Managerial ability and special items

Abstract

The purpose of this study is twofold. First, we posit and find a significant negative relation between managerial ability and the probability of reporting special items, suggesting that firms with more-capable managers are less likely to incur special items. Additionally, we find that these managers can better manage gains or losses from special items. Second, we investigate whether more-capable managers can better mitigate the use of special items in the context of earnings management (i.e., classification shifting) because prior research suggests that managers engage in classification shifting using special items to manipulate core earnings (McVay, 2006) and more-capable managers are less likely to manage earnings (Demerjian et al., 2013). We find that more-capable managers can better mitigate the use of special items in classification shifting, relative to less-capable managers. Overall, results of this study highlight the importance of having capable managers. Our study has revenue management implications because managers may use special items to manage earnings.