Evidence for Accruals Piecewise Linear Change and its Microeconomic Origin

This study uses a sample comprising 2642 observations of data from firms listed in TSE over the period from 2001 to 2016 in order to find empirical evidence that normal accruals process follow a piecewise linear model with respect to sales change. The main motivation of the study is to highlight this nonlinearity as a source of systematic measurement error because common standard accrual models assume a linear relation between level of accruals and sale changes. According to the theoretical framework of the study, the linear relation of working capital accruals and sale changes will transform into a piecewise linear changein less sale periods because of change in working capital management policy and conditional conservatism. To find the empirical evidence, piecewise linear models are fitted with 14 different dependent variables including accruals measures, accruals components, operating cash flows and earnings, for 17 industries. The research findings show that when sale declines, the average growth of negative working capital accruals is higher than expected, as subsequent of the unexpected increases in operating current liabilities. Also, the other research variables reaction model to sales declines are consistent with the expected model as a result of changes in working capital management policy which is likely due to management’s motivation for preservation of cash and continuation of firm life. This research finds no evidence of dominant effects of other competing factors identified as the origins of accruals nonlinearity in previous research.