Advances in Accounting Behavioral Research

Are Investors Influenced by Accounting Presentation Format and Announcement

Prominence of Special Items?
Lei Dong, Bernard Wong-On-Wing, Gladie Lui,
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 ARE INVESTORS INFLUENCED BY
ACCOUNTING PRESENTATION
FORMAT AND ANNOUNCEMENT
PROMINENCE OF SPECIAL ITEMS?
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Lei Dong, Bernard Wong-On-Wing and Gladie Lui

ABSTRACT

Purpose Management has considerable discretion over how to present

and announce earnings components that are either unusual or infrequent,
but not both (hereafter referred to as special items). In this study, we
study the independent and joint effects of the accounting presentation
format of, and the level of announcement prominence given to income-
decreasing special items on investors’ judgments about the persistence of
declining earnings.
Methodology/approach Our study uses a 3 (format) × 2 (promi-
nence) between-subjects design. In the experiment, participants act as
proxies for nonprofessional investors to assess the persistence of a
hypothetical firm’s declining earnings and make investment decisions.

Advances in Accounting Behavioral Research, Volume 19, 69 95

Copyright r 2016 by Emerald Group Publishing Limited
All rights of reproduction in any form reserved
ISSN: 1475-1488/doi:10.1108/S1475-148820160000019003
69
 70 LEI DONG ET AL.

Findings Our results suggest that investors’ judgments are influenced

by accounting presentation format and the level of announcement promi-
nence. With respect to format, both classification and disaggregation
affect investors’ assessment of earnings persistence. In addition, the
degree of prominence given to an income-decreasing special item, albeit
self-serving and not audited, introduces additional influence beyond that
of accounting presentation format. In particular, we find that announce-
ment prominence has a greater effect when the special item is aggregated
with other operating expenses than when the special item is presented
under the two other alternatives.
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Research implications Our study contributes to the literature by

demonstrating that presentation format and announcement prominence
both have significant impact on investors’ judgments and decisions, and
that their effects are interactive. Our results also indicate that future
research can possibly gain better insight if it considers the accounting
attributes of the special items in addition to their economic attributes.
Keywords: Special items; accounting classification; disaggregation;
announcement prominence; investors’ reactions

INTRODUCTION
Recent accounting literature has documented a surge in the frequency and
magnitude of special items that have been reported in recent years (e.g.,
Donelson, Jennings, & McInnis, 2011; Elliott & Hanna, 1996). According
to Riedl and Srinivasan (2010), firms reporting special items have risen
from less than 20% in 1978 to about 55% in 2002, and the reported value
of special items as a proportion of total assets has, on average, increased
from less than 5% to more than 10% during the same period. More
recently, a survey of 500 large public companies documented that 248 of
them reported a write-down of assets and 242 reported restructuring
charges (Accounting Trends and Techniques AICPA, 2010).
The growing number of companies reporting special items has sparked a
great amount of research interest in this area. For example, studies have
focused on the causes for the rising number and magnitude of special items
(e.g., Donelson et al., 2011; Fan, Barua, Cready, & Thomas, 2010; Kolev,
Marquardt, & McVay, 2008; McVay, 2006) and the economic attributes of
 Accounting Presentation Format and Announcement Prominence 71

these unusual or infrequent items (e.g., Cready, Lopez, & Sisneros, 2010;
Elliott & Shaw, 1988). In this study, we examine whether and how investors
are affected by management’s presentation and announcement choices with
respect to special items. This is important because the current standards
allow management great discretion over the accounting for special items
(Elliott & Shaw, 1988; Francis, Hanna, & Vincent, 1996),1 thereby, provid-
ing management with opportunities to inform or bias investors’ judgments
regarding the persistence of current earnings and future profit prospect.
Prior research (e.g., Riedl & Srinivasan, 2010) indicates that some com-
panies report special items as a disaggregated line item in the income state-
ment under either the title “unusual or infrequent items” or “operating
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expenses.” Others aggregate the special item either as an addition (for

income-decreasing items) or as an offset (for income-increasing items) to
operating expenses. Although FASB ASC Paragraph 225-20-45-162 speci-
fies that a material event or transaction that is unusual in nature or occurs
infrequently, but not both, should be reported as a separate component
of income from continuing operations (using either a separate line on the
income statement or note disclosure), considerable latitude is still afforded
to managers in deciding the timing, magnitude, and especially the reporting
characteristics of special items (Elliott & Hanna, 1996).3 In this study, we
specifically examine two presentation format characteristics: classification
(core earnings vs. non-core earnings component) and disaggregation level
(aggregated vs. disaggregated).
In addition, given that managers have even greater discretion in deter-
mining how to announce their operation outcome than they have in decid-
ing upon accounting alternatives, we also examine whether and to what
extent the prominence managers give to special items in an earnings
announcement can affect investors’ judgments and decisions. This is parti-
cularly important given that managers have the incentive to emphasize
(deemphasize) earnings metrics that exclude income-decreasing (include
income-increasing) special items and to present the operation performance
in a more favorable light. Our interest in managers’ strategic announcement
of special items is motivated by the emerging interest in managers’ increas-
ing use of selective language in press releases as documented in recent
research (e.g., Davis, Piger, & Sedor, 2012; Davis & Tama-Sweet, 2012).
To examine the independent and joint effects of accounting presentation
format and the level of prominence given to special items on investors’
judgments and decisions, we conduct an experimental study for three
reasons. First, our constructs of interest, such as perceived earnings persis-
tence, are not available from existing archival databases and direct
 72 LEI DONG ET AL.

