The Relation Between Internal Forecasting Sophistication

Machine Translated by Google
JOURNAL OF MANAGEMENT ACCOUNTING RESEARCH American Accounting Association

Vol. 34, No. 1 Spring 2022 pp. 51–73 DOI: 10.2308/JMAR-2020-072
The Relation between Internal Forecasting Sophistication

and Accounting Misreporting
Peter Kroos
University of Amsterdam
Mario Schabus
Michigan State University
Frank HM Verbeeten
University of Amsterdam
ABSTRACT: We examine the association between internal forecasting sophistication and end-of-the-year accounting
misreporting. We draw on survey data from investment center managers of Dutch companies.
Consistent with our hypothesis, results suggest that more sophisticated internal forecasting allows firms to reduce their costly
accounting misreporting, as these firms make more accurate projections and create contingency plans such that they can
revise operational plans in a more appropriate and timely manner. Cross-sectional analyzes reveal that the benefits in terms
of greater forecasting capabilities can vary across conditions. We find that investments in internal forecasting are less effective
in reducing the demand for misreporting when environmental volatility is high, when capital market pressure to meet
expectations is comparably high, and when within-firm information asymmetry is high. The paper especially speaks to the
planning role of budgeting and forecasting, as opposed to the relatively more extensively studied evaluation and incentive
role.
JEL Classifications: M12; M41.
Keywords: budgeting; internal forecasting; internal information quality; accounting misreporting.

I. INTRODUCTION
of the accounting literature on forecasting has focused on external management forecasts disclosed to
most capital market participants (management guidance), despite the importance of internal forecasting (eg, Libby and
Rennekamp 2012). Davila and Foster (2007) show that forecasts are primarily motivated by internal
considerations through documenting that financial planning systems (comprised of sales and cash flow projections and
operating budgets) are the first accounting systems of early-stage firms. Sivabalan, Booth, Malmi, and Brown (2009)
document the perceived importance of internal forecasting for planning purposes. Financial executives surveyed by the
Institute of Management Accountants (IMA 2017) emphasize the importance of financial planning in managing their
organizations and the role that CFOs play in improving financial planning. Our study contributes to the literature by focusing on firms' inte
We appreciate the helpful comments and suggestions of Maggie Abernethy, Gary Biddle, Shane Dikolli, Martin Holzhacker, Raffi Indjejikian, Victor
Maas, Maximilian Margolin, Axel Schulz, Naomi Soderstrom, Jake Thomas, David Veenman, Jacco Wielhouwer, and conference and workshop
participants at the 2017 Annual Conference for Accounting Research Management (ACMAR), 2018 AAA Management Accounting Section Midyear
Meeting, 2019 Hawai'i Accounting Research Conference (HARC), 2019 Conference on Convergence of Financial and Managerial Accounting
Research, 2021 JMAR special interest forum at the GLOBAL Management Accounting Research Symposium (GMARS), La Trobe University,
University of Amsterdam, The University of Melbourne, The University of Utah, The University of Queensland, and VU Amsterdam. All errors are our own.
Peter Kroos, University of Amsterdam, Amsterdam Business School, Department of Accounting, Amsterdam, The Netherlands; Mario Schabus,
Michigan State University, Broad College of Business, Department of Accounting and Information Systems, East Lansing, MI, USA; Frank HM
Verbeeten, University of Amsterdam, Amsterdam Business School, Department of Accounting, Amsterdam, The Netherlands.
Editor's note: Accepted by Isabella Grabner, under the Senior Editorship of Eva Labro.
Submitted: October 2020
Accepted: August 2021
Published Online: September 2021
51
52 Kroos, Schabus, and Verbeeten
The primary innovation of this study—internal forecasting sophistication (IFS)—is defined as the quality of gathering and
processing information and integrating it into managerial projections about future operational and financial performance
(Cassar and Gibson 2008; Ittner and Michels 2017). IFS enables firms to make realistic projections by accumulating information
from external sources, aligning the underlying assumptions made in different business functions, assessing the likelihood and
impact of potential contingent events, and creating contingency plans. Firms can revise operational plans quickly and
accurately when contingencies unfold, which results in reduced volatility and uncertainty of their operations. Therefore, IFS
increases a firm's capability to accurately project future operational and financial outcomes. The maintained assumption
throughout this study is that IFS increases a firm's capability to produce accurate forecasts. Note that forecasting capabilities
are not directly observable; prior research therefore resorts to observable measures of forecast accuracy such as absolute
forecast errors (absolute value between forecasts and actuals).
Consistent with our maintained assumption, prior studies have shown that improvements in internal forecasting are
associated with smaller absolute forecast errors (Bru¨ggen, Grabner, and Sedatole 2021; Ittner and Michels 2017).1 However,
a decrease in such forecast errors is not inevitably (solely) driven by improvements in forecasting capabilities, but can also be
influenced by end-of-year misreporting to meet performance expectations (Bonacchi, Cipollini, and Zarowin 2018; Dechow
and Shakespeare 2009; Degeorge, Patel, and Zeckhauser 1999; Kerstein and Rai 2007; Zang 2012). We contribute to the
literature by examining whether IFS influences misreporting, given that misreporting may mediate the relation between IFS
and observable measures of forecast accuracy. The potential role of misreporting as a mediator may lead to incorrect
inferences about the direct relation between IFS and forecast accuracy.
We focus our paper on the enhanced planning following improvements in internal forecasting and presume that
sophisticated internal forecasting increases the likelihood that firms meet their expectations (Bru¨ggen et al. 2021; Ittner and
Michels 2017). End-of-year accounting misreporting represents an alternative way to influence performance and meet
expectations. However, firms have incentives to minimize accounting misreporting due to potential costs to firms and managers
(Dechow, Sloan, and Sweeney 1996; Hennes, Leone, and Miller 2008). Therefore, we expect that sophisticated internal
forecasting allows firms to reduce end-of-year accounting misreporting, as their investments in internal forecasting increase
the likelihood that firms meet their projections in the first place. We hypothesize that IFS is negatively associated with end-of-
year misreporting.
Given the inability to directly observe firms' internal information environment, we draw on a survey of financial managers
at investment centers of Dutch public and private firms. Our survey instrument for IFS picks up attributes such as the
involvement of different business functions, the involvement of external supply chain partners, and the use of contingency
plans to reflect the sophistication of firms' internal forecasting.2 The survey is targeted at investment centers as this level of
analysis is consistent with our theory on IFS and accounting misreporting (Luft and Shields 2003). Our respondents received
postgraduate finance and accounting education and have substantial working experience. Therefore, we regard our
respondents as being qualified to provide valid responses to questions about internal forecasting and reporting practices in
their entity. Our final sample comprises 112 observations.
Our main model specification is an OLS regression with accounting misreporting as the dependent variable and IFS as
the independent variable of interest. We focus on accounting misreporting as it can take place at the end of the year, even
between the closing and reporting dates, when the required amount of manipulation and the effect of the manipulation are
precisely known. On the other hand, real activities manipulation must take place earlier in the year (as it takes time to
materialize) when the required amount of manipulation is still more uncertain. Firms also face more uncertainty about the
exact financial amount associated with the change in real business decisions (eg, Zang 2012).3
Both accounting misreporting and forecasting are organizational choices, but we treat IFS as quasi-fixed in the analyses,
as an increase in IFS requires considerable investments of time and financial resources in the collection, processing, and
interpretation of information. Accounting misreporting, on the other hand, is the more malleable design element and can occur
at the end of a reporting period or even before the report-preparation date. Thus, we interpret IFS as the quasi-fixed
organization design element and use it as an explanatory variable (Hofmann and van Lent 2015). We corroborate this research
design choice in a follow-up 2SLS analysis. Overall, supporting our hypothesis, we document a negative association between
IFS and accounting misreporting.
1
Bruggen et al. (2021) show that explicitly incorporating contingent events in demand forecasts leads to higher accuracy of demand forecasts. Ittner
and Michels (2017) document that integrating risk-related information in forecasts is associated with more accurate management guidance of earnings,
sales, and capital expenditures.
2
We established the convergent validity of our survey measure with objective data such as the number of FTE deployed to internal forecasting and the
number of different business functions involved (Ittner and Larcker 2001).
3
In robustness tests, we use real activities manipulation as the dependent variable and do not find a significant relation with IFS. Also, controlling for
real activities manipulation does not affect our inferences.
Journal of Management Accounting Research

Volume 34, Number 1, 2022
The Relation between Internal Forecasting Sophistication and Accounting Misreporting 53
The proposed mechanism underlying our hypothesis is that improved planning, following investments in IFS, reduces the
demand for end-of-year misreporting. However, firms may also exploit forecasting information for alternative purposes such as
for monitoring and evaluation (Arnold and Artz 2019; Becker, Mahlendorf, Scha¨ffer, and Thaten 2016). For example, improved
forecasting information may support the identification of unexpected performance surprises and therefore unravel misreporting
practices. Forecasting information about the impact of contingencies on performance may be helpful in disentangling
controllable from uncontrollable components of agents' performance, thereby potentially reducing agents' incentives to
misreport. Hence, spillover effects where planning information is also exploited for performance evaluation may mediate the
relation between IFS and accounting misreporting. We do not find support for this alternative mechanism in a mediation
analysis (Baron and Kenny 1986).
Next, we perform cross-sectional analyzes to examine the boundary conditions of our main findings. We find that the
negative association between IFS and accounting misreporting is driven by conditions characterized by lower environmental
volatility (making forecasting less difficult), in private firms (where failing to meet expectations is less costly), and when
information asymmetry within the firm is lower (reducing the likelihood that the information flow is restricted and less accurate).
Finally, we assess the extent to which our findings can be explained by a potential confounding variable. A corroborating
impact threshold for a confounding variable (ITCV) analysis (Frank 2000; Larcker and Rusticus 2010) suggests that the main
results are unlikely driven by an committed variable. Overall, we believe that the negative association between IFS and
accounting misreporting can be attributed to improved planning that follows from investments in internal forecasting.
Our study contributes as follows: first, while most of the prior accounting literature on forecasting focuses on disclosure of
management forecasts to capital market participants, only a relatively small share of firms issue forecasts. 4 Survey respondents
of large companies that the primary contributions of indicate forecasting are in planning, coordination of activities, operational
control, and cash management, while earnings guidance ranked as relatively less important (Bru¨ggen et al. 2021; KPMG
2007; Sivabalan et al. 2009). We contribute by examining the role of internal forecasting within firms.
Second, researchers have recently started to explore the link between internal forecasting and external management
guidance (Gallemore and Labro 2015; Goodman, Neamtiu, Shroff, and White 2014; Hemmer and Labro 2008; Ittner and
Michels 2017). However, there is scarce evidence regarding the effect of firms' internal forecasting on accounting misreporting
practices. The relevance of addressing this question also follows from the prior literature documenting a positive relation
between internal forecasting and the accuracy of external management forecasts (eg, Ittner and Michels 2017). A significant
relation between IFS and misreporting implies that misreporting may be a mediating variable in the relation between IFS and
the accuracy of forecasts. Misreporting as a mediating variable may lead to an underestimation of the direct effect of IFS on a
firm's capability to produce accurate forecasts, as firms may, alternatively to internal forecasting, resort to misreporting as a
means to meet their projections. In a broader sense, this study belongs to a stream of literature on the intersection between
managerial and financial accounting.
Third, our study contributes to management accounting studies on budgeting and forecasting. Despite the attention
devoted to budgeting in management accounting literature, many organizations have supplanted their annual budgets with
forecasts that focus on, among others, planning and coordination of activities (Arnold and Artz 2019; Bru¨ggen et al. 2021).
Given that studies have outlined the importance of the planning and coordination role of budgeting for firms (Hansen and Van
der Stede 2004; Libby and Lindsay 2010), our paper specifically speaks to the planning and coordination role of budgets and
forecasts (eg, Becker et al. 2016; Bru¨ggen et al. 2021; Campbell, Epstein, and Martinez-Jerez 2011). This has been
understudied relative to the evaluation and incentive role of budgets.
II. THEORY AND HYPOTHESES
Internal Forecasting Sophistication

