The Spillover Effect of Bright-Line Tests: Evidence from China

19 Pages Posted: 1 Nov 2015

See all articles by Yunling Song

Yunling Song

Zhejiang University

Ling Zhou

University of New Mexico

Date Written: October 30, 2015

Abstract

China’s Shenzhen Stock Exchange used to require firms listed on its ChiNext Board and Main Board to forecast earnings when they expected a loss, a profit after a prior loss, or an earnings increase or decrease by at least 50%. Starting from fiscal year 2011, all firms on the ChiNext Board are required to provide earnings forecasts regardless of expected earnings, and hence are no longer subject to these bright-line tests. Firms on the Main Board, however, continue to follow the original mandate with bright-line tests. We find that after the removal of the bright-line tests, ChiNext firms’ earnings change distribution still shows a discontinuity at the -50% threshold, with unusually low (high) frequencies of earnings changes just below (above) -50%, consistent with ChiNext firms manipulating earning to avoid the -50% earnings change threshold. Moreover, the magnitude of the discontinuity is similar to that of Main firms. This finding suggests that bright-line tests have spillover effect on firms not currently subject to these tests.

Suggested Citation

Song, Yunling and Zhou, Ling, The Spillover Effect of Bright-Line Tests: Evidence from China (October 30, 2015). Available at SSRN: https://ssrn.com/abstract=2684190 or http://dx.doi.org/10.2139/ssrn.2684190

Yunling Song

Zhejiang University ( email )

38 Zheda Road
Hangzhou, Zhejiang 310058
China

Ling Zhou (Contact Author)

University of New Mexico ( email )

107 Humanitites Building
Albuquerque, NM 87131-1221
United States
(505)277-0335 (Phone)

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