Debt, diversification and earnings management

Gonzalo Rodríguez-Pérez, Stefan van Hemmen

Research output: Indexed journal article Articlepeer-review

87 Citations (Scopus)


In this article we use panel-estimation techniques to calculate discretionary accruals (DAC) and to produce a better understanding of the nature of the relation between debt and earnings management. Consistent with the transparency hypothesis (which suggests that diversification increases the complexity of firms' activities and reduces their transparency to outsiders), we find that for less-diversified (more transparent) firms, debt reduces positive discretionary accruals, whereas in relatively more-diversified (less transparent) firms the impact of debt becomes positive. Our paper shows that marginal increases in debt provide the incentives for managers to manipulate earnings, and diversification provides the needed context for this accounting practice to be possible. We have also found that only in the sub-sample of aggressive firms, those that manage discretionary accruals with enough magnitude to increase income, do lenders exert their control. Some firms, however, take advantage of diversification to avoid this control. Our findings are robust to several earnings-management measures and methodologies.

Original languageEnglish
Pages (from-to)138-159
Number of pages22
JournalJournal of Accounting and Public Policy
Issue number2
Publication statusPublished - Mar 2010
Externally publishedYes


  • Corporate diversification
  • Debt
  • Discretionary accruals
  • Earnings management


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