Accounting analysis: the basics - Factors influencing accounting quality

4 important questions on Accounting analysis: the basics - Factors influencing accounting quality

There are three potential sources of noises and bias in accounting data:

That introduced by rigidity in accounting rules
random forecast errors
systematic reporting choices made by corporate managers to achieve specific objectives

Accounting rules introduce noise and bias because

It is often difficult to restrict management discretion wihtout reducing the information content of accounting data.

Another source of noise in accounting arises from pure forecast errors because

Managers cannot predict future consequences of current transactions perfectly.
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Managers have a variety of incentives to exercise their accounting discreation to achieve certain objectives:

Accounting based debt covenents
management compensation
corporate control contests
tax considerations
capital market considerations
stakeholder considerations
competitive considerations

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