Divergence in Accounting Profitability: Accounting Conservatism, New Firms, and Industry Attributes

48 Pages Posted: 21 Oct 2006

See all articles by Masako N. Darrough

Masako N. Darrough

Baruch College - CUNY

Jianming Ye

City University of New York - Baruch College - Stan Ross Department of Accountancy

Date Written: August 2006

Abstract

Recent empirical research has documented a substantial decrease in average accounting profitability. The phenomenon appears inconsistent with the observation that corporate profit as a fraction of national income as remained stable. This paper shows that the downward trend is fully explicable by a growing profitability gap between large and small firms within many industries, especially those with high R&D intensity. We examine the extent to which the divergence is caused by the entry of new firms to the Compustat database and increasing accounting conservatism, such as R&D expensing and accounting accruals. These effects, however, explain the divergence only partially. We further analyze how the rate of divergence is related to several industry attributes, including the industry average R&D intensity, capital intensity, concentration, and growth. The results have significant implications to understanding accounting conservatism, financial statement analysis, and the economics of industrial organizations.

Keywords: Profitability, Conservatism, R&D, R&D Expensing

JEL Classification: L11, L25, M41, M44, G29

Suggested Citation

Darrough, Masako N. and Ye, Jianming, Divergence in Accounting Profitability: Accounting Conservatism, New Firms, and Industry Attributes (August 2006). Available at SSRN: https://ssrn.com/abstract=939127 or http://dx.doi.org/10.2139/ssrn.939127

Masako N. Darrough (Contact Author)

Baruch College - CUNY ( email )

One Bernard Baruch Way
New York, NY 10010
United States
646 312 3183 (Phone)
646 312 3161 (Fax)

Jianming Ye

City University of New York - Baruch College - Stan Ross Department of Accountancy ( email )

One Bernard Baruch Way, Box B12-225
New York, NY 10010
United States

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