Estimation Sample Selection for Discretionary Accruals Models

We examine how the criteria for choosing estimation samples (peer firms) affect the ability to detect discretionary accruals, using several variants of the Jones (1991) model. Researchers commonly estimate accruals models in cross-section, and define the estimation sample as all firms in the same industry. We examine whether firm size performs at least as well as industry membership as the criterion for selecting estimation samples. For U.S. data, we find that estimation samples based on similarity in lagged assets perform at least as well as estimation samples based on industry membership at detecting discretionary accruals, both in simulations with seeded accruals between 2% and 100% of total assets and in tests examining restatement data. For non-U.S. data, we show that industry-based estimation samples result in significant sample attrition and that estimation samples based on lagged assets perform at least as well as estimation samples based on industry membership, with substantially less sample attrition.