Changes In Asset Turnover And Profit Margin As Signals Of Earnings Management

When firms manage earnings up (down), the articulation between the income statement and the balance sheet generally forces a simultaneous increase (decrease) in net operating assets. Therefore, under ceteris paribus conditions, upward earnings management results in a contemporaneous increase in profit margin (i.e., operating income divided by sales) and decrease in asset turnover (i.e., sales divided by net operating assets), and downward earnings management results in a contemporaneous decrease in profit margin and increase in asset turnover.