Forecasts are important for corporate decision-making and support firm growth and profitability. Sales forecasts provide
input for production planning, input acquisition, and capacity planning. Subsequent cash flow forecasts are an important input
for financing decisions and, in conjunction with the projected income statement and capacity investment/divestment plans,
ultimately yield estimated balance sheet positions. Inaccurate forecasts may lead to overly high costs due to excess capacity
or may lead to high costs because of late adjustments to inventory and potential stock-out costs (Bru¨ggen et al. 2021; Cassar
and Gibson 2008).
In making forecasts, managers typically exploit wide sets of internal and external information. Developing forecasts
requires the integration of inputs from many different participants and information sources in or outside the firm (Davis and
4
For example, in the US, 34 percent of the sample firms in Chuk, Matsumoto, and Miller (2013) issued at least one earnings forecast in 2007. This
percentage has decreased over time (eg, 45 percent in 2001).

Mentzer 2007; Zotteri and Kalchschmidt 2007). Prior literature emphasizes the importance of involving different business
functions to access their knowledge about operations. Thus, forecasts are integrative and reflect expected front-line events
(IMA 2017; Ittner and Michels 2017). Employing external information about demand, competitor activity, and macro economic
conditions can increase the quality of forecasts. Such information enhances firms' insight into their business, opportunities,
risk, and can help validate or challenge internal beliefs (Kalchschmidt 2012; KPMG 2007; PwC 2011). For example, the vice
chairman and former CFO of General Electric Company (GE), Keith Sherin, stated during the 2010 CARE conference, ''We
bring in outside parties to challenge our own assumptions about the industries we operate in and to develop multiple scenarios
'' (Sherin 2010, 9).5
Incorporating uncertainty into forecasts and plans via scenario analysis can improve forecasting (Ittner and Michels 2017).
Swift responses to environmental shocks allow companies to adapt operational plans in a more accurate and timely fashion,
thereby decreasing the misalignment between expected performance and business reality. For example, scenario analyzes
help to comprehend, measure, and quantify the uncertainty that is inherent when dealing with the future and with the
implementation of contingency plans (Becker et al. 2016). In GE, an important feature of the forecasting process is ''to identify
risks to our business plan, and to come up with ways of managing them down to acceptable levels. One purpose of our
planning is to ensure that we have anticipated these downwards risks and have either found a way to limit them or have a plan
to respond to them quickly if they materialize'' (Sherin 2010, 10).
Regular and timely revisions of internal forecasts can support internal decision-making as it facilitates the coordination of
activities across different business functions and a reallocation of resources (Becker et al. 2016; Sivabalan et al. 2009). It
enables better planning of activities on input and output markets, investment and hiring decisions, scheduling and processing,
and financing decisions (Cassar and Gibson 2008).
Overall, improved IFS can assist in attaining projections as internal forecasting provides firms with recent information from
numerous sources and perspectives, as well as the capacity to understand, integrate, and interpret this information. As a
result, improvements in internal forecasting are expected to generate more realistic estimates that represent a more accurate
and comprehensive reflection of business reality (Ittner and Michels 2017). In addition, swift and premeditated responses to
environmental shocks allow firms to adapt operational plans in an accurate and timely fashion.
Despite the apparent overlap, forecasts are dissimilar from budgets (Cassar and Gibson 2008). On the one hand, the
involvement in the budgeting process may help managers in the collection and processing of information that is helpful in
developing projections about the firm's future performance and positions. On the other hand, budgeting is used for many more
purposes, such as communicating objectives, or authorizing managers how much they are allowed to spend (cost budgets).
Also, budgets form the basis for performance measurement and incentive compensation (Becker et al. 2016; Hansen and Van
der Stede 2004; Libby and Lindsay 2010; Tanlu 2007). While budgets represent the plans for what a business aims to achieve
over the upcoming period, forecasts reflect the actual expectations. Therefore, sales budgets may diverge from the best
estimates embedded in forecasting. Additionally, note that high-quality projections require that information is retrieved from
different employees and business functions. Exploiting this information for evaluation and compensation purposes increases
the strategic behavior of employees, as self-interested managers may have incentives to not truthfully reveal their private
information (Bru¨ggen et al. 2021; Libby and Lindsay 2010; Tanlu 2007). Finally, forecasts are updated regularly to reflect
recent changes in, for example, demand, competition, supply chain, and macro-economic conditions. Budgets are typically not
revised during the year (Arnold and Artz 2019).
In numerous organizations, internal forecasting has been largely decoupled from the budgeting process. Internal
forecasting is a more continuous process (eg, monthly updated forecasts) than the annual budgeting cycle (Henttu-Aho and
Ja¨rvinen 2013; Libby and Lindsay 2010). Internal forecasts can often supply budgets as the primary tool for operational
planning, coordination, and operational control (Bru¨ggen et al. 2021). Many firms depart from their beginning-of-the-year
budget numbers during the year through their regularly updated forecasts (Arnold and Artz 2019).
Hypothesis
Firms make investments in internal forecasting when the expected benefits of improved internal forecasting outweigh the
corresponding costs. The primary benefit of investment in IFS is that it increases firms' capability to accurately project future
operational and financial outcomes. Most studies that rely on observational data find that IFS is negatively associated with
absolute forecast errors. For example, Bruggen et al. (2021) document how the explicit incorporation of contingent events in
forecasting leads to smaller absolute forecast errors. Internal forecasting information can also be exploited for external
purposes in capital market disclosures through, eg, press releases and conference calls. Ittner and Michels (2017) document how
5
Keith Sherin, the vice chairman and former CFO of GE, described at the 2010 CARE conference GE's internal budgeting and financial planning
process. An edited version of his presentation has been published in the 2010 Journal of Applied Corporate Finance.

improved internal forecasting results in smaller absolute errors for earnings, sales, and capital expenditures in capital markets
disclosures.
Prior studies document an association between the quality of the information used for internal decision-making and the quality
of externally disclosed information (Gallemore and Labro 2015; Hemmer and Labro 2008). While firms that experience pressure
to meet analyst forecasts can benefit from improvements in internal forecasting, prior evidence suggests that the primary
motivation for investments in internal forecasting comes from internal purposes such as improved planning, coordination of
activities, etc. (Sivabalan et al. 2009). In a similar vein, the vice chairman and former CFO of GE Keith Sherin argues that ''the
goal of forecasting, from our organization's point of view, is not to get the most accurate point estimates. What we really care
about is the quality of the thinking and the dialogue among our managers that takes place'' (Sherin 2010, 11).
We define IFS as the quality of gathering and processing information and integrating it into managerial projections about
future operational and financial performance (Cassar and Gibson 2008; Ittner and Michels 2017). We argue that a greater
capability to accurately project future operational and financial outcomes reduces the demand for accounting misreporting because
IFS is supposed to yield performance numbers closer to firms' expectations. Managers have incentives to avoid/reduce accounting
misreporting because of its costly nature. Misreporting can have substantial costs to firms (eg, Dechow et al. 1996) and personal
costs to managers—particularly to finance professionals (eg, Desai, Hogan, and Wilkins 2006; Hennes et al.
2008; Kroos, Schabus, and Verbeeten 2018). End-of-year accounting misreporting also adds bias and noise to reported accounting
numbers, which impairs predictive usefulness and representational faithfulness (Badertscher, Collins, and Lys 2012). Thus, on
average, we expect and hypothesize that sophisticated internal forecasting negatively relates to end-of-year accounting
misreporting to influence performance.
This hypothesis is not without tension. First, forecasting in itself is focused on predicting inherently uncertain future outcomes;
the benefits of forecasting might be impaired due to low-probability, high impact events (so-called Black Swan events) that are
almost impossible to forecast (Taleb 2007). Second, the ability of firms to successfully manage earnings may be affected by the
quality of information on which earnings management decisions are based. For instance, Gallemore and Labro (2015) show that
the quality of firms' internal information environment is associated with tax avoidance activities. However, we expect information
quality to affect real activities manipulation instead of accounting misreporting (for reasons we elaborate on later in this section).
Third, IFS may increase the information set available to managers, which in turn could increase the information asymmetry
between corporate insiders and external financial statement users, ultimately enabling managers to better conceal their earnings
management activities (Bartov, Marra, Dossi, and Pettinicchio 2017) .
Overall, as IFS enables firms to accurately project future operational and financial outcomes and firms face the costly nature
of end-of-year accounting misreporting, we formulate the following hypothesis:
H1: Internal forecasting sophistication is negatively associated with accounting misreporting.
We are specifically interested in studying whether IFS allows firms to reduce their end-of-year accounting misreporting.
The prevalence of earnings management to meet expectations has been documented in numerous surveys (Dichev, Graham,
Harvey, and Rajgopal 2013; Graham, Harvey, and Rajgopal 2005; Merchant 1990) and archival studies (Alissa, Bonsall, Koharki,
and Penn 2013; Burgstahler and Dichev 1997; Degeorge et al. 1999). For example, Bonacchi et al. (2018) show how companies
drive misreporting practices in subsidiaries to meet or beat earnings projections, ie, using subsidiaries to manage their consolidated
earnings numbers.
We focus on accounting misreporting as it is a widespread ''last-minute'' method for influencing performance (eg, Dechow
and Shakespeare 2009; Kerstein and Rai 2007; Zang 2012). At the end of the fiscal period, or even between the closing and
reporting dates, managers have more precise knowledge about the projected final performance and the performance they would
like to report. Thus, managers can precisely determine the amount that requires manipulation, and the effect of manipulating an
account. We do not focus on the relation between IFS and real activities manipulation (eg, Graham et al.
2005; Zang 2012). This type of earnings manipulation has to take place earlier in the year and the consequences of such
manipulations take time to realize. However, early in the year, the amount that needs to be manipulated to achieve a given period-
end performance is uncertain. Additionally, accurately quantifying the effects of altering real business decisions (eg, inventory
buildup) can be difficult. Although we do not expect an association between IFS and real activities manipulation, we speak to this
in an additional analysis.
III. RESEARCH METHOD
Samples and Data Collection
We use survey data to test our hypothesis. Given the limitations for researchers to directly observe firms' internal forecasting
systems, the use of survey responses enables us to collect the data and address relevant questions on internal forecasting (Ittner