measures of those constructs can be obtained only through a survey or an

experiment. Second, “special items” defined in available databases (e.g.,
Compustat) may include items explicitly excluded from special items
defined in GAAP, such as results of discontinued operations, nature disas-
ter losses, and so forth (Burgstahler, Jiambalvo, & Shevlin, 2002). Third,
those archival databases do not distinguish between income statement pre-
sentation and footnote presentation (i.e., whether it is disaggregated on the
face of the income statement or aggregated with other line items with its
nature disclosed in a footnote); nor do they recognize different accounting
classifications of a special item (whether it is part of core earnings).
In our experiment, participants act as proxies for investors to assess a
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hypothetical firm’s earnings persistence and make investment decisions.

The experiment employs a 3 (presentation format) × 2 (announcement pro-
minence) between-subjects design. The experimental task simulates an
actual release of earnings news, in which our participants receive the
announced earnings varied in accounting presentation format of a special
item and whether the earnings announcement emphasizes the earnings
adjusted for the special item or not. The income statement provided in the
announced earnings news contains a special item presented in one of the
three formats (Aggregated-Core-Earnings, Disaggregated-Core-Earnings,
and Disaggregated-Non-Core-Earnings). To manipulate the announcement
prominence, the company provides an earnings announcement that varies
in whether management’s emphasis on earnings before nonrecurring item is
present or absent.4 We choose a setting in which the special item is income-
decreasing with the earnings excluding special item exceeding the bottom-
line earnings to be consistent with firms reporting more negative special
items than positive ones (Fairfield, Kitching, & Tang, 2009; Riedl &
Srinivasan, 2010) and to test a setting in which the influence of manage-
ment voluntary disclosure is uncertain.5
Drawing on attribute substitution theory (Kahneman & Frederick,
2002), we hypothesize and find that investors evaluate the declining earn-
ings as less persistent when the special item is classified under “Unusual
or Infrequent Items” than when the special item is presented under
“Operating Expenses.” In addition, when presented within the operating
expenses category, investors evaluate the declining earnings as less persis-
tent if the special item is disaggregated as a separate line item than if it is
aggregated with other operating expenses. With respect to the interactive
effect between format and announcement prominence, we find that inves-
tors’ judgments on earnings persistence are affected to a greater extent
by announcement prominence on the income-reducing special item when
 Accounting Presentation Format and Announcement Prominence 73

the special item is aggregated with other operating expenses than when it
is not.
This study makes several contributions. First, whether the way in
which we report transactions makes a difference is a question of consider-
able interest to standard setters, practicing professionals, and academic
researchers in accounting (Hopkins, 1996). Bonner (2007) notes that
research findings in this area are mixed nearly half of the studies find no
effects of presentation format. This study provides additional evidence
regarding whether investors are influenced by accounting information
presentation characteristics.6
Second, we examine two dimensions of accounting presentation format,
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namely, classification and disaggregation in one study. Our research design

enables us to disentangle the effect of category classification and informa-
tion disaggregation and to test the independent and interactive impact of
the two different dimensions of accounting reporting format. Additionally,
in the current study, the effect of various accounting choices for special
items is examined while holding constant the bottom line number. This is
important because researchers have raised concern regarding prior findings
on the effect of accounting attributes that are possibly confounded with
their resultant key accounting numbers (Bonner, 2007).
Third, our findings regarding the main effect and moderating role of
announcement prominence add to the growing research literature on the
language used by management in earnings announcements (Davis et al.,
2012; Davis & Tama-Sweet, 2012) and the literature concerning soft-talk or
cheap talk engaged in by management (Barton & Mercer, 2005; Davis
et al., 2012; Hutton, Miller, & Skinner, 2003). Our evidence suggests that
the earnings benchmark mentioned in the narrative of earnings announce-
ment, albeit self-serving, affects investors’ perceptions of earnings persis-
tence and future prospect of the company. Therefore, regulators could
consider increasing their oversight over how managers announce their earn-
ings that involve special items. Such increased scrutiny could reduce
managers’ opportunistic presentation of special items and increase the com-
parability/consistency and the informativeness of the thousands of news
announcements that are released each year.
Fourth, our findings should be of interest to standard setters such as
the Financial Accounting Standards Board (FASB) or International
Accounting Standards Board (IASB) as they continue to contemplate issues
related to financial statement presentation attributes, including issues per-
taining to the level of disaggregation. Our study varying whether the special
item is disaggregated or aggregated can add to the growing interest in unit
 74 LEI DONG ET AL.

