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Communication and Income Smoothing Through Accounting Method Choice

Author

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  • Yoon S. Suh

    (John E. Anderson Graduate School of Management, University of California, Los Angeles, California 90024)

Abstract

This paper shows how accounting income smoothing could arise as rational equilibrium behavior. I develop a two-period agency model in which an agent obtains, after the first period's production operation, private information regarding future productivity of the operation. Direct communication of the agent's private signal yields a strict Pareto improvement over no-communication in this two-period world since it allows the agent to achieve signal-contingent interperiod consumption smoothing. Delegation of accounting method choice to the agent is shown to be an alternative, Pareto-equivalent mechanism to direct communication in this paper. Thus, accounting method choice is one way to achieve interperiod signal-contingent consumption smoothing by smoothing accounting income. One such accounting choice which arises from the structure of the problem is the choice of depreciation method.

Suggested Citation

  • Yoon S. Suh, 1990. "Communication and Income Smoothing Through Accounting Method Choice," Management Science, INFORMS, vol. 36(6), pages 704-723, June.
    • Handle: RePEc:inm:ormnsc:v:36:y:1990:i:6:p:704-723
    DOI: 10.1287/mnsc.36.6.704
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    Cited by:

    1. Hervé Stolowy & Gaetan Breton, 2000. "A Framework for the Classification of Accounts Manipulations," Working Papers hal-00597249, HAL.
    2. Joel S. Demski, 1998. "Performance Measure Manipulation," Contemporary Accounting Research, John Wiley & Sons, vol. 15(3), pages 261-285, September.
    3. Peter Ove Christensen & Gerald A. Feltham, 1993. "Communication in Multiperiod Agencies with Production and Financial Decisions," Contemporary Accounting Research, John Wiley & Sons, vol. 9(2), pages 706-744, March.
    4. Peter O. Christensen & Gerald A. Feltham, 2001. "Efficient Timing of Communication in Multiperiod Agencies," Management Science, INFORMS, vol. 47(2), pages 280-294, February.
    5. Haijin Lin, 2006. "Accounting Discretion and Managerial Conservatism: An Intertemporal Analysis," Contemporary Accounting Research, John Wiley & Sons, vol. 23(4), pages 1017-1041, December.
    6. Ana Paula Lopes, 2018. "Audit Quality and Earnings Management: Evidence from Portugal," Athens Journal of Business & Economics, Athens Institute for Education and Research (ATINER), vol. 4(2), pages 179-192, April.
    7. Steven Huddart, 1993. "Discussion of “Communication in Multiperiod Agencies with Production and Financial Decisions†," Contemporary Accounting Research, John Wiley & Sons, vol. 9(2), pages 745-750, March.

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