and Larcker 2001; Bloomfield, Nelson, and Soltes 2016). We define the target population as financial managers of investment
centers in medium-sized and large entities. This includes CFOs of public and private firms as well as divisional CFOs. We believe
the antecedents and consequences of internal forecasting to be relatively homogeneous given that medium-sized and large entities
are characterized by the adoption of formal management control systems (Sandino 2007), entities that are accountable for their
revenues, expenses, and assets typically have greater discretion in terms of operating decisions and the design of their local
accounting system (Abernethy, Bouwens, and van Lent 2004; Indjejikian and Mateÿjka 2012), and information asymmetry applies
to different levels such as the corporate level as well as the divisional level (Abernethy et al. 2004; Chen, Martin, Roychowdhury,
Wang, and Billett 2018).6 Thus, we believe that our level of analysis (financial managers of investment centers) is consistent with
the level of theory on IFS and misreporting (Graham et al. 2005; Luft and Shields 2003).
We send our survey to members of the Executive Master of Finance & Control (EMFC)7 alumni association, members of
the Certified Management Accountant (CMA) chapter, and members of the CFO panel8 associated with one of two large public
universities. Because respondents have completed postgraduate accounting education and have substantial work experience, we
expect them to be knowledgeable about forecasting and reporting practices within their entities and therefore qualified to
provide valid responses to survey questions. We pre-tested the survey with selected members of the target population to assess
whether the questions were correctly understood and easy to answer (Van der Stede, Young, and Chen 2005). All members
were invited by email to participate in the online survey. The respondents had about eight weeks to participate. We used the
following procedures to increase our response rate: first, survey respondents could indicate whether they were interested in
feedback about the outcomes of the study. Second, a reminder was sent after six weeks, leaving respondents with another two
weeks to participate before the online survey was closed. This procedure yields an initial sample of 155 respondents who
completed the questionnaire.9 We exclude 38 observations where the respondent's entity is not an investment center and/or
where the sales of the respective entity are below €10 million. We remove five observations due to missing data on forecasting
or misreporting. Our final sample consists of 112 observations.10
We test for the presence of response bias in two ways: first, we compare the responses of early and late respondents, as late
respondents are more similar to nonparticipants. Using the date of the reminder email to distinguish between early and late
respondents, we do not find significant differences of means or medians for demographic characteristics of the respondents,
their education and tenure, the dependent and independent variables of interest, and general firm characteristics such as firm
size, sales, and growth (non-tabulated). Second, we compare the target population and our final sample on demographic
variables such as age and gender. We do not find significant differences in means.11
In Table 1, we report descriptive statistics of respondents' profiles (Panel A) and respondents' entities profiles (Panel B).
Our respondents are relatively senior, as 91 percent have post-graduate qualification (EMFC, CPA, CMA degree), and the most
frequently reported job title of respondents is CFO/Financial Director (28 percent), Business Controller (26 percent), Group
Controller (13 percent), Finance Manager (11 percent), and Financial Controller (8 percent).
Given that our sample originates from perceptions of single respondents, our findings may be susceptible to measurement
bias12 and common method bias where estimated relations might be influenced by the use of a single measurement method. We
attempt to address these concerns by means of the following procedures: first, when administering the survey, we ensured
respondents that responses would be treated anonymously and positioned our variables of interest in separate parts of the
questionnaire (Van der Stede et al. 2005). Second, we supplement perceptual questions with factual measures and use the latter
to corroborate our perceptual survey measures. We elaborate on this in the next section on variable measurement. Third, we
employ Harman's single factor test. We perform an exploratory factor analysis with all items and find no indication that one
factor accounts for most of the variance in the items.13 Using confirmatory factor analysis, we assess whether a four-factor
6
For instance, Chen et al. (2018) show that information asymmetry between corporate and divisional levels is associated with less accurate management
guidance and more accounting restatements.
7
The EMFC is a two-year part-time postgraduate program (similar to a CGMA qualification issued by CIMA and the AICPA), and the CMA is a one year
part-time postgraduate program both at accounting and control professionals. Graduates can become a member of the CMA chapter and
EMFC associations, respectively.
8
The CFO panel is a network of CFOs of the 100 largest firms in The Netherlands, where members meet annually at the Finance Transformation Forum.
9
Institutional Review Board approval was granted by the corresponding universities.
10
Our aggregate response rate is 5.6 percent and comparable to earlier studies such as Abernethy, Bouwens, and Kroos (2017), Dichev et al. (2013), and
Indjejikian and Mateÿjka (2009). This response rate can be further broken down into a 13 percent rate for members of the CFO panel, a 4.8 percent rate
for members of the EMFC associations, and 8.4 percent for members of the CMA chapter. What is most important for survey research that aims to test a
theory is not the response rate, but rather the representativeness of the sample for the group of subjects the theory is supposed to apply to (the target
population) (Van der Stede et al. 2005; Specle´ and Widener 2018).
11
We only have data on population demographics for the EMFC and CMA target population.
12
Social desirability bias is described as respondents distorting their response to adhere to a social norm, while halo effects represent spillovers between
different judgments.
13
We find that the first factor accounts for 38 percent of the variance and all four factors account for 90 percent of the variance.

TABLE 1
Characteristics of the Final Sample
Panel A: Respondent Profile

n Percent Cumulated Percent
Position
CFO/Financial Director 31 27.7 27.7
Group Controller 14 12 10.7
12.5 40.2
Finance Manager 29 25.9 9178.0 50.9
Business Controller 15.2 76.8
Financial Controller 84.8
Other 100.0
Post-Graduate Qualification
CMA 12 10.7
CPA 33 29.4
EMFC 57 50.9
Panel B: Respondent's Entity Profile

n Percent Cumulated Percent
Sales in million euros

10–50 18 16.1 16.1
50–100 10 8.9 25.0
100–250 15 13.4 38.4
250–500 16 14.3 52.7
500–1,000 15 13.4 66.1
1,000–5,000 16 14.3 80.4
5,000–15,000 . 14 12.5 92.9
15,000 8 7.1 100.0
Industry
Extraction and manufacturing 33 29.46 29.46
Construction and utilities 11 9.82 39.28
Business services 22 19.64 58.92
Communication and tourism 11 9.82 68.74
Wholesale and logistics 9 8.04 76.78
Financial services 13 11.61 88.39
Social security, education, and health care 13 11.61 100.00
the model provides a better fit to the data relative to a one-factor model. We find that four latent factors provide a better fit to the
data relative to a one-factor model (Chi-squared 225.11; p , 0.01).14 Fourth, we supplement our main hypothesis test with
cross-sectional analyses. Prior research shows that interaction effects are unlikely to be an artifact of common method bias
(Spekle´ and Widener 2018).
Variable Measurement
We describe the measurement of our dependent and independent variables of interest, as well as the measurement of our
control variables. We use exploratory factor analysis when measuring our constructs by means of multiple survey questions.
Our latent constructs are measured by factor scores. For the variables that are measured using Likert scales, we evaluate the
convergent validity by examining correlations with alternative measures where we rely on factual data (Ittner and Larcker 2001;
Lattin, Carroll, and Green 2003).
14
Reductions in the Chi-squared statistic indicate a better fit with the data as each model is tested against the null that the proposed model fits as well as a
perfect models.

