Accounting

Abraham Briloff is well known for his insightful analysis and criticism of the accounting practices of various firms for over four decades. His critique has been in form of articles published in Barron's and consists of detailed financial analysis of the questionable accounting practices of the firms he criticizes. Previous research by Foster (1979) shows that the firms criticized by Briloff in articles published in Barron's experience significant negative abnormal returns around the publication date. To understand the overall valuation effect associated with his financial analyses, we examine long-run abnormal returns following the publication date. Beyond the initial negative reaction on publication of the articles, the firms in the sample experience further significant negative risk-adjusted returns for one and two years of-15.51% and-22.88%, respectively. Our results show that a decline in future operating performance appears to be an important reason for the poor stock market performance of the firms. Thus, it appears that Briloff could see the forthcoming decline in operating performance better than the market could. Our results underscore the importance of understanding accounting and of the role of careful financial statement analysis.

Prior research provides evidence that a higher proportion of accrued relative to cash earnings is associated with lower earnings performance in the subsequent fiscal year. The result has been widely interpreted as indicative of higher levels of operating accruals relative to cash flows foreshadowing a subsequent ''earnings reversal,'' and thus signaling earnings management. We note, however, that earnings performance in prior studies is typically defined as one-year-ahead operating income divided by one-yearahead invested capital, or a measure of profitability. We find that accruals are more highly associated than cash flows with invested capital in the denominator of the profitability measure. In contrast, accruals and cash flows have no differential relation to one-year-ahead operating income. The evidence is not consistent with accruals having a reversal effect on earnings. This suggests that the lower persistence of accruals versus cash flows may not be due to earnings management but may rather be due to the effect of growth on future profitability.

In this study, I investigate whether restating financial statement data for other types of financial disclosures (e.g., footnotes to those statements and supplementary schedules in Form 10-K filings) produces differences in financial ratios and summary measures of economic resources and obligations. The adjustments to financial statement data utilize alternative GAAPs (related to inventory cost flow and depreciation choices) and non-GAAPs (related to intangible capital, pension plans, OPEB plans, loss contingencies, and operating leases). The 10 adjustments of interest to this study are to the income statement (3 adjustments) and to balance sheet (7 adjustments) data. The results suggest that the restatements to income statement data produce different financial ratios and summary measures than would otherwise be obtained from use of reported financial statement data. Return on Assets, Profit Margin, and Net Income are reliably different when income statement data are restated for alternative GAAPs (adjustments to as-if current cost-flow for COGS and as-if accelerated depreciation) and a non-GAAP (nonsmoothed pension cost). Also, the results show that differences exist among financial ratios using restated versus reported balance sheet data. Those differences are not apparent after investigating the evidence from each balance sheet restatement. However, the combined effects of the income-statement-related and the balance-sheet-related restatements yield reliably different financial ratios related to four types of economic characteristics of firms (i.e., profitability, activity, liquidity, and solvency). In summary, the evidence suggests that users of financial statement data will find the 10 adjustments yield reliably different summary measures of assets, liabilities, and net income as well as differences among financial ratios that are used in a variety of decisionmaking contexts.