Investors' interpretations of imprecise standards and their perceptions of earnings management by reputable companies

What is it about?

Standards with imprecise guidelines require interpretation by users. We investigate whether investors' interpretations of imprecise standards influence their perceptions of earnings management by reputable companies. We find that investors are more likely to suspect that a company has managed earnings when their interpretations are inconsistent with the company, and when the company has a financial reputation. Our study provides evidence of a link between investors' interpretations of imprecise standards and their subsequent judgments. Standard setters have expressed concerns about the diverse interpretations under imprecise standards. Our results suggest that diversity can be a positive outcome. To the extent that managers are concerned that their reporting decisions will be second-guessed, this diversity can potentially deter managers from managing earnings.

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