Independent and Dependent Variable of Interest
We purpose-developed a survey measure for forecasting. Internal forecasting is defined as the acquisition and processing
of information and the integration of this information into management's expectations concerning the firm's future operating
and financial performance (Cassar and Gibson 2008; Ittner and Michels 2017). We use a deductive approach and establish
items identified by research to capture a firm's internal forecasting. First, integrating information from different parts of the
financial statements in forecasting provides a better linkage between the uncertainty in cash flows and earnings, and the
impact on key financial balance sheet metrics and financial ratios. For example, having accurate projections of future cash
flows and working capital enables firms to adequately manage their liquidity and the degree through which growth can be
financed through internally generated cash flows (Deloitte 2014; Wasley and Wu 2006). Second, forecasts can improve when
uncertainty is incorporated, multiple scenarios are distinguished, and contingency plans are developed. Ittner and Michels
(2017) find that firms that explicitly incorporate uncertainty in their forecasting improve their forecasting accuracy. Bruggen et
al. (2021) show that explicitly labeling some part of the aggregate sales forecast as dependent on the unfolding of a contingent
demand ''event'' results in lower sales forecast errors and lower inventory ''buffer'' stock. Third, given the inherent uncertainty
when forecasting the future, regularly updated forecasts reflect more accurate projections. Libby and Lindsay (2010) find that
many firms aim to improve their planning by regularly updating projections by means of ongoing forecasts. Fourth, involving
different business functions (facilitating cross-functional communication) benefits forecasting due to the acquisition and
dissemination of information, as well as shared interpretation of information (Davis and Mentzer 2007; Zotteri and Kalchschmidt
2007). Finally, external information from suppliers and customers can help to better comprehend the dynamics of input and
output markets. Knowledge about customers and suppliers allows companies to better forecast their sales and production
activities (Kalchschmidt 2012). Overall, developing forecasts requires the integration of inputs from many different participants
and information sources within and outside the firm (Cassar and Gibson 2008).
We measure internal forecasting sophistication (IFS) using a five-item instrument that reflects its internal forecasting
attributes.15 Respondents are asked whether they agreed with the following statements about their entity's forecasting: (1) on
top of P&L, we forecast many other items (eg, cash flow or balance sheet items), (2) we take into account different
environmental situations when forecasting, (3) we update our forecasts regularly during the course of the year, (4) people
from different business functions are involved in forecasting, and (5) we use external support like market research and involve
supply chain firms to forecast demand (1 Completely agree, 5 Completely disagree). The face validity is assessed by pre
testing these specific survey questions with members of the target population. We reviewed whether the items reflect our
theoretical construct in business practice as well as whether the questions were interpreted in the same way by respondents
and consistent with the way that we intended.
Table 2 reports tests to examine the convergent validity, including a Cronbach's alpha of 0.67 for internal consistency
reliability (the degree to which items are similarly affected by a change in the latent construct). This measure exceeds the
lower limit of 0.60 for survey measures that have not yet been extensively validated in prior research (Hair, Black, Babin, and
Anderson 2014). Confirmatory factor analyzes enable us to measure the composite reliability (0.63) and average variance
extracted (0.42). Overall, these analyzes indicate a sufficient to satisfactory convergent validity. We also examine correlations
with factual measures (Bedford and Specle´ 2018). The positive correlations with the number of FTE committed to the
forecasting (0.24; p 0.01), the number of business functions involved in the forecasting (eg, sales, operations, finance,
logistics) (0.28; p , 0.01), the use of scenario planning (0.39; p , 0.01), and the use of rolling forecasts (0.18; p 0.05) are all
indicative of a satisfactory convergent validity (non-tabulated). Finally, the discriminant validity of our forecast measure is
supported as non-tabulated analyzes show that the square root of the average variance extracted outweighs the bivariate
correlations between our forecast measure and other latent constructs used in our empirical model (Fornell and Larcker 1981).
We use an adapted six-item survey instrument that reflects accounting and real economic actions to influence performance
(Abernethy, Bouwens, and Kroos 2017; Graham et al. 2005; Maas and Mateÿjka 2009). Respondents indicated how often
they took the following actions to influence performance: (1) change accounting estimates (eg, estimation of uncollectible
accounts expense, write-offs, impairments), (2) relabel line items (eg, relabeling expense as non-operating expense items),
(3) record transactions early or late (when justified), (4) provide or refuse price discounts or more/less lenient credit terms to
influence sales levels, (5) postpone or accelerate discretionary expenditures (investments in R&D, advertising, maintenance,
etc.), and (6) increase/decrease production to influence cost of goods sold. Factor analysis with oblique rotation reveals two factors with
15
We assume a reflective measurement model as each item represents a manifestation of the underlying latent construct such that increased IFS is
expected to manifest itself in changes in the observable items. Removing one item does not fundamentally change the theoretical meaning of our
construct and items share the same antecedents (eg, size or environmental volatility) (Bedford and Specle´ 2018).

TABLE 2
Description and Statistical Properties of Latent Constructs
Panel A: Accounting Misreporting (ACC_MISREP)

Factor
Loadings Mean Std. Dev. Range
How frequently did your entity take the following actions to influence performance?
Change accounting estimates to shift profits between periods (eg, estimation of uncollectible 0.51 2.32 1.06 1–5
accounts expense, write-offs, impairments)?
Relabel line items (eg, relabeling expense as non-operating expense item)? 0.47 1.78 0.80 1–5
Record transactions early or late (if justified)? 0.77 1.90 0.88 1–5
1 Completely disagree, 3 Neither disagree nor agree, 5 Completely agree.

Cronbach's alpha: 0.66; CR: 0.67; AVE: 0.36.
Panel B: Internal Forecasting Sophistication (IFS)

Factor
On top of the P&L statement, we forecast many cash flow and balance sheet items. 0.51 3.77 1.24 1–5
We take different environmental situations into account when we forecast. 0.74 3.96 1.05 1–5
We update our forecasts regularly during the course of the year. 0.69 3.28 1.50 1–5
People from different business functions are involved in our forecasting process. 0.76 3.94 1.12 1–5
We use external support like market research and/or involve firms along the supply chain to 0.47 2.52 1.38 1–5
demand forecasts.
1 Completely disagree, 3 Neither disagree nor agree, 5 Completely agree.

Panel C: Environmental Volatility (ENV_VOL)

Factor
What is the rate of change in the buying patterns and requirements of customers? 0.92 3.34 1.14 1–5
What is the rate of change in distributors' attitudes? 0.49 2.51 1.04 1–5
What is the rate of change in industry buying patterns? 0.98 3.08 1.11 1–5
What is the rate of change in competitor strategies? 0.58 2.95 1.13 1–5
What is the rate of change in technical developments relevant to your entity's business? 0.51 3.19 1.15 1–5
1 Highly stable, infrequent change, 3 Some change, 5 Highly volatile, very frequent change.
Panel D: Interdependencies (INTERDEP)

Factor
Our entity shares business from customers with other entities within the organization. 0.88 2.86 1.40 1–5
Our entity shares the sales force with other entities within the organization. 0.83 2.62 1.51 1–5
Our entity shares plant and equipment facilities with other entities within the organization. 0.89 2.93 1.41 1–5
Our entity shares advertising and promotional efforts with other entities within the organization. 0.88 2.95 1.36
Our entity shares research and development efforts with other entities within the organization. 0.72 3.19 1.32 1–5
Our entity has internal product transfers with other entities within the organization. 0.83 3.24 1.32 1–5
Our entity shares raw material purchases with other entities within the organization. 0.92 3.12 1.46 1–5
1 Sharing of business in this area occurs very rarely, 3 Sharing of business in this area occurs regularly, 5 Sharing of business in this area occurs
almost always.
Table 2 reports descriptives and statistical properties of our latent constructs from our main analysis. Factor loadings, composite reliability (CR), and
average variance extracted (AVE) originates from confirmatory factor analyses.

eigenvalues (clearly) greater than unity (Nunnally and Bernstein 1994). We measure accounting misreporting (ACC_MISREP)
on the basis of the first three items.16
The convergent validity is supported by Cronbach's alpha (0.66), composite reliability (0.67), and average variance
extracted (0.36) for our accounting misreporting measure (see Table 2).17 We also establish convergent validity by examining
the correlation with factual measures. We find that respondents with a CPA qualification are less likely to misreport ( 0.24; p¼
0.01) (Bamber, Jiang, and Wang 2010; Ge, Matsumoto, and Zhang 2011). Discriminant validity is supported as the square
root of the average variance extracted is larger compared to the bivariate correlations between ACC_MISREP and other latent
constructs used in our empirical model (Fornell and Larcker 1981).
Control Variables
We include a vector of common controls to address heterogeneity across firms. SIZE captures firm size and measures
entities' revenues. SIZE ranges between 1 and 8, dependent on whether revenue ranges from 10 to 50 million, 50 to 100
million, 100 to 250 million, 250 to 500 million, 500 million to 1 billion, 1 to 5 billion, 5 to 15 billion, or is higher than 15 billion
euros. GROWTH represents growth options. We define GROWTH as sales growth relative to the prior year, measured in
quintiles. Environmental volatility (ENV_VOL) is measured with a five-item instrument that captures respondents' perceived
rate of change in the environment on categories such as buying patterns and requirements of customers, competitor strategies,
technological developments, etc. (Khandwalla 1972). The survey measure for environmental volatility has been used repeatedly
in prior studies (eg, Abernethy et al. 2004; Abernethy et al. 2017) and is measured in quartiles. We measure interdependencies
(INTERDEP) with a seven-item instrument that reflects the degree to which entities share business with other entities in the
same firm in the following areas: customers, sales force, advertising, plant facilities, research and development, internal
transfers, and purchasing (Indjejikian and Mateÿjka 2012).18 The ratio of debt to assets denotes leverage. LEVERAGE is
equal to 1 if the debt-to-assets ratio is smaller than 20 percent, 2 if the ratio is between 20 percent and 40 percent, 3 if it is
between 40 percent and 60 percent, 4 if it is between 60 percent and 80 percent, and 5 if the ratio is higher than 80 percent.
PUBLIC_FIRM is an indicator variable equal to 1 if the sample firm of the respondent is a publicly listed firm, 0 otherwise.
BLOCKHOLDER is an indicator variable equal to 1 if institutional ownership is larger than 10 percent, 0 otherwise. We further
control for explicit incentives from compensation contracts. For each respondent, we determine incentive compensation tied to
financial measures (INC_FIN) by multiplying the maximum performance-based compensation as a percentage of salary with
the aggregate weight on financial measures. For example, a value of 12 means that attaining all financial performance targets
amounts to incentive compensation of 12 percent of their annual salary.
We also control for respondent-specific characteristics. We employ job-specific tenure and CEO power as determinants of
ACC_MISREP. Previous research suggests that the likelihood of earnings management decreases over job tenure (Ali and
Zhang 2015; Dikolli, Mayew, and Nanda 2014). We therefore measure the years that the respondent is in their current position
(JOB_TENURE). Next, Maas and Mateÿjka (2009) show that BU controllers with a stronger relation to their BU manager
(relative to their functional superior) are more likely to misreport. Thus, POWER takes the value of 1 (2) f3g if respondents
have a shorter (equally long) flongerg reporting relation with their line manager (ie, divisional or firm-level CEO) than with the
functional supervisor (ie, corporate CFO, audit committee). We expect JOB_TENURE to be negative and POWER to be
positively related to ACC_MISREP. We define CPA as an indicator variable equal to 1 if the respondent previously worked as
an auditor for an audit firm, 0 otherwise. GENDER is an indicator variable equal to 1 if the respondent is female, 0 otherwise.
AGE represents the age of the respondent, measured in quintiles. Given that respondents work at different hierarchical levels
(corporate, divisional, business unit), we include an indicator variable CORP_LEVEL equal to 1 if the respondent works at the
corporate level, 0 otherwise (Abernethy et al. 2017). We have a few cases of item nonresponse.19 Consistent with prior
research, we impute a value of 0 for those cases of item nonresponse (Van der Stede et al. 2005). Additionally, we build
indicator variables for each of those cases to address data availability for the respective variables (deHaan, Hodge, and
Shevlin 2013; Kroos et al. 2018). Finally, we control for industrial effects. All variables are described in Appendix A.
16
The second factor loads on our final three survey items. This factor captures real activities manipulation.
17
The Cronbach's alpha exceeds the lower bound for survey instruments that have not been extensively validated by prior studies. Hair et al. (2014,
123) discuss that ''the generally agreed upon lower limit for Cronbach's alpha is 0.70, although it may decrease to 0.60 in exploratory research.''
Additionally, Cronbach's alpha generally increases with the number of items in the survey instrument.
18
Table 2 shows how the convergent validity of the latent constructs ENV_VOL and INTERDEP is supported. Additionally, discriminant validity is
supported as the square root of the average variance extracted outweighs the bivariate correlations between the volatility measure and other latent
constructs (Fornell and Larcker 1981).
19
In each of the cases, a response on one single item is missing from the survey. We have seven missing items on leverage, two missing items on job
specific tenure, and 11 missing items on interdependencies.

