The Difference between Earnings and Operating Cash Flow as an Indicator of Financial Reporting Fraud*

This paper examines the relation between earnings and operating cash flow to derive and test an indicator of financial statement fraud. Accrual measurement concepts indicate that financial statement fraud should be associated with high levels of earnings relative to operating cash flow. We demonstrate that the excess of earnings over operating cash flow is extreme in most fraud cases in years immediately prior to the fraud discovery based on a sample of 56 fraud cases from 1978 to 1991. We compare the distribution of the earnings minus operating cash flow variable for fraud firms with that for a sample of 60,453 firm-years for firms listed on COMPUSTAT. We test a logistic regression model in which the discovery/nondiscovery of fraud is the dependent variable, and earnings minus operating cash flow is the explanatory variable. Other control variables are included in the model based on prior studies. Results are consistent with expectations derived from accrual measurement theory. We then examine the predictive ability of the model using our sample of fraud firms and a sample of nonfraud firms in the same four-digit SIC code industries. Observations for the fraud firms are for the fiscal year prior to the discovery of fraud. Observations for the nonfraud firms are for the same fiscal years as the fraud firms in the same industries. The predictive ability of the model, including the excess of earnings over operating cash flow, is substantially higher than the predictive ability of the model omitting this variable. We conclude that the earnings-operating cash flow relation provides important information for those interested in identifying financial statement fraud, especially when considered in conjunction with other factors associated with fraud risk.     

Accounting-Based Stock Price Anomalies: Separating Market Inefficiencies from Risk*

Abstract. We examine six accounting-based stock price anomalies using two sets of tests to determine the extent to which the anomalies (1) represent market mispricing or (2) reflect premia for unidentified risks. Market mispricing is indicated if the anomalous returns are concentrated around subsequent earnings announcements in patterns suggesting that the earnings information causes traders to re-examine their prior (incorrect) beliefs. Mispricing is also indicated if anomalous returns on zero-investment portfolios are positive, period after period. Our results indicate that an anomaly based on earnings momentum probably reflects market mispricing, but that two value-glamour anomalies (based on the book-market ratio and the earnings-price ratio), and two anomalies based on computerized fundamental analyses (from Ou and Penman 1989 and Holthausen and Larcker 1992) are more likely to reflect risk premia than indicated by prior research. Evidence on a sixth anomaly, based on price momentum, is mixed.     

Autonomy and Political Strategy: Building the Other Superpower

Recently, from 21–25 October 2004, I participated in the Norway Social Forum (NSF). It was the most successful regional social forum that I have attended. The forum expressed what I call an autonomist electoral politics. Such a politics combines short‐term electoral tactics with long‐term social movement autonomy. Autonomist electoral politics outlines the direction that forthcoming local, regional and national forums should take. I use the example of the NSF to respond to Peter Marcuse’s article on social forums and social movements. Le Forum social norvégien (FSN) s’est tenu du 21 au 25 octobre 2004, et ce fut le forum social régional le plus réussi auquel j’ai participé. Il a exprimé ce que j’appelle une politique électorale autonomiste. Une telle politique allie des tactiques électorales à court terme et une autonomie des mouvements sociaux à long terme. Elle définit l’orientation que devrait prendre les forums locaux, régionaux et nationaux à venir. J’utilise ici l’exemple du Forum social norvégien pour répondre à l’article de Peter Marcuse sur les forums et mouvements sociaux.     

WAGE DETERMINATION UNDER NON-LINEAR TAXES: ESTIMATION AND AN APPLICATION TO PANEL DATA

This paper studies wage determination under piecewise lineartaxes in a unionised labour market. The purposes of the paperare to model how piecewise linear taxation affects the choiceset of the union, and to take this information into accountin the estimation. The empirical application is based on paneldata. Piecewise linear taxes necessitates formal assumptionsabout the sources of randomness, and we find that both unobservedheterogeneity and measurement errors in the wage rate are importantto consider in the estimation. We also find that taxes are likelyto have a non-negligible impact on the (pre-tax) wage rate.