Business strategy and earnings quality

Abstract

Using the Miles and Snow (1978) strategy typology, this study investigates whether business strategy is associated with the quality of reported earnings. In a sample of U.S. listed firms, we predict and find that defender-strategy firms are associated with higher levels of earnings management and prospector-strategy firms are associated with higher levels of accounting conservatism. However, this relation between business strategy and earnings quality is altered during high and low economic growth periods. In high-growth periods, while prospector firms exhibit lesser accounting conservatism, defender firms exhibit lesser earning management. In low-growth periods, the prospector firms become more conservative in reporting while the defender firms engage in more aggressive earnings management. Our findings provide direct evidence of the link between business strategy and earnings quality.