THE TIMING Of ASSET SALES And EARNINGS MANIPULATION Eli Bartov Presented By: Herlina Helmy

INTRODUCTION 1 PRIOR RESEARCH 2 HYPOTHESES FORMULATION 3 RESEARCH DESIGN 4 Outline RESULT & ANALYSIS 5 6 Contribution & Limitations CONCLUSION 6

INTRODUCTION Motivation APB opinion No. 3 classified that income or losses from PPE not recognize as ordinary item, but as Part of income from operation Management use that houl in earnings manipulation, especially income smoothing and debt-equity hypothesis Because of that so many managers do some earning manipulation at that time (fortune, 1989; Schipper 1989)

Cont’d.. Purpose of this study Examining of a form of real earning manipulation: timing of income recognition from disposal of assets Research Question Does Manager manipulate reported earning trough choice timing of income recognition from disposal of asset.

PRIOR RESEARCH ResearchResult Hand, 1989; Hand et all.1990 Explored real earning manipulation in the context of early debt retirement Ronan & Saden 1981 Investors employ income from continuing operations, rather than net income, in their decision making Dye 1988; Truman & Titman 1988 Managers manipulate earnings to affect investors perceptions Barnea et al 1975Income smoothing is a vehicle for management to convey its earnings expectations within generally accepted accounting principles (GAAP), which do not permit making direct forecasts Watts 1982Earnings manipulations are pointless because market participants are sophisticated and are able to undo such manipulations Healy 1985Bonus plan enhance of earnings manjement

HYPOTHESES FORMULATION -The earnings-smoothing hypothesis suggest that earnings are manipulated to reduce fluctuations around some level considered normal for the firm -This study use EPS as a target, advocates the use of this definitions by two reason: 1. It is relatively simple 2. It appears more realistic than other definitions H1: There is a negative correlation between income from asset sales and earnings changes (exclusive of asset sale effects

Cont’d…. Debt covenants require borrowing firms to maintain specified levels of accounting numbers and debt-equity ratio Larger a firm’s debt-equity ratio, the more likely its manager are to shift reported earning from future periods to a current period and to engage in Greater manipulation In timing asset sales, debt-equity hypotheses suggest: H2: There is a positive correlation between income from asset sales and debt-equity ratios

RESEARCH DESIGN Data Description -Compustat expanded annual File with OTC firms -COMPUSTAT quarterly industrial -Daily stock returns is taken NYSE/ ASE and NASDAQ -Period: Final sample: 653 firm-year divided in 2 sample group: gain firms loses firms The Research design for two task: 1.To test empirical implication of earnings smoothing and debt equity hypotheses 2. To assess the sensitivity of the results to possible specification error Hypotheses testing in 3 ways: 1.Univariate Test 2.Multiple regression 3.Sensitivity analysis

Cont’d…. Main Model – Multiple Regression: ASSIN: income from asset sales in current year/stock price at beginning δ EPS=EBT-income fom asset sales per share DETEQ=Book value LTD current year/BE at beginning ε=residual Main Sensitivity Analysis SALEP=sales of long-lived aasset (PPE)current year/MVE beginning year SALEIN=sales of investment current year/MVE beginning year Bonus1:upper bound Bonus plan – EBT current year/ MVE awal th. if EBT < lower bound set 0 BONUS2: dummy variable. 1 = lower bound > EBT, 0 = other TAX = dummy variable. 1 = Looses in asset sales dan EBTexclude sales looses asset bernilai postif 0 = other

RESULT Firm size was selected due to importance in explaining cross-sectional differences with respect to such characteristic as firm performance and risk Current ratio was selected as a measure for the short-time soundness of the firm Although the sample clearly spans a wide range of firm size, sample firms are substantially smaller than other COMPUSTAT firms Current ratio of the sample firms are larger than those of the other COMPUSTAT firms,& the sample firms thus appear financial healthy (Table1)

Cont’d….

Median: 0.09%, Mean: 1.23% With level significant 5% Earnings smoothing hypothesis Implies that firms exhibit a Negative earnings change Before asset sale income should Report higher income from Asset sales than firms that Experience a positive change H1 Univariate Test H2 Support H1 Result Univariate Test For Earning-Smoothing Hypotheses

Cont’d….

Result Hand et al shows result at fourth fiscal year the sale of long-lived assets.

Univariate Test for Debt-Equity Hyphothesis Median: 0.09%, Mean: 1.23% With level significant 5% Debt-Equity Hypothesis Implies that income from asset Sales by higher-leverage firms Exceeds that for lower-leverage firms H2 Univariate Test H2 Support H2 Result

- Full Sample α1 negative significant, α2 positive significant - Tests show that the earnings-smoothing and the debt-equity effects are jointly zero can be rejected with high level convidence Multiple Regression Tests -The earnings-smoothing effect is documented in both subsamples, Which suggest that both positive and negative earnings change may be subject to smoothing -The slope etimates for the subsample of firms with negative EPS exceed the sub sample Of firms with positive EPS

Multiple Regression Tests

Sensitivity Analysis SALEP & SALEIN positive, and significant Bonus plan1 negative, not significant Tax, negative significant, implies that tax play important role in timing asset sales