ABSTRACT
One of the most crucial yet controversial issues in executive performance evaluation is disentangling which managerial decisions reflect firms' economic position versus opportunistic earnings management. I explore this issue and find that specific managerial policies often used by growing firms are likely to be identified as upward earnings management by widely used annual accrual expectation models. I find that incorporating linear and nonlinear growth measures (for various assets and a growth factor) into these models increases the explanatory power by 1.01 percent to 9.86 percent. Models with asset growth, receivables growth, and a growth factor generate the lowest Type I error rates, while models with asset growth, operating cycle, and a growth factor generate the lowest Type II error rates. In reexamined tests of upward earnings management around IPOs, inferences change after controlling for growth. I make empirical suggestions to help distinguish growth from opportunism in tests of earnings management.