TABLE 3
Summary Statistics
n Mean Std. Dev. 10% 25% Median 75% 90%
IFS 112 0.03 0.81 1.14 0.58 0.09 0.06 0.93

ACC_MISREP 112 0.01 0.82 1.11 0.61 0.01 0.53 1.05
SIZE 112 5.20 2.23 2.00 3.00 5.00 7.00 8.00
GROWTH 112 2.91 1.39 1.00 2.00 3.00 4.00 5.00
ENV_VOL 112 2.49 1.12 1.00 1.50 2.50 3.50 4.00
INTERDEEP 112 0.00 0.87 1.15 0.50 0.00 0.52 1.00
LEVERAGE 112 2.15 1.32 1.00 1.00 2.00 3.00 4.00
PUBLIC_FIRM 112 0.42 0.49 0.00 0.00 0.00 1.00 1.00
BLOCKHOLDERS 112 0.13 0.34 0.00 0.00 0.00 0.00 1.00
INC_FIN 112 11.54 20.43 0.00 0.00 5.00 15.50 30.00
JOB_TENURE 112 2.98 2.69 1.00 1.00 2.00 4.00 6.00
POWER 112 2.01 0.48 1.00 2.00 2.00 2.00 3.00
CPA 112 0.30 0.46 0.00 0.00 0.00 1.00 1.00
AGE 112 2.95 1.43 1.00 2.00 3.00 4.00 5.00
GENDER 112 0.18 0.38 0.00 0.00 0.00 0.00 1.00
CORP_LEVEL 112 0.47 0.50 0.00 0.00 0.00 1.00 1.00
INFO_ASYM 103 0.00 0.95 1.24 0.47 0.04 0.63 1.25
HAVE_INTERDEP 112 0.90 0.30 1.00 1.00 1.00 1.00 1.00
HAVE_LEVERAGE 112 0.94 0.24 1.00 1.00 1.00 1.00 1.00
HAVE_TENURE 112 0.98 0.13 1.00 1.00 1.00 1.00 1.00
Variables are defined in Appendix A.
Empirical Model
We test our hypotheses by means of the following OLS regression model:
ACC MISREPi;j b1IFSi ; j RbkCONTROLSi ;j dj ei ;j 1Þ
where i refers to firm and j to industry. b1 represents the relation between IFS and accounting misreporting.
Note that in examining the relationship between IFS and misreporting, we assume that IFS precedes accounting
misreporting. Firms' IFS is regarded as quasi-fixed in the short run. Adjustment costs can be substantial given the resources
(time and money) that must be expended to increase both the acquisition and the quality of analysis and interpretation of large
volumes of information. Moreover, firms cannot easily change their IFS. The notion that misreporting choices are more
adaptive is consistent with prior research that documents that earnings management activities are concentrated at the end of the
accounting period (Dechow and Shakespeare 2009; Kerstein and Rai 2007). Our regression specification is in line with
Hofmann and van Lent (2015), who argue that more slow-moving elements of organizational design can be exploited as
explanatory variables in empirical specifications. We later relax this assumption and instrument for internal forecasting
sophistication.
IV. EMPIRICAL RESULTS
Descriptive Statistics
Table 3 reports summary statistics of our final sample. The average entity in our sample has revenues between 250 and 500
million euro (as captured by SIZE) and reports an average sales growth of 3 percent. Our sample is balanced between publicly
held versus private firms. Almost half of the respondents have a firm-level position, while the remaining respondents work at
the divisional or business unit level. The average respondent is 40 years of age, has a postgraduate qualification, and has
worked for three years in their current position.
Table 4 presents the bivariate relations between our variables. As expected, we find a negative correlation between internal
forecasting sophistication (IFS) and accounting misreporting (ACC_MISREP). However, this bivariate relation is insignificant.
In line with prior research, we document that accounting misreporting is significantly negatively correlated with age and weakly

TABLE 4
Pearson Correlations of Variables Used in the Main Test
Panel A: Variables 1–8

12345678
1 ACC_MISREP 1.00
2 IFS 0.07 1.00
3 SIZE 4 0.03 0.24 1.00
GROWTH 5 0.06 0.02 0.22 1.00
ENV_VOL 6 0.09 0.14 0.12 0.02 1.00
INTERDEP 7 0.14 0.02 0.2 0.12 0.22 1.00
LEVERAGE 8 0.10 0.14 0.19 0.14 0.10 0.15 1.00
PUBLIC_FIRM 9 0.11 0.14 0.32 0.09 0.22 0.03 0.06 1.00
BLOCKHOLDER 0.15 0.07 0.14 0.23 0.09 0.08 0.08 0.05 0.20
10 INC_FIN 0.16 0.08 0.01 0.11 0.13 0.01 0.29
11 JOB_TENURE 0.11 0.14 0.21 0.03 0.18 0.05 0.02 0.03
12 POWER 0.12 0.08 0.07 0.20 0.06 0.03 0.09 0.08
13 CPA 0.17 0.24 0.07 0.01 0.01 0.08 0.03 0.17
14 GENDER 0.12 0.02 0.09 0.14 0.02 0.03 0.01 0.11
15 AGE 0.26 0.15 0.13 0.02 0.05 0.12 0.01 0.01
16 CORP_LEVEL 0.16 0.22 0.01 0.02 0.13 0.00 0.16 0.34
17 INFO_ASYM 0.13 0.01 0.05 0.15 0.02 0.03 0.03 0.13
Panel B: Variables 9–17, continued from Panel A

9 10 11 12 13 14 15 16 17
9 BLOCKHOLDERS 1.00
10 INC_FIN 0.05 1.00
11 JOB_TENURE 0.04 0.09 1.00
12 POWER 0.04 0.20 0.14 1.00
13 CPA 0.15 0.10 0.01 0.02 1.00
14 GENDER 0.12 0.15 0.02 0.12 0.00 1.00
15 AGE 0.11 0.18 0.37 0.10 0.10 0.11 1.00
16 CORP_LEVEL 0.06 0.15 0.03 0.03 0.07 0.02 0.14 1.00
17 INFO_ASYM 0.09 0.30 0.20 0.10 0.07 0.19 0.13 0.16 1.00
Significant correlations at the 5 percent level are in bold.
negatively correlated with CPA background (Bamber et al. 2010; Ge et al. 2011). Notably, larger firms tend to have
comparatively more sophisticated internal forecasting.
Play Analysis
Table 5, columns (1) and (2) present OLS estimates of Equation (1) without and with industry fixed effects, respectively.20
Consistent with our hypothesis, we find that IFS is significantly negatively related to accounting misreporting in either
specifications (p 0.02). With respect to the economic magnitude, we find that one standard deviation increase in IFS is
associated with a decrease in accounting misreporting of about 0.21.21 To put this into perspective, 0.21 is about one-quarter of
a standard deviation of accounting misreporting. With respect to the control variables, compensation-based incentives are
positively associated with misreporting while having a CPA qualification is negatively associated with misreporting.
Furthermore, leverage seems to be positively associated with accounting misreporting. Overall, we find that IFS is negative
associated with end-of-year accounting misreporting.
20
We include industry indicators throughout all subsequent analyses, as the level of misreporting and forecasting can vary among industries.
21
One standard deviation of IFS is 0.81, and the coefficient for IFS in column (2) is 0.264.

TABLE 5
OLS Estimations of the Relation between Internal Forecasting Sophistication and Accounting Misreporting
(1) (2)
ACC_MISREP ACC_MISREP
Dependent
Variable Coefficient t-statistics Coefficient t-statistics
IFS 0.254** [ 2.35] 0.264** [ 2.37]

SIZE 0.024 [ 0.60] 0.044 [ 1.04]
GROWTH 0.037 [ 0.62] 0.079 [ 1.15]
ENV_VOL 0.026 [0.36] 0.019 [ 0.25]
INTERDEEP 0.156* [1.68] 0.182* [1.93]
LEVERAGE 0.092 [1.35] 0.122* [1.75]
PUBLIC_FIRM 0.092 [ 0.50] 0.013 [ 0.07]
BLOCKHOLDERS 0.379 [1.54] 0.394 [1.54]
INC_FIN 0.009** [2.12] 0.009** [2.21]
JOB_TENURE 0.035 [ 1.09] 0.023 [ 0.73]
POWER 0.264 [1.57] 0.383** [2.08]
CPA 0.262 [ 1.51] 0.391** [ 2.22]
AGE 0.126** [ 2.07] 0.089 [ 1.41]
GENDER 0.261 [1.21] 0.333 [1.50]
CORP_LEVEL 0.269 [ 1.56] 0.297* [ 1.68]
Industry Indicators No Yes

