An exploration of two accounting-based models for earnings misstatements and their implications for stock returns

Using two popular accounting-based models for earnings manipulation (i.e., the Beneish M-Score and the Dechow F-Score) and the financial data of public companies from 2004 to 2012, 1 find that the M-Score (F-Score) predicts less (more) earnings overstatements during the recent financial crisis in 2007-2008 than other sample years. However, a detailed investigation at the industry level reveals that this does not hold in all industries. I further show that the potential misstating firms flagged by the M-Score tend to under-perform the market both at the aggregate and the industry level, and some of those flagged by the F-Score under-perform at the industry level. Finally, by running Fama-French three-factor regressions at the aggregate level, I provide evidence that the firms flagged by the MScore generally yield negative risk-adjusted stock returns. The evidence suggests public availability of financial statements alone does not ensure that all the elements of financial statements are fully integrated into prices in a timely manner. Overall, this study provides substantial support for the use of quantitative accounting analysis in equity trading.

Department dc:contributor.department

Sloan School of Management. Master of Finance Program.

Grantor dc:publisher

Massachusetts Institute of Technology

Year dc:date.issued

2014

Author dc:creator

• Noh, Suzie

Advisor dc:contributor.advisor

• S.P. Kothari.

• Sloan School of Management. Master of Finance Program.

Statement dc:rights

• M.I.T. theses are protected by copyright. They may be viewed from this source for any purpose, but reproduction or distribution in any format is prohibited without written permission. See provided URL for inquiries about permission.

Licence dc:rights.uri

• http://dspace.mit.edu/handle/1721.1/7582

Language dc:language.iso

eng

Handle dc:identifier.uri

http://hdl.handle.net/1721.1/90228

OAI identifier oai:identifier

oai:dspace.mit.edu:1721.1/90228