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Journal of Accounting Review  2021/07
Vol.73   61-100
DOI:10.6552/JOAR.202107_(73).0002

Internal Control and the Pricing of Discretionary Accruals

Shou-Min Tsao/Department of Business Administration, National Central University
Chia-Chi Lee/Graduate Institute of Accounting, National Central University
Hsueh-Tien Lu/Department of Accounting, Chinese Culture University

Abstract

This study examines the impact of internal control deficiencies on the pricing of discretionary accruals. Using U.S. data over the period from 2004 to 2011, we find that internal control deficiencies negatively moderate the association between discretionary accruals and current stock returns, as well as the association between discretionary accruals and future profitability. These results suggest that internal control weakness leads the market to attach less value to discretionary accruals and reduces the ability of discretionary accruals to reflect future performance. We further find that firms modifying previously internal control deficiencies exhibit positive implications of discretionary accruals for current stock returns and future profitability. Moreover, we find the impact of internal control deficiencies on value relevance of discretionary accruals is more pronounced for company-level relative to account-level, and when firms engage in earnings manipulation to meet earnings target. 


Keywords

Internal control deficienciesDiscretionary accrualsStock returnsFuture profitability


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