Observations 112 112
R2 0.25 0.38
***, **, * Correspond to 1 percent, 5 percent, and 10 percent significance levels, respectively (two-tailed).
Table 5, column (1) reports baseline results (without industry fixed effects). Column (2) reports regression estimates from OLS of the following model:

where i refers to firm and j to industry. HAVE variables are unreported for brevity.
Instrumental Variable Analysis
Our research assumes a timeline of events where IFS is ''quasi-fixed'' and thus precedes accounting misreporting.
However, given that we only have a cross-section of data, we exercise caution in making causal statements. In this section, we
allow for the possibility that IFS does not precede accounting misreporting. This implies that we can no longer assume that IFS
is exogenously determined due to the possibility of reverse causation. Consistent with recommendations of Larcker and
Rusticus (2010), we supplement our main OLS results with a 2SLS estimation, as both OLS and 2SLS estimates can be
susceptible to different types of bias.
We propose two instruments for IFS, both of which must satisfy the exogeneity and relevance requirements. First, the
degree of information management (INFO_MAN) measures the organizational adherence to common data definitions, process
ownership, standardized common processes, standard information architecture, and the reduction of stand-alone applications
(adapted from Chang, Ittner, and Paz 2014). We ask our respondents to what extent they achieved integration of their
information system on the following dimensions: (1) strict adherence to common data definitions, (2) definition of business
process owners, (3) use of standard chart of accounts/standard information architecture, (4) use of standardized common
processes, and (5) reduction of the number of stand-alone applications (1 if no plans to adopt or started [, 25 percent], 2 if
partially achieved [25 percent to 75 percent], and 3 if entity-wide adoption [. 75 percent]). We use factor analysis to measure
this latent construct.22 Chang et al. (2014) find that better information management is positively associated with increased
perceived effectiveness by the finance function of its activities on financial planning (as information management facilitates the
22
Sample means of the different survey items range between 1.79 and 2.38. The mean (standard deviation) of the latent construct INFO_MAN is 2.49
(1.13). Convergent validity is supported by Cronbach's alpha (0.75) and composite reliability (0.75).

integration of financial and operational information). We posit that IFS relies on information management, as the degree to
which firms reap benefits from IFS depends on the quality of information management.23
Second, recent M&As (as acquirer) indicate discontinuous growth, and in these cases internal forecasting may prove
difficult because the prediction of future values depends on the degree to which expected synergies materialize. Furthermore,
further to M&As, internal forecasting can be challenging due to the lack of comparability in accounting systems across
acquirers and acquirees and the subsequent effort to integrate accounting systems across multiple entities. M&A is an indicator
variable taking the value of 1 if an entity was involved as the purchasing entity in major mergers or acquisitions within the last
25
three years, 0 otherwise.24 We expect INFO_MAN to be positively, and M&A to be negatively related to IFS.
Using INFO_MAN and M&A as instruments for IFS, we estimate Equation (1) in a 2SLS model (non-tabulated). Besides
the economic rationale, we require that both instruments satisfy the relevance (correlated with IFS) and validity (orthogonality
to the residual) conditions. In our first-stage results, both INFO_MAN (Coefficient: 0.16; p 0.02) and M&A (Coefficient: 0.428;
p 0.02) are significantly associated with IFS. We perform a range of analyzes that substantiate the relevance and validity of
our instruments.26 The OLS estimator is inconsistent when IFS is endogenous. We use the Durbin-Wu-Hausman test and find
27
no evidence of endogeneity of IFS. The Durbin-Wu-Hausman test (p 0.23) is unable to reject the null hypothesis,
which provides us with some confidence in using OLS estimates throughout our paper.
Our second-stage 2SLS results (non-tabulated) are consistent with the results of our OLS regression. We find that IFS is
negatively and significantly associated with ACC_MISREP (Coefficient: 0.63; p 0.02). This suggests that IFS is negatively
associated with the demand for end-of-year accounting misreporting.
Next, we probe the robustness of our 2SLS results to assuming our instruments INFO_MAN and M&A are only weakly
correlated with IFS. Weak instruments can increase the bias that originates from semi-endogenous instruments. Therefore,
we recalculate the 2SLS model with confidence regions and test-statistics for the coefficients for the endogenous variable based on
28
the conditional likelihood ratio (CLR) test developed by Moreira (2003) and recommended in Larcker and Rusticus (2010).
This un-tabulated analysis confirms our 2SLS results, as the IFS coefficient remains statistically significant (p 0.02). Overall,
our findings suggest that the significant relation between IFS and accounting misreporting does not seem to be induced by
reverse causation. However, given that 2SLS can produce biased estimates when instrumental variables are only slightly
endogenous (and this bias increases when instruments are weakly relevant), we exercise caution in making strong statements
about causality (Larcker and Rusticus 2010).
Robustness Tests
We perform a range of (non-tabulated) robustness checks. First, to assess whether a few observations are driving our
results, we re-estimate Equation (1) with robust regressions (instead of OLS), as they are less sensitive to outliers and
''influential'' observations (Leone, Minutti-Meza , and Wasley 2019). Our results remained qualitatively unchanged (IFS: 0.28;
p , 0.05). Second, prior studies have shown the importance of corporate culture, such as strong ethical values as perceived
by their employees (Guiso, Sapienza, and Zingales 2015). Such firms may be more prone to adopt formal management and
control systems and may also be less inclined to allow for misreporting. To address this possibility, we include one item from
the survey instrument on Ethical Work Climate developed by Victor and Cullen (1988) in our regression, which measures the
23
Standard data structures and definitions and establishing centralized governance processes to manage data on an organization-wide basis are all
critical to ensure that the maximum returns are achieved from investments in forecasting (KPMG 2007).
24
The mean (standard deviation) of M&A is 0.34 (0.47), indicating that 34 percent of sample firms have prior M&As.
25
We do not find support in the literature for a relation between accounting misreporting and our instruments INFO_MAN or recent M&As. We do find
evidence of a relation between the quality of the internal controls and accounting misreporting (eg, Ashbaugh-Skaife, Collins, Kinney, and LaFond
2008), but internal control quality is conceptually different from our information management construct. Internal control quality covers, among others,
the establishment of proper segregation of duties, safeguards embedded in revenue-recognition policies, and technical expertise to handle complex
accounts (such as income taxes and derivatives) (Ge and McVay 2005). Next, prior literature on M&A and misreporting has focused on incentives for
acquirers - that use their stock as payment - to misreport to increase stock price, reducing the amount of stock given to stockholders of the acquired
firm, ultimately lowering the price of the acquisition and reducing dilution of the shares. A smaller branch of literature looked at incentives for firms
subject to takeover attempts to use income-increasing accounting choices in prior years to increase the transaction price (Louis 2004).
26
From our first-stage results, we conclude that each instrument, INFO_MAN and M&A, is individually relevant based on significant first-stage
coefficients, and both are jointly relevant as indicated by a significant Sanderson-Windmeijer F-statistic of 4.99 (p , 0.01 ). Proceeding to analyze the
exogeneity of our instruments, we make use of the overidentifying restrictions test (our model is overidentified as the number of instruments exceeds
the number of endogenous regressors). Based on the Sargan's Chi-squared statistic of 1.03 (p 0.31), we cannot reject the null hypothesis that the
instruments are valid. This suggests that the instruments are not correlated with the structural error term.
27
More specifically, the null hypothesis is tested that 2SLS and OLS estimates for IFS are not significantly different (Hausman 1978). A rejection of the
null hypothesis suggests that IFS needs to be treated as endogenous, in which case OLS is inconsistent.
28
In this approach, critical values of test statistics are adjusted through simulation of the conditional distribution of the test statistics. The resulting test
statistic has a correct size, even in the presence of weak instruments.

perceptions of how members of the organization make decisions concerning various events, practices, and procedures
requiring ethical criteria. The specific survey item measures (on a 1 to 5 scale) the degree to which employees are expected
to do what is right for the customer and public. Inclusion of this Ethical Work Climate item does not affect our inferences (IFS:
0.24; p , 0.05), and the coefficient for Ethical Work Climate is not significant (p 0.49).29 Third, we used INFO_MAN as an
instrument for IFS, as prior literature indicates that improvements in information management (eg, strict adherence to common
data definitions, use of standard information architecture, and standardized common processes) forms the basis for financial
planning activities (Chang et al. 2014). As INFO_MAN is an antecedent of IFS, and to mimic an experimental design (Angrist
and Pischke 2008), we repeat the analysis in Equation (1) but now include INFO_MAN as an additional control variable. The
coefficient for IFS is negative and significant (IFS: 0.23; p , 0.05), while the INFO_MAN coefficient is not significant (p
0.12). Thus, controlling for INFO_MAN does not affect our inferences.
Positive Information Spillover Effects as a Mediator
We find evidence of a negative association between IFS and end-of-year accounting misreporting. We attribute this to
the improved planning that originates from IFS (Cassar and Gibson 2008; Ittner and Michels 2017). However, an alternative
mechanism that might explain our findings is spillover effects, where planning information is also used for monitoring and
evaluation purposes (Becker et al. 2016; Arnold and Artz 2019). For instance, improved forecasting information may facilitate
monitoring through identification of unexpected performance surprises at the end of the period and may thus unravel
misreporting practices. Heitzman and Huang (2019) argue that, under a moral hazard hypothesis, higher information quality
improves monitoring and reduces the likelihood of opportunistic responses by agents. Moreover, information about the effect
of contingencies on bottom-line performance may be helpful in disentangling controllable from uncontrollable components of
agents' performance, potentially reducing agents' incentives to misreport.
To test for this alternative causal path between IFS and misreporting, we follow the Baron and Kenny (1986) procedure
for potential mediation (non-tabulated). A mediational analysis attempts to explain the process of how the cause and effect
happens by identifying an intermediary process (ie, planning information also used for monitoring and evaluation) that leads
from the independent variable to the dependent variable (Baron and Kenny 1986). Specifically, we repeat the analysis of
Equation (1) but now include a survey question on the degree to which information used in forecasting is exactly the same
information used for evaluation and incentive compensation (FC_PERF_EVAL). We do not find evidence that suggests that
spillover effects mediate the relation between IFS and misreporting. The FC_PERF_EVAL coefficient is not significant (p
0.49), while the coefficient for IFS remains relatively similar in size and significance level (Coefficient: 0.24; p , 0.05). This
suggests that the negative association between IFS and end-of-year accounting misreporting can be attributed to improved
planning capabilities that follow from more sophisticated internal forecasting, rather than better monitoring.
Cross-Sectional Analyzes
Our main test examined the relationship between IFS and end-of-year accounting misreporting. In this section, we
explore the boundary conditions of our main findings, where we use moderators to assess the generalizability of these
findings. The moderators are expected to influence the benefits of internal forecasting. In particular, we expect a less
pronounced (negative) association between IFS and end-of-year accounting misreporting in settings where the benefits of
IFS are expected to be lower.30 Our first moderator is environmental volatility. Firms are expected to benefit more from
forecasting in volatile environments relative to stable environments (due to, eg, the usefulness of contingency plans). On the
other hand, very uncertain and volatile environments can make it difficult to accurately predict environmental shocks and end-
of-year performance (Hirst, Koonce, and Miller 1999). Prior literature provides mixed findings in this area. Papers examining
analyst forecast accuracy find that market and macro-economic uncertainty are negatively associated with forecast accuracy
(Hope and Kang 2005; Amiram, Landsman, Owens, and Stubben 2018). Gartner and Thomas (1993) find that environmental
volatility (eg, the degree of competition) is negatively associated with the accuracy of their new-product forecasts. On the
other hand, Bruggen et al. (2021) find that the reduction in absolute demand forecast errors following forecast disaggregation is more
29
Victor and Cullen (1988) developed the Ethical Climate Questionnaire to measure ethical climates. Cullen, Victor, and Bronson (1993) used the
questionnaire across three surveys and concluded that the results suggest strong support for its validity and reliability. The distribution on our ethics
item is rightly skewed as indicated by the 10th percentile value of 3 and a median value of 4 (while the theoretical range is between 1 and 5). In line
with Guiso et al. (2015), who document that integrity is associated with performance (eg, return on sales), we find our ethics item to be negatively
correlated with the likelihood of being loss-making (p 0.04).
30
In our main analyzes we use test-statistics based on homoskedastic standard errors because the White test for heteroskedasticity in the error
distribution fails to reject the null hypothesis of homoskedasticity (p 0.45). We, therefore, assume iid errors and opt for the more efficient OLS
estimators. The cross-sectional analyzes are conducted with heteroskedasticity-robust standard errors to account for the non-independence of subsamples.

