wall Street earnings expectations may be overriding common-sense business practices," he told a group at New York University in 1997. "In the zeal to satisfy consensus earnings estimates and project a smooth earnings path, wishful thinking may be winning the day over faithful representation.".
Recent accounting "scandals" have once again brought the issue of earnings management (and its mean, older brother, fraud) to the forefront of the business scene.