Creative Accounting Tools and Corporate Failure

Document Type : Original Article

Authors

1 Assistant Professor, Department of Accounting, Faculty of Economics and Social Sciences, Bu-Ali Sina University, Hamedan, Iran

2 Master of Accounting, Department of Accounting, Alvand Institute of Higher Education, Hamedan, Iran.

Abstract

Objective: The present study aimed to investigate the relationship between creative accounting activities (including accrual earnings management, real earnings management, earnings smoothing, and tax avoidance) and corporate failure in the Tehran Stock Exchange.
Methods: Among the companies of the Tehran Stock Exchange, 172 companies were selected and analyzed in the 13-year period from 2012 to 2024, which totaled 2236 firm-years (and 1376 firm-years in the final estimation of models), taking into account some limitations. The multiple regression approach with the logit estimator was used to test the hypotheses. To measure the variable of accrual and actual earnings management, discretionary accruals were adjusted according to the Jones model and extraordinary discretionary expenses were adjusted according to the Roychoudary model (2006), and to measure the risk of financial bankruptcy, the Altman (2002) model adjusted by Kordestani et al. (2014) was used, and earnings smoothing was measured with the Eckell index.
Results: The results of statistical tests showed that there is a significant direct relationship between accrual earnings management and Corporate Failure risk, and with increasing the amount of accrual earnings management, the probability of Corporate Failure also increases. Also, the findings of the third hypothesis showed that there is a direct and significant relationship between profit smoothing and Corporate Failure risk, so that with increasing the amount of profit smoothing, the risk of financial bankruptcy also increases. In addition, the results of the fourth hypothesis indicated that there is a significant direct relationship between tax avoidance and financial bankruptcy risk. However, a significant relationship between real profit management and financial bankruptcy risk was not found at the 95% significance level. Although creative accounting activities are not illegal under agency and ethical theories, they transfer wealth among stakeholders, diminish shareholders’ wealth, and increase managers’ utility at shareholders’ expense. Moreover, earnings management raises agency costs such as audit fees and the costs of implementing corporate governance mechanisms, all of which together raise the probability of financial bankruptcy.
Conclusion: Overall, according to the research findings, creative accounting activities increase the risk of Corporate Failure of the company, and in other words, the use of these techniques will be harmful to companies in the long run. Therefore, it is recommended that internal and external corporate governance bodies develop more controls to limit these activities. Based on the hypothesis outcomes, active investors in the Tehran Stock Exchange are advised to be vigilant regarding creative accounting practices (including various forms of earnings management, tax avoidance, nondisclosure of material information, arbitrary changes in accounting policies, fictitious transactions, etc.), to carefully assess their impact on financial reporting and fiscal policies, and to purchase or sell stocks only after confirming the quality of financial reports. Regulators and standard‑setting bodies can use these findings to limit managerial discretion and curb creative accounting techniques, thereby protecting shareholders especially active retail investors in the Tehran market. Future researchers could examine the effect of creative accounting on corporate failure by incorporating moderating variables such as corporate governance, testing the effectiveness of governance mechanisms. It is also suggested to study the extent of creative accounting usage across different stages of a firm’s life cycle, its impact on financing and investment policies, and to adjust financial data for inflation, given Iran’s significant inflation volatility, which may influence financial policies and reporting.
Innovation: The research findings can be useful for managers, investors, accountants, auditors, lenders, and other relevant stakeholders. Managers are expected to use creative accounting tools only for beneficial purposes and avoid opportunistic manipulation of financial information after recognizing its impact on corporate failure. Investors can more carefully assess the quality of a company’s financial information and make decisions based on those assessments. The government can consider the effect of tax avoidance on corporate failure, discourage companies from engaging in tax‑avoidance practices, and close legal loopholes that enable such behavior.

Keywords

References

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History

  • Receive Date: 19 January 2026
  • Revise Date: 13 May 2026
  • Accept Date: 14 May 2026
  • First Publish Date: 22 May 2026
  • Publish Date: 22 May 2026

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