TABLE 6
Cross-Sectional Analyzes
Panel A: Impact of Environmental Volatility

Dependent Variable ACC_MISREP
ENV_VOL ENV_VOL
HIGH LOW
Coefficient z-statistics Coefficient z-statistics
IFS 0.264 [ 1.50] 0.346*** [ 3.25]

Controls and industry indicators included Yes Yes
Observations R2 Sign. differences in IFS 56 56
(z-statistic) 0.438 0.678
0.40
Panel B: Impact of Listing Status

PUBLIC_FIRM PUBLIC_FIRM
YES NO
IFS 0.132 [0.78] 0.425*** [ 3.94]

2.76***
Panel C: Impact of Information Asymmetry

INFO_ASYM INFO_ASYM
HIGH LOW
IFS 0.267 [ 1.32] 0.668*** [ 5.32]

1.69*
***, **, * Correspond to 1 percent, 5 percent, and 10 percent significance levels, respectively (two-tailed).
Table 6 reports regression estimates from OLS of the following model:
in subsamples of HIGH/LOW based on median splits of ENV_VOL and INFO_ASYM, and the PUBLIC_FIRM indicator. i refers to firm and j to industry.
Controls are as in Equation (1).
n in Panel C is lower due to missing observations for INFO_ASYM.
z-statistics are based on OLS with heteroskedasticity-robust standard errors.
pronounced for products that are more difficult to forecast. We use environmental volatility (ENV_VOL) as our proxy for the
difficulty to accurately predict the occurrence and magnitude of environmental shocks and to accurately predict end-of-year
performance. We conduct a subsample analysis based on a median split. We find that our main findings are driven by the
subsample of firms facing lower environmental volatility (Table 6, Panel A). While the relation between IFS and end-of-year

accounting misreporting is not significant in the subsample of firms with higher environmental volatility, the relation between
forecasting and accounting misreporting is negative and significant for the firms facing lower environmental volatility (p , 0.01).
However, a test for a significant difference of coefficients across subsamples is insignificant.
The second moderator is the pressure to meet projections where some firms stand to benefit (lose) more than others from
attaining (missing) their end-of-year projections. Prior literature shows that due to capital market pressure, CFOs take actions
assuring they meet their projections, as missing expectations by only a margin can have severe consequences (ie, the manager
would be seen as a poor forecaster). In particular, missing current projections may increase doubts about the credibility of
subsequent forecasts (Graham et al. 2005, 28). On the one hand, firms may disclose more pessimistic forecasts to avoid missing
projections (Burgstahler and Eames 2006). On the other hand, CFOs may engage in misreporting to avoid missing projections (Graham et al.
2005). Similarly, Badertscher et al. (2012) document that discretionary accounting choices are primarily driven by managers' desire
to meet and beat earnings projections. We proxy for the consequences of meeting or beating forecasts with a firm's listing status.
Public firms (PUBLIC_FIRM) use internally generated projections in their external disclosure to capital market participants and thus
have comparatively high incentives to meet those projections.31 Meeting expectations of financial analysts are typically less relevant
for private firms (Graham et al. 2005). Related, CFOs of public firms generally perceive a higher outside pressure to attain or
surpass earnings expectations than their counterparts at private firms (Dichev et al. 2013). Given the sizeable incentives for public
firms to attain or surpass expectations, we expect public firms to proactively engage in accounting misreporting to assure that they
meet or beat expectations. This would be reflected in a weaker relation between accounting misreporting and forecasting for public
firms. We find that our main results are driven by the subsample of private firms (Table 6, Panel B).
The third moderator exploits variation in information asymmetry (INFO_ASYM), defined as information asymmetry between
different levels within the organization. Previous literature suggests that the perceived usefulness of improved information is higher
in the contexts of disperse operations (eg, Gallemore and Labro 2015). These sophisticated forecasting systems are focused on
acquiring and integrating data across different business units and geographical locations, providing the potential to overcome
information asymmetry issues created by highly dispersed operations. Gallemore and Labro (2015) document that, for tax purposes,
the benefits of a high-quality internal information environment indeed increase with the geographic dispersion of firms' operations.
On the other hand, high information asymmetry can inhibit information collection and aggregation that is essential for IFS, as
collecting and interpreting large amounts of dispersed information can be prohibitively costly. Such investments might not be optimal
and, as a result, information sharing is more ad hoc and prone to errors. Lower-level information can also be soft in nature and,
therefore, difficult to codify and transmit to higher organizational levels. If information asymmetry is high, the potential for non-truthful
revelation of information by lower-level managers can also increase (Libby and Lindsay 2010). Chen et al. (2018) find that increased
information asymmetry between corporate and divisional levels is associated with less accurate external forecasts (management
earnings guidance). We measure information asymmetry with a six-item survey instrument used extensively in prior research (eg,
Abernethy et al. 2004). The Cronbach's alpha (composite reliability) faverage variance extractedg of INFO_ASYM is 0.68 (0.89)
f0.70g. Table 6, Panel C reports the results for INFO_ASYM where the subsamples are based on a median split. We find that our
full sample findings are mainly driven by the subsample of firms with low information asymmetry.
Note that the relation between IFS and accounting misreporting is insignificant in some of our subsamples. A power analysis
suggests that the insignificant results in the ENV_VOL HIGH and INFO_ASYM HIGH subsamples can likely be attributed to the
insufficient power in these subsamples.32
As a final remark, our results do not imply that public firms, or firms with high environmental volatility and high information
asymmetry, do not have any benefits from investments in internal forecasting. Rather, they may face conditions that increase the
difficulty of internal forecasting. However, any firm is typically better off investing in internal forecasting relative to not investing in
internal forecasting at all. Our cross-sectional results simply show settings in which investments in internal forecasting do not
completely offset the challenges imposed by a difficult forecasting environment.
Real Activities Manipulation as an Alternative Dependent Variable
We study accounting misreporting as an outcome given that accounting misreporting can take place at the end of the year,
even between the closing and reporting dates. Real activities manipulation needs to take place earlier in the year. First, it
31
We do not need to assume that internally generated projections are perfectly correlated with firms' external disclosures. Slack in disclosures would
make it easier to meet the respective projections, and thus bias against us finding a muted relation in the public firm subsample. Generally, internal
information quality has been shown to relate to the external disclosure quality (Gallemore and Labro 2015; Ittner and Michels 2017). Also, managers
have substantial incentives to be forthcoming with truthful disclosure of their expectations (Trueman 1986; Lee, Matsunaga, and Park 2012).
32
Coefficients for IFS are insignificant on a 10 percent level in the ENV_VOL HIGH and INFO_ASYM HIGH subsamples (p , 0.2). However, these are
low-powered tests (the probability of accepting a false null hypothesis is relatively high). The effect sizes of IFS in the two HIGH subsamples are
similar to the effect size of the main model. Employing a power analysis reveals that, given the effect size for IFS, we would need at least 92
observations for a well-powered test (assuming a conventional power threshold of 0.8 and a 10 percent significance level).

