Auditing Quality and Earnings Management: Risk Assessment Through Discretionary Accruals

Abstract

   The objective of our paper is to build an analytical revision procedure for selection of companies for auditing, based on the level of discretionary accruals contained in financial statements. Alternative models were applied to investigate the occurrence of earnings management in Brazilian companies. We consider three competing approaches: Jones (1991), Modified Jones (DECHOW et al., 1995) and Adapted Jones (DECHOW et al., 2003). The sample data was obtained on Economatica database. The empirical tests had been developed in four steps: (i) evaluation of total accruals for the balance sheet approach; (II) statistic regressions; (III) decomposition of discretionary components; (IV) identification of the discrepancies in the control charts. Our findings suggest that all considered models produce well specified tests for a random sample of companies and the control graphs identify the same elements as candidates for auditing, independently of accrual model applied. We conclude that the levels of accruals serve as an elementary measure of earnings management that must be corroborated with other elements. Additionally, this measure is useful as a resource for potentials auditing.