However, these explanations have been criticized as relying on unrealistic economic
and behavioral assumptions. Watts (1982) argues, for example, that earnings
manipulations are pointless because market participants are sophisticated and are able
to undo sucb manipulations. Given this controversy about the motivation for earnings smoothing,
and in line with prior empirical research in the area (see, e.g.. Hand 1989;
Hand et al. 1990), I focus on whether the data are consistent with earnings-smoothing
behavior, rather than on why managers engage in this activity.
However, these explanations have been criticized as relying on unrealistic economicand behavioral assumptions. Watts (1982) argues, for example, that earningsmanipulations are pointless because market participants are sophisticated and are ableto undo sucb manipulations. Given this controversy about the motivation for earnings smoothing,and in line with prior empirical research in the area (see, e.g.. Hand 1989;Hand et al. 1990), I focus on whether the data are consistent with earnings-smoothingbehavior, rather than on why managers engage in this activity.
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