requires time to materialize. Second, it is less effective because early in the financial year the precise amount that has to be
manipulated is more uncertain. Additionally, firms often cannot precisely quantify the effect of altering real business decisions
on performance (eg, Graham et al. 2005; Zang 2012).
We conduct an additional analysis with Equation (1) employing real activities manipulation (REAL_MAN) as the dependent
variable (un-tabulated). We measure real activities manipulation using factor analysis of the final three items of our six-item
survey instrument on misreporting: (4) provide or refuse price discounts or more/less lenient credit terms to influence sales
levels, (5) postpone or accelerate discretionary expenditures (investments in R&D, advertising, maintenance, etc.) to influence
performance, and (6) increase/decrease production to influence cost of goods sold.33 We do not find a significant relation
between IFS and real activities manipulation. The IFS coefficient is negative but not significant (p 0.26). We repeat the
same analysis but add accounting misreporting as an additional regressor (Cohen, Dey, and Lys 2008). Our results are
consistent, with the IFS coefficient being insignificant (p¼0.43). Finally, we adapt Equation (1) with accounting misreporting
as the dependent variable and now control for real activities manipulation (Cohen et al. 2008).
Again, our inferences are qualitatively similar. The coefficient for IFS is negative and significant (Coefficient: 0.17; p , 0.04).
Overall, we do not find evidence that suggests a significant association between IFS and real activities manipulation.
Potential Impact of Confounding Variables
As common in survey research, we have cross-sectional data and cannot rely on panel data methods (eg, fixed effects
estimation) to address the impact of potentially confounding variables. However, we can estimate the sensitivity of our main
results to committed variables, and thus examine the potential impact of unobserved confounding variables (Frank 2000;
Larcker and Rusticus 2010). We use the impact threshold for a confounding variable (ITCV) approach, which captures how
strongly an committed variable must be correlated with the dependent and independent variables in a regression (conditional
on including controls) to turn a significant coefficient of interest insignificant. Based on our estimates of our main model
(reported in Table 5), we calculate the ITCV. We find that this potential omitted variable would need to be about 0.3 correlated
with ACC_ MISREP as well as IFS (conditional on the inclusion of controls). More specifically, our ITCV takes the value of
0.089, which indicates that if the (absolute value of the) partial correlation of an omitted variable with IFS times the partial
correlation of the same omitted variable with ACC_MISREP is greater than 0.089, the IFS coefficient would no longer be
statistically significant (if that committed variable was included in the regression). To assess the likelihood that such an
committed variable exists, we develop two benchmarks. First, we calculate the product of the unconditional correlation of each
control variable with IFS and ACC_MISREP, respectively. The product of these correlations denotes the Raw Impact (reported in column (3)
Second, we repeat this procedure calculating partial correlations (columns (4) to (6)). Impact scores serve as a useful
benchmark given that the vector of controls is selected based on prior research, and therefore represent a reasonably
comprehensive overview of the variables that may correlate with our dependent and independent variables of interest. We
find that the most influential control variables are CPA (Raw) and INC_FIN (Partial); that is, our ITCV is about two (three)
times larger than the Raw (Partial) impact of CPA (INC_FIN). Partial Impact is a more informative benchmark because the
committed variable would need to attenuate the IFS coefficient over and above all control variables. Thus, to invalidate our
conclusions, an omitted variable must be about three times as highly correlated with both ACC_MISREP and IFS, conditional
on the vector of controls, as any of our control variables. It is unlikely that such a variable exists as we select control variables
based on prior research.
V. CONCLUSION
We study the attributes of firms' internal forecasting that define the quality of firms' internal forecasting, which we label as
internal forecasting sophistication (IFS). While the prior accounting literature on forecasting focuses primarily on management
(earnings) guidance, empirical evidence suggests that forecasting is in the first place motivated by internal purposes. We posit
that firms' investments in internal forecasting allow them to make better projections and develop contingency plans beforehand,
enabling them to adjust operational plans more swiftly and accurately when contingencies unfold. We expect that IFS
increases the capability to produce accurate forecasts, which results in a lower need for end-of-the-year accounting
misreporting to influence performance. Consistent with our hypothesis, we document a significantly negative association
between IFS and accounting misreporting. In the cross-section, we find weaker effects if forecasting is comparably difficult
and if market pressure to meet projections is high.
Like every study, this work has limitations. We chose a survey to collect data and address our research question as it is
unfeasible to directly observe a large number of internal forecasting systems. However, a survey raises challenges with respect
33
Cronbach's alpha (composite reliability) faverage variance extractedg of REAL_MAN is 0.70 (0.70) f0.50g.

TABLE 7
ITCVAnalysis of the Results of the Relation between Internal Forecasting Sophistication and Accounting Misreporting
Independent Raw Raw Partial
Variables with Correlation Correlation Partial Correlation
Absolute Raw or with with Raw Correlation with Partial
Partial Impact. 0.01 IFS ACC_MISREP Impact with IFS ACC_MISREP Impact
CPA 0.24 0.17 0.041 0.19 0.11 0.021

AGE 0.15 0.26 0.038 0.03 0.20 0.005
CORP_LEVEL 0.22 0.16 0.036 0.19 0.11 0.022
BLOCKHOLDERS 0.14 0.15 0.021 0.10 0.13 0.014
INTERDEEP 0.02 0.14 0.020 0.17 0.13 0.022
JOB_TENURE 0.14 0.11 0.016 0.15 0.08 0.011
PUBLIC_FIRM 0.14 0.11 0.014 0.11 0.02 0.003
INC_FIN 0.16 0.07 0.011 0.17 0.17 0.028
SIZE 0.24 0.03 0.007 0.15 0.10 0.014
LEVERAGE 0.14 0.10 -0.003 0.11 0.16 0.018
Our estimated impact threshold (ITCV) of IFS in Equation (1) is 0.089. This is defined as the threshold at which an committed variable would render the
coefficient for IFS insignificant at the 10 percent level.
The impact threshold can be compared to Raw/Partial Impact, as these are the products of the correlations of the respective control variables with IFS and
ACC_MISREP.
Results based on unconditional (ie, Raw) correlations are reported in columns (1)–(3).
Results based on partial correlations are reported in columns (4)–(6).
If the absolute value of the (Raw or Partial) correlation of an omitted variable with IFS times the (Raw or Partial) correlation of the same omitted variable
with ACC_MISREP is greater than 0.089, the coefficient for the independent variable of interest would no longer be statistically significant (if the omitted
variable was included in the regression). Such an omitted variable would need to be about twice (three times) as highly (partially) correlated as CPA (INC_
FIN), the variable with the highest Raw Impact (Partial Impact).
to measurement bias and common method bias. We address this in multiple ways. For example, we validate subjects' responses
by means of objective, factual information. We also employ numerous statistical procedures and find no indication that one
factor (eg, the presence of a single respondent) accounts for most of the variance in the items. Additionally, we supplement
our main hypothesis test with cross-sectional analyses. Such moderator effects are unlikely to be an artifact of common method
bias (Spekle´ and Widener 2018). Similar to many archival and field studies, we are unable to conduct a randomized experiment,
which limits our ability to make causal inferences. We exercise caution in making causal statements when applying
econometric procedures such as 2SLS, as such procedures can produce biased estimates even when instruments are slightly
endogenous (and this bias increases when instruments are weakly relevant). Finally, there might be alternative explanations for
our results. For example, for some constructs (eg, corporate culture, planning information also exploited for monitoring
purposes), our empirical proxies may be susceptible to measurement error. We perform an ITCV analysis to estimate the
sensitivity of our main results to variables that are unobserved or imperfectly measured. We conclude from this ITCV analysis
that to invalidate our conclusions, an omitted variable must be about three times as highly correlated with both ACC_MISREP
and IFS, conditional on the vector of controls, as any of our control variables. Nonetheless, IFS may also provide better
monitoring opportunities (in addition to improved planning capabilities), which may mitigate misreporting practices; additional
explorations in this area appear to be a fruitful avenue for future research.
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APPENDIX A
Variable Descriptions
IFS Firms' internal forecasting sophistication measured using a five-item survey instrument described in Table 2.
ACC_MISREP Accounting misreporting measured using a three-item survey instrument described in Table 2.
SIZE Measured by entities' revenues and ranges between 1 and 9.
GROWTH Quintiles of change in entities' revenue from year t 1 to t.
ENV_VOL Environmental volatility measured using a five-item survey instrument specified in Table 2.
INTERDEP Interdependencies measured using a seven-item survey instrument specified in Table 2.
LEVERAGE Ratio of debt over assets, ranging between 1 and 5.
PUBLIC_FIRM Indicator variable equal to 1 for publicly listed firms, 0 otherwise.
BLOCKHOLDER Indicator variable equal to 1 if institutional ownership is larger than 10 percent, 0 otherwise.
INC_FIN Monetary incentives contingent of financial measures, measured by maximum performance-based compensation
(expressed as a percentage of salary) multiplied by the aggregate weight on financial performance measures.
INFO_ASYM Information asymmetry between different levels within the organization using a six-item survey instrument.
JOB_TENURE Years that the respondent is in their current position.
POWER Variable equal to 1 if the respondent has a shorter reporting relation with their line manager (divisional or firm
level CEO) than with the functional supervisor (corporate CFO, audit committee); variable equals 2 if the
reporting relation is of the same length, and 3 otherwise.
CPA Indicator variable equal to 1 if the respondent worked as an auditor for an audit firm, 0 otherwise.
GENDER Indicator equal to 1 if the respondent is female, 0 otherwise.
AGE Age of the respondent, measured in quintiles.
HAVE_VARIABLES Indicator variables HAVE_LEVERAGE, HAVE_TENURE, and HAVE_INTERDEP, equal to 1 if data for
LEVERAGE, JOB_TENURE, and INTERDEP (respectively) are non-missing, 0 otherwise.a
CORP_LEVEL Indicator variable equal to 1 if the respondent works on the corporate level, 0 otherwise.
a
Seven, two, and 11 observations were missing for LEVERAGE, JOB_TENURE, and INTERDEP, respectively (and replaced with 0).


The Relation Between Internal Forecasting Sophistication

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JOURNAL OF MANAGEMENT ACCOUNTING RESEARCH American Accounting Association

The Relation between Internal Forecasting Sophistication

Keywords: budgeting; internal forecasting; internal information quality; accounting misreporting.

52 Kroos, Schabus, and Verbeeten

Journal of Management Accounting Research

The Relation between Internal Forecasting Sophistication and Accounting Misreporting 53

II. THEORY AND HYPOTHESES

Internal Forecasting Sophistication

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54 Kroos, Schabus, and Verbeeten

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H1: Internal forecasting sophistication is negatively associated with accounting misreporting.

III. RESEARCH METHOD

Samples and Data Collection

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56 Kroos, Schabus, and Verbeeten

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Characteristics of the Final Sample

Panel A: Respondent Profile

Panel B: Respondent's Entity Profile

Sales in million euros

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Independent and Dependent Variable of Interest

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Panel A: Accounting Misreporting (ACC_MISREP)

1 Completely disagree, 3 Neither disagree nor agree, 5 Completely agree.

Panel B: Internal Forecasting Sophistication (IFS)

1 Completely disagree, 3 Neither disagree nor agree, 5 Completely agree.

Panel C: Environmental Volatility (ENV_VOL)

Panel D: Interdependencies (INTERDEP)

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IFS 112 0.03 0.81 1.14 0.58 0.09 0.06 0.93

Variables are defined in Appendix A.

We test our hypotheses by means of the following OLS regression model:

ACC MISREPi;j b1IFSi ; j RbkCONTROLSi ;j dj ei ;j 1Þ

IV. EMPIRICAL RESULTS

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Panel A: Variables 1–8

Panel B: Variables 9–17, continued from Panel A

Significant correlations at the 5 percent level are in bold.

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IFS 0.254** [ 2.35] 0.264** [ 2.37]

Industry Indicators No Yes

ACC MISREPi;j b1IFSi ; j RbkCONTROLSi ;j dj ei ;j 1Þ

Instrumental Variable Analysis

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Positive Information Spillover Effects as a Mediator

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IFS 0.254 [ 2.35] 0.264 [ 2.37]