We examine the role of earnings management by issuers prior to making initial public offerings (IPOs). Our results indicate that pre-IPO abnormal accruals are positively related to initial firm value. Entrepreneurs may seek to increase their offering proceeds, temporarily deceiving investors by opportunistically manipulating earnings through accruals management before going public. This would imply a negative relationship between abnormal accruals around the offer date and subsequent firm performance. Confirming earlier studies, we find that abnormal accruals during the offer year are significantly negatively related to subsequent firm stock returns. In addition, we find that abnormal accruals in the preceding year are also significantly negatively related to subsequent performance. Moreover, this result persists even for returns that are risk-adjusted using the multifactor CAPM of Eckbo, Masulis, and Norli (2000). Thus, it appears that aggressive pre-IPO earnings management both increases IPO proceeds and decreases subsequent returns to investors.
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