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Capitalizing Research & Development: Signaling or Earnings Management?
Journal
The European Accounting Review
ISSN
0963-8180
ISSN-Digital
1468-4497
Type
journal article
Date Issued
2016-04-02
Author(s)
Abstract
This paper analyzes the capitalization of Research & Development (R&D) expenditures under International Financial Reporting Standards (IFRS). Discretionary R&D capitalization can be exercised by managers to signal private information on future economic benefits to the market. It can, however, also serve as opportunistic earnings management. We analyze a unique, hand-collected sample of highly R&D intensive German IFRS firms during 1998-2012. We find that market values are not associated with capitalized R&D for the overall sample, indicating that earnings management may be a concern. We identify firm-years for which R&D capitalization is possibly used for pushing their earnings above a specific threshold (e.g. analysts' forecasted earnings, prior year's earnings). Our results show that both the decision to capitalize and how much to capitalize are strongly associated with benchmark beating. Consistently, we find that market values are negatively associated with capitalized R&D for firms who are likely to use capitalization for benchmark beating (about one third of the overall sample). On the other hand, the market values R&D capitalization positively for well-performing firms, for which capitalizing does not matter to beat an earnings benchmark (about half of the overall sample). This finding is robust to controls for endogeneity, various deflators, and different measures for earnings management.
Language
English
HSG Classification
contribution to scientific community
Refereed
No
Publisher
Routledge
Publisher place
London
Volume
25
Number
2
Start page
373
End page
401
Pages
29
Subject(s)
Division(s)
Eprints ID
240583