of account issues in accounting given that neither the FASB nor the IASB
has a clearly defined set of principles within their conceptual framework for
deciding these issues (Hales, Venkataraman, & Wilks, 2012). Although
both boards are working on a joint project on financial statement presenta-
tion, which would require additional disaggregation of information
throughout the financial statements based on the function, nature, and
measurement basis of these items (FASB, 2010a, p. 11), practitioners have
raised questions and concerns regarding implementation. Unlike US
GAAP, IFRS currently does not separate unusual or infrequent (special)
items from operating expenses (FASB, 2010b, p. 2). Evidence of distinctive
reactions from investors should be of interest to both United States and
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international standard setters in their effort toward converging accounting

standards for special items. Also, given that disaggregation, classification,
and announcement prominence of special items play a significant role in
investment decision-making, standard setters may consider providing
detailed guidance for companies who report and announce special items.
The section “Literature Review and Hypothesis Development” reviews
relevant literature and develops our predictions. The section “Method”
describes the experiment. The section “Results” presents the main results.
The study concludes with a summary and a discussion of the results in the
section “Conclusion and Discussion.”

LITERATURE REVIEW AND HYPOTHESIS

DEVELOPMENT
Research on Special Items

The number of firms reporting special items has increased tremendously

over time (Cain, Kolev, & McVay, 2012; Donelson et al., 2011; Elliott &
Hanna, 1996). Fairfield et al. (2009) find that approximately 45% (15%) of
firms in Compustat reported income-decreasing (income-increasing) special
items by 2003.7 Current literature provides mixed evidence with regard to
the cause of the rising occurrence of special items. In particular, McVay
(2006) provides evidence consistent with managers shifting core expense to
special items to boost current core earnings, namely classification shifting.
Similarly, Fan et al. (2010), using quarterly data, support McVay’s (2006)
finding of such an opportunistic behavior. Moreover, Kolev et al. (2008)
find that managers adapted to escalated scrutiny over non-GAAP earnings,
 Accounting Presentation Format and Announcement Prominence 75

or “street earnings,” triggered by Regulation G by placing more recurring

expenses into special items. In a more recent study, Cain et al. (2012) test
the quality of special items and find that roughly one-third of total special
items would be better characterized as recurring expenses.
Conversely, some other studies find evidence consistent with the notion
that economic situations play a more important role in the increase of spe-
cial items (Donelson et al., 2011). For example, Riedl and Srinivasan
(2010) posit that managers’ reporting behaviors related to special items are
consistent with information motivation versus opportunistic motivation.
Still other studies find that both factors are at work depending on the
nature of the special items (e.g., Francis et al., 1996).
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To shed light on the consequences of reporting special items, previous

research has provided evidence largely using stock price and/or stock return
as proxy for market reactions. For example, Elliott and Shaw (1988) report
significantly negative one- and two-day industry-adjusted share returns
when material write-offs are disclosed. In a further study, Elliott and
Hanna (1996) document a significant decline in the weight given to
repeated accounting write-offs. Again, Burgstahler et al. (2002) find that
special items are different in nature given that positive special items are
largely transitory, whereas negative special item are better characterized as
inter-period transfers. To date, however, little research has focused on the
influence of accounting attributes of special items on investor judgments.
This is particularly important since firms have great flexibility both in enga-
ging in transactions leading to special item reporting (e.g., restructuring,
inventory write-down) and in accounting for outcomes of these transac-
tions. The lack of research on the accounting attributes of special items is
somewhat surprising. In addition, because the existing accounting stan-
dards on special items are considered principles-oriented (having no
detailed rules specifies the definition of “unusual” or “infrequent,” see
Donelson, McInnis, & Mergenthaler, 2012),8 it is important to advance our
understanding on whether accounting attributes of special items can make
a difference in investors’ judgments and decisions.
Our current study attempts to provide evidence regarding whether and
how investors react to different accounting reporting formats and
announcement characteristics of special items. We compare three account-
ing presentations of special items: as a separate line item under “unusual or
infrequent items” (Disaggregated-Non-Core-Earnings condition), disaggre-
gated under operating expenses (Disaggregated-Core-Earnings condition),
and aggregated under “operating expenses” with nonrecurring nature dis-
closed in a footnote (Aggregated-Core-Earnings condition). The difference
 76 LEI DONG ET AL.

between Disaggregated-Non-Core-Earnings versus Disaggregated-Core-

Earnings suggests a classification effect, while the difference between
Disaggregated-Core-Earnings and Aggregated-Core-Earnings condition
suggests an effect of disaggregation (see Fig. 1 for a graphic illustration).
Below we develop the related hypotheses.

