Beneish Model

[Freejaffacake]

Is the increase in value of any of the 8 variables included in the Beneish model, any indication of a probable earnings manipulation?

[Harrogath]

Be careful with this. The model has 8 variables, 2 of them with negative slopes (negative sign of the multiplier). These negative variables SGAI and LEVI has a favorable impact in the M-score, this means they decrease the M-score (decrease the probability of earnings manupulation), so despite of that SGAI & LEVI may increase or decrease period to period, the M-score will decrease (more negative), so the probability of earnings manipulation decreases in each case.

This does not make sense right?, more SGA expenses or higher leverage would conduct an earnings manipulation by the management. However, this model was set up in 1999 by Beneish using empirical data. The original model, which is described in the book, has a very important footnote: three of the model variables were not statistically significant in the results, which are SGAI, LEVI and DEPI. This is why SGAI and LEVI negative slopes do not make sense (thanks God!).

Reference: CFAI Curriculum 2016 Book 1, Reading 21 “Evaluating Quality of financial Reports”, page 313, footnote 8.

Glad to further discuss this!

[Freejaffacake]

Thanks Harrogath

[Harrogath]

You are welcome.

[timothy1949]

@Harrogath

Be careful with this. The model has 8 variables, 2 of them with negative slopes (negative sign of the multiplier). These negative variables SGAI and LEVI has a favorable impact in the M-score, this means they decrease the M-score (decrease the probability of earnings manupulation), so despite of that SGAI & LEVI may increase or decrease period to period, the M-score will decrease (more negative), so the probability of earnings manipulation decreases in each case.

This does not make sense right?, more SGA expenses or higher leverage would conduct an earnings manipulation by the management. However, this model was set up in 1999 by Beneish using empirical data. The original model, which is described in the book, has a very important footnote: three of the model variables were not statistically significant in the results, which are SGAI, LEVI and DEPI. This is why SGAI and LEVI negative slopes do not make sense (thanks God!).

Reference: CFAI Curriculum 2016 Book 1, Reading 21 “Evaluating Quality of financial Reports”, page 313, footnote 8.

Glad to further discuss this!

u have very detailed understanding on the beneish m score!

I am wondering whether the Altman Z score is important at all? since in the schweser note there is only 2 short passages and no formula or examples. Do you think it is important to memorize the 5 factors of the Altman model/?

Thanks:)

[Harrogath]

Hi Timothy1949,

The Altman model is very famous, it even has a trademark tho (ZETA model if I remember well). For the exam scope we are not intended to know each model in detail or remember every variable they have, however to understand how they work and their purposes: credit quality, probabilities of earnings manipulation, probabilities of bankruptcy, etc; and also interpret they results.

Give them the time they deserve, not much more. My advice!

[timothy1949]

@Harrogath

Hi Timothy1949,

The Altman model is very famous, it even has a trademark tho (ZETA model if I remember well). For the exam scope we are not intended to know each model in detail or remember every variable they have, however to understand how they work and their purposes: credit quality, probabilities of earnings manipulation, probabilities of bankruptcy, etc; and also interpret they results.

Give them the time they deserve, not much more. My advice!

Thanks Harrogath for your advice!!