Judgment Case 4-3 (page 225)

Companies often are under pressure to meet or beat Wall Street earnings projections in order to increase stock prices and also to increase the value of stock options. Some resort to earnings management practices to artificially create desired results.

Required:

Is earnings management always intended to produce higher income? Explain.

Judgment Case 4-3

No. Companies generally prefer to report earnings that follow a smooth, regular, upward path. They try to avoid declines, but they also want to avoid increases that vary wildly from year to year. It is better to have two years of 15% earnings increases than a 30% gain one year and none the next. As a result, some companies "bank" earnings by understating them in particularly good years and use the banked profits...