Effect of Accounting Classification

Prior accounting research provides evidence suggesting that users of finan-

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cial statements are influenced by how accounting numbers are classified

within a financial statement after controlling for the underlying economics
(Hopkins, 1996). Changing classification within the financial statements
can have an impact on how users perceive and/or process the information.
Hopkins (1996) argues that the effect of accounting classification can be
derived from both people’s reliance on similar or related situations in
making judgments and the influence of text structure on how people inter-
pret information. Consistent with that argument, he finds that analysts’
stock price judgments are affected by the classification of mandatorily
redeemable preferred stock on the balance sheet as debt, equity, or in
the mezzanine.
Closely related to accounting classification, several studies examine the
effects of placement of financial information. For example, Hirst and
Hopkins (1998) report that analysts’ stock price judgments for a firm that
manages earnings through the sale of marketable securities will be reduced
to the same level as those for an identical firm without earnings manage-
ment only if the comprehensive income component is clearly displayed in
an income statement. In the same vein, Maines and McDaniel (2000) docu-
ment that their student subjects make different stock risk and management
effectiveness judgments because they weight information differently when it

Fig. 1. Two Accounting Characteristics Tested in the Experiment.

 Accounting Presentation Format and Announcement Prominence 77

is presented in the statement of stockholders’ equity versus when it is dis-

closed in a separate income statement.
Given that the future persistence of a special item is uncertain and
unpredictable from an outsider’s point of view, investors may look for
signals or cues that management provides, such as how the special item is
classified.9 Riedl and Srinivasan (2010) argue that special items have been
shown to have different properties relative to other components of income,
and their differential presentation in the financial statements may assist
users in understanding their properties. This premise is consistent with
the psychology literature on attribute substitution theory (Kahneman &
Frederick, 2002), which suggests that when people find it difficult to evalu-
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ate an item, they will refer to the attribute of items that are associated with
the difficult-to-assess items. We argue that in an income statement, section
titles such as “operating expenses” or “unusual or infrequent items” pro-
vide a more accessible attribute for persistence than ambiguous individual
items. Reasonable individual investors are presumably aware that items
presented under the operating expenses category are usually more persis-
tent than those presented under the category of unusual or infrequent
items. Operating expenses are considered as core-earnings components
while unusual or infrequent items are not. Therefore, even for the
same underlying economic transaction, a special item classified under oper-
ating expenses will be perceived as more persistent as compared with the
identical item that is classified as unusual or infrequent items. Accordingly,
we predict:
H1. Investors will evaluate declining earnings as less persistent when an
income-reducing special item is classified as a non-core earnings compo-
nent under “Unusual or Infrequent Items” than when it is classified as a
core earnings component under “Operating Expenses.”

Effect of Accounting Disaggregation10

Next, we test the effect of disaggregation on investors’ earnings persis-

tence judgments. Currently, accounting principles promulgated by either
FASB or IASB do not include authoritative guidance on the required
level of disaggregation for information presented in the primary financial
statements (Bloomfield, Hodge, Hopkins, & Rennekamp, 2015; Hales
et al., 2012; Hirst & Hopkins, 1998). Consequently, except for some
cases in which reporting standards are specific about when and how to
 78 LEI DONG ET AL.

disaggregate (for instance, goodwill impairment, convertible bonds with a

cash-settlement feature), companies enjoy considerable flexibility in decid-
ing which accounts are aggregated or disaggregated in financial state-
ments. Importantly, interest in the policy-making implications of
reporting disaggregation is growing because the FASB and IASB are
currently working on a joint presentation project proposing a possible
framework for information disaggregation (FASB, 2010a; IASB, 2009).
Research indicates that disaggregation is an important dimension that
affects how investors perceive information (Maines & McDaniel, 2000).
In a recent study, Hales et al. (2012) focus on the level at which an
account is aggregated or disaggregated. Their findings indicate that disag-
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gregating the capitalized optional renewal periods from the fixed-term

lease obligation reduces the negative effects caused by capitalizing
optional renewal periods on the face of the financial statements. In parti-
cular, they find that their lender participants were more willing to lend to
a firm that capitalizes renewal periods in a lease when the reporting firm
disaggregates the lease liability into fixed and optional components,
compared to a firm that aggregates the two components. These findings
suggest that the effect of disaggregation is a result of increased salience
of an account when it is separated compared to when it is aggregated
with other accounts.
Drawing on the framework built in Maines and McDaniel (2000),11
Hales et al. (2012) argue that the effect of disaggregation likely works via
placement, labeling, and whether an account is separated or aggregated
with other accounts. In particular, when managers aggregate special items
with other operating expenses but disclose the distinctive nature of the
transaction in the footnote, prior research on presentation format effects
suggests that users will not sufficiently adjust the different implications of
special items from other operating expenses according to the footnote
disclosure as they do when it is presented separately. In general, early
accounting research on financial statement presentation shows that
footnote disclosure is not an effective substitute for financial statement
recognition, even controlling for the information presented to the subjects
(Anandarajan, Belzile, Curatola, & Viger, 2008; Harper, Mister, &
Stawser, 1987, 1991; Hirst & Hopkins, 1998; Hirst, Hopkins, & Wahlen,
2004). In addition, separately labeling the special item account will create
an apparent difference between companies that are economically equiva-
lent. Those who make a distinction between the special item and other
operation expenses on the face of an income statement will look more
favorable than those who aggregate the same item into other line items
 Accounting Presentation Format and Announcement Prominence 79

of income statement, even if the identification is disclosed in a footnote.

Last, from early experience dealing with financial statements, users of
financial statements likely recognize that accounts on financial statements
are aggregated by function and nature. Accounts disaggregated in finan-
cial statements likely convey different implications for assessing the
amount, timing, and uncertainty of an entity’s future cash flow. To the
extent that users pay attention to the disaggregation by function and nat-
ure in their early investment experience, they will continue making the
generalization to the current setting. Therefore, the seemingly insignificant
difference in the level of disaggregation when a company reports special
items will likely affect investors’ perceptions of earnings persistence, with
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lower persistence attached to the special items that are reported sepa-
rately. Thus, our second hypothesis is:
H2. Investors will evaluate declining earnings as less persistent when an
income-reducing special item is reported as a separate line item than
when it is aggregated with other operating expenses, controlling for
reporting classification.

Effect of Announcement Prominence on Favorable Earnings Metrics

Research shows that the information content of earnings press releases has
increased with the inclusion of other concurrent disclosure in earnings
announcements, particularly with the provision of detailed income state-
ments (Francis, Schipper, & Vincent, 2002). In the context of announcing
earnings that include special items, we observe different types of disclosure.
For example, some firms provide a press release with a headline highlight-
ing earnings excluding special items while others announce the bottom-line
earnings with the special nature of transitory items identified only in the
income statement or in a footnote disclosure. Given that management gen-
erally announces financial performance in comparative terms, announce-
ment prominence (high or low) on favorable earnings metrics provides
opportunities for management to influence market participants’ perceptions
of firm performance. It is especially likely to be the case when the earnings
metrics emphasized by management influences investors’ perceptions of the
firm’s ability to meet critical benchmarks, such as the prior year’s earnings.
Therefore, our next research question focuses on how the prominence
placed by management on some earnings metrics when making its earnings
announcement affects investors’ judgments.
 80 LEI DONG ET AL.

Research provides evidence consistent with management engaging in

strategic reporting and disclosure activities. For example, Bowen, Davis,
and Matsumoto (2005) indicate that management emphasizes pro forma
earnings numbers that convey more favorable firm performance.
Similarly, Schrand and Walther (2000) document that management is
more likely to separately announce a prior-period gain from the sale of
assets than a loss, consistent with management opportunistically selecting
the prior-period earnings amount used as a benchmark to evaluate
current-period earnings. Building upon that evidence, Krische (2005) finds
that nonprofessional investors fall prey to such a tactic. Similarly, when
information about stock price trends is constant, investors’ expectation
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on earnings trend is a function of the language used to describe the trend

(Morris, Sheldon, Ames, & Young, 2007). In a recent study, Davis and
Tama-Sweet (2012) document that the use of more optimistic language in
earnings press releases as compared to MD&As positively influences
market response. More relevant to the current study, market reactions
when measured by three-day returns are negatively associated with disclo-
sure prominence of accounting restatements (Files, Swanson, & Tse, 2009).
Based on the above findings of earlier research, we posit that when the
earnings metric excluding income-decreasing special items is highlighted,
investors will not sufficiently adjust for management’s incentive to do so.
Instead they will more likely view the announcement prominence as
management’s expectation about the company’s future performance. We
therefore predict:
H3. Investors will evaluate declining earnings as less persistent when
earnings excluding an income-decreasing special item is highlighted in
management’s earnings announcement than when it is not.

Joint Effect of Presentation Format and Announcement Prominence

As noted earlier, when earnings complicated by special items are

announced with different prominence, management’s choice regarding how
to announce the earnings does not necessarily match the way in which
managers account for the transit items. For example, in some cases, man-
agers announce the earnings excluding a special item as if it is transitory
(nonrecurring/low-value implication), whereas they recognize the special
item under operating expense (recurring/high-value implication). Stated
 Accounting Presentation Format and Announcement Prominence 81

differently, companies compare earnings excluding special items with earn-

ings of last period despite classifying the special items under the operating
expenses category. Such a situation presents an interesting context where
earnings outcome is interpreted in a way that contradicts with what is
implied according to the presentation format. Given that more companies
choose to mention earnings excluding special items in an earnings
announcement, the question remains open regarding whether manage-
ment’s announcement emphasis on earnings excluding special items in an
earnings release moderates the effect of accounting presentation format of
special items. Prior studies are silent on this issue because accounting pre-
sentation formats are either not controlled or varied across conditions.
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Furthermore, we know little about whether the prominence management

places on favorable earnings metric could strengthen or override the
accounting presentation of a special item.
We argue that to the extent that investors are influenced by the promi-
nence management puts on earnings adjusted by special items as pre-
dicted in H3, the effect of announcement prominence will not be the
same across all presentation format conditions. In particular, the extent
to which announcement prominence shapes investors’ interpretation of
special items will differ depending on how the special item is presented in
an income statement. When the special item is classified as unusual or
infrequent items or is disaggregated, the perceived earnings persistence is
relatively low, providing little opportunity for announcement prominence
on earnings excluding special items to influence their earnings persistence
assessment. In other words, investors already believe strongly that the
special item will not persist, and thus, the prominence put on earnings
excluding the special item is less likely to further strengthen their beliefs.
Conversely, when the special item is embedded with other operating
expenses, investors’ assessment of earnings persistence is likely to be rela-
tively high, providing ample opportunity for announcement prominence
on earnings excluding special items to influence their investment judg-
ments. Therefore, we predict that the effect of announcement prominence
is greater when the special item is aggregated with other operating
expenses than when it is presented otherwise.
H4. Investors’ judgments on earnings persistence will be affected to a
greater extent by announcement prominence on earnings excluding the
special item when the special item is aggregated with other operating
expenses than when it is presented otherwise.
 82 LEI DONG ET AL.

METHOD
Participants

Participants were 120 industry managers (75 males) who were enrolled in a
business diploma program at a major university in Hong Kong. Nearly
half of the participants (49%) were at least 31 years old. They were
employed in a wide range of industries. The mean work experience was
about 11 years, of which roughly six years are at management levels. On
average, the participants had completed 12 accounting courses and eight
finance courses, both including certification (CFA, or CPA, etc.) exam pre-
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paration courses. Moreover, 103 participants (86%) have experience in

buying and selling company stock with an average of 4.5 years of experi-
ence in investing individual stocks and 3.6 years of experience in mutual
funds. Of the 120 participants, 118 of them (98%) have previous experience
in analyzing financial statements and 76 participants (63%) indicate that
their current job positions require regular reading of financial statements.
Therefore, it appears that participants in this study were a reasonable
proxy for our target group: nonprofessional investors. None of the demo-
graphic measures differ by experimental conditions, suggesting that our
random assignment of subjects to experimental conditions was successful.

Experimental Design and Procedures

To test our hypotheses, a 3 (presentation format) × 2 (announcement promi-

nence) between-subjects design was employed. The presentation format of
the special charge in the income statement was manipulated at three levels:
Disaggregated-Non-Core-Earnings condition, Disaggregated-Core-Earnings
condition, or Aggregated-Core-Earnings condition, while announcement
prominence was manipulated at two levels: High Prominence (when man-
agement emphasis is present) versus Low Prominence (when management
emphasis is absent).
The experiment was administered via a paper-pencil based instrument
consisting of four parts. First, participants started the task by receiving
information about the general purpose of the study and the importance of
their participation. We asked participants to evaluate a company for invest-
ment purposes. The second part of the instrument contained background
information, including a brief description of the company, industry infor-
mation, and condensed financial statements for the past 3 years. The third
 Accounting Presentation Format and Announcement Prominence 83

part of the instrument presented a press release that reports the company’s
annual operation results depicted in an income statement. Simulating a real
press release, the release comprises a title, a management narrative disclo-
sure of the current performance, and an earnings statement in a two-year
comparative form. Last, based on the above-cited information, participants
were asked to rate the dependent measure described in the next section.
After completing the dependent measure, participants answered manipula-
tion check questions and provided demographic data.
The company’s earnings excluding the special item are controlled at a
level higher than that of the prior year, but the bottom line number (earn-
ings including the special item) is lower compared with the prior period
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earnings. We made such a design choice so that the perceived persistence of

the special item can make a difference in the appearance of the earnings
trend, a setting in which announcement prominence is more relevant.
In all conditions, participants received the same amount of footnotes
disclosure, which included information about the incremental influence
that the involved special item has on earnings. More specifically, Note 3
states that
During the year, we removed certain long-lived assets from service.
Assets held for disposal must be adjusted to their estimated fair values less
costs to sell when the decision is made to dispose of the asset and certain
other criteria are met. In 2012, we incurred a loss of around $57 million
related to the retirement of these properties, equal to a loss of $0.58 per
diluted share.
This feature of the design ensures that investors in the aggregated condi-
tion also have access to the same information content as do the subjects of
other conditions. With an easy calculation, subjects in all conditions can
obtain the same earnings per share number that excludes the special item.

Independent Variables and Dependent Variables

The special charge was presented using one of the three accounting format
alternatives: as a separate line item under “Unusual or infrequent items”
(Disaggregated-Non-Core condition), disaggregated under “Operating
expenses” (Disaggregated-Core condition), or aggregated under “Operating
expenses” with nonrecurring nature disclosed in footnote (Aggregated-Core
condition). The difference between the first two conditions tests the
accounting classification effect while the last two alternatives provide a test
for the disaggregation effect.
 84 LEI DONG ET AL.

To manipulate prominence, the title and the narrative disclosure of the

press release differed depending on the assigned condition. One-half of the
participants were provided with a title and a discussion highlighting earn-
ings excluding the special charge (high prominence), while the other half
were provided with a plain title and a narrative description of the bottom-
line earnings as reflected in the income statement (low prominence).
Our primary dependent variable of interest is investors’ judgments on
earnings persistence.12 To measure earnings persistence, participants were
asked to rate on a 9-point scale the extent to which they believed the
current announced bottom-line number ($1.32 per share) would persist for
the next fiscal year. The endpoints of the scale were labeled “not likely to
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persist” for 1 and “very likely to persist” for 9. Other exploratory measures
were also collected.13

RESULTS
Manipulation Checks and Control Variables

With respect to the manipulation of accounting presentation, we asked par-

ticipants two multiple-choice questions requiring them to identify the classi-
fication and disaggregation of the special charge in the income statement.
All of the participants have successfully identified the presentation format
assigned to them. We attribute this success to the effort our subjects
devoted to the task because their self-reported cognitive effort is generally
high (mean = 7.21 on a nine-point scale, SD = 1.19). Also, their cognitive
effort does not vary significantly across the six experimental conditions
(p-values range from 0.286 to 0.463).
To verify that participants perceived the manipulation of announcement
prominence as intended, they were asked to indicate the extent to which
they agreed that the managers of the company have emphasized the diluted
EPS excluding the special impairment charge. The responses were recorded
on a nine-point Likert scale labeled 1 (strongly disagree) to 9 (strongly
agree). Participants receiving the High Prominence condition indicated
more strongly that the favorable earnings number was emphasized
(mean = 5.40, SD = 1.45) than participants in the Low Prominence condi-
tion (mean = 2.92, SD = 1.79). The difference was significant (p < 0.001).
Taken together, the overall results of our checks suggest that our manipula-
tions were effective. The average response to the realism of the case
 Accounting Presentation Format and Announcement Prominence 85

materials is 6.97 on a nine-point scale (SD = 0.91, > 5 with p < 0.001),
suggesting reasonable task realism perceived by our participants.

Hypotheses Testing

H1 predicts that investors will evaluate the declining earnings as less persis-
tent when an income-reducing special item is classified as a non-core earn-
ings component under “Unusual or Infrequent Items” than when it is
classified as a core earnings component under “Operating Expenses.” We
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analyze the earnings persistence judgments using an analysis of variance

(ANOVA) model with presentation format and announcement prominence
as independent variables.14
Descriptive statistics of participants’ judgments on earnings persistence
are provided in Panel A, Table 1. As Panel B of Table 1 shows, the main
effect of presentation format is statistically significant (F = 32.040, p <
0.001). Planned comparisons in Panel C of Table 1 reveal that the average
of earnings persistence judgments is lower for the disaggregated-non-core
than for disaggregated-core condition (mean difference = 2.22, p < 0.001
two-tailed), supporting H1. Therefore, participants appear to draw the
inferences about earnings persistence based on the classification of the
special item. That is, consistent with the theory of attribute substitution,
individual investors appear to distinguish between the companies who
classify the same special item differently while holding others constant.
Recall that we argue that investors’ earnings persistence judgments hinge
on their persistence judgments on the category under which the special item
is classified. In the post-experimental questions, we ask participants to
indicate how they perceive the persistence of the special item relative to
operating expenses and extraordinary items on a scale from 1 (very much
like operating expenses) to 9 (very much like extraordinary items). The
responses across the two classification conditions (disaggregated-non-core
vs. disaggregated-core) are statistically different (mean = 6.23, SD = 2.3
for disaggregated-non-core, mean = 4.45, SD = 1.0 for disaggregated-
core, mean difference = 1.78, t = 4.52, p < 0.001). This measure is also
correlated with investors’ judgments on earnings persistence judgments
(r = 0.178, p = 0.057, one-tailed). Thus, our findings provide supporting
evidence suggesting that attribute substitution theory explains why
accounting classification impacts investors.
Hypothesis 2 predicts that the earnings number is viewed as less persis-
tent when the special item is disaggregated from other line items of the
 86 LEI DONG ET AL.

Table 1. Earnings Persistence Judgments across Presentation Format and

Announcement Prominence.
Panel A: Cell Mean (SD) [Sample Size] for Earnings Persistence Judgments

Aggregated- Disaggregated- Disaggregated- Row Means

Core Core Non-Core

Low 7.70 (0.66) [20] 6.30 (0.98) [20] 4.20 (2.74) [20] 6.07 (2.23) [60]
prominence
High 6.80 (1.01) [20] 6.30 (0.98) [20] 3.95 (3.00) [20] 5.68 (2.26) [60]
prominence
Column means 7.25 (0.95) [40] 6.30 (0.98) [40] 4.08 (2.84) [40]
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Panel B: Two-Way ANOVA Results

Source Sum of Square df F Two-Tailed p-Value

Constant 4141.875 1 1249.302 <0.001

Format 212.450 2 32.040 <0.001
Prominence 4.408 1 1.330 0.251
Format*Prominence 4.317 2 0.651 0.523
Error 377.950 114
Total 4741.000 120

Panel C: Planned Comparisons of Earnings Persistence Judgments

Mean t-Statistic p-Value

Difference (Two-Tailed)

H1
Disaggregated-non-core versus 2.22 5.47 <0.001
Disaggregated-core
H2
Disaggregated-core versus Aggregated-core 0.95 2.34 0.021

Panel D: Main Effect of Announcement Prominence

Mean Difference t-Statistic p-Value (Two-Tailed)

H3
Prominence is high versus low 0.39 0.81 0.251

R-squared = .369 (adjusted R-squared = .341).

Notes: Participants were asked to answer to what extent they believed the current announced
bottom-line number would persist for the next fiscal year. Perceived earnings persistence is
recorded on a nine-point scale. Higher numbers represent greater perceived earnings
persistence.
 Accounting Presentation Format and Announcement Prominence 87

operating expenses than when it is aggregated with other operating

expenses. H2 is supported if when controlling for accounting classification,
participants’ mean earnings persistence judgment is lower when they
observe the special item separately displayed than when the special item is
aggregated with other operating expenses. Panel C of Table 1 presents the
primary test for H2. The mean difference in persistence judgments between
disaggregated-core versus aggregated-core is 0.95 with p = 0.021. This
result is consistent with H2. Individual investors seem to use disaggregation
as a cue to distinguish between the special item and other operating
expenses for judging earnings persistence when they are both classified as
core expenses.
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We provide some evidence consistent with the theoretical model pro-

posed by Maines and McDaniel (2000) by comparing the responses to the
relative persistence judgments across two disaggregation conditions while
controlling for accounting classification (disaggregated-core vs. aggregated-
core). We find that the investors’ responses differ across the two conditions
(mean difference = 0.95, t = 4.43, p < 0.001). We also test the correlation
between our dependent variable and the investors’ persistence judgments of
the special item relative to operating expenses and extraordinary items. In
support of our conjecture that investors are affected by the different
account placements and labels resulting from disaggregation, the two mea-
sures are highly correlated (r = 0.225, p = 0.023, one-tailed).
H3 predicts a main effect of announcement prominence with perceived
earnings persistence being low when management emphasizes earnings
excluding the special item. As provided in Panel B of Table 1, the overall
ANOVA test indicates that the main effect of announcement prominence is
not statistically significant (p > 0.05), not supporting H3. An additional
means analysis in Panel D of Table 1 shows that the mean difference
between high prominence versus low prominence is 0.39 (p > 0.05).
H4 forecasts that the effect of announcement prominence will not be
constant across all three accounting format conditions and that a greater
impact will occur in the aggregated-core condition than in the other two.
According to the result in Panel B, Table 1, the interaction between our
two independent variables is not significant with p = 0.523. We neverthe-
less conduct a series of planned contrasts in which the effect of announce-
ment prominence is tested under each accounting presentation format
condition. The contrast test results as displayed in Table 2 suggest that
management’s announcement prominence on the favorable earnings metric
does not reduce investors’ perceptions of earnings persistence in a similar
manner across all reporting conditions. Specifically, management’s
 88 LEI DONG ET AL.

Table 2. Planned Comparisons of Announcement Prominence for Each

Presentation Format Condition.
High Prominence versus Low Prominence

Mean Difference F p-Value (One-Tailed)

Disaggregated-non-core 0.25 0.189 0.333

Disaggregated-core 0 0 1.000
Aggregated-core 0.9 2.443 0.06

Notes: Participants were asked to answer to what extent they believed the current announced
bottom-line number would persist for the next fiscal year. Perceived earnings persistence is
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recorded on a nine-point scale. Higher numbers represent greater perceived earnings

persistence.

announcement prominence on earnings excluding the income-decreasing

special item has a marginally significant impact on judgments of earnings
persistence among investors who are provided with the special item aggre-
gated with other core expenses (mean difference = 0.9, p = 0.06, one-
tailed) while it does not affect those who observe the special item presented
alternatively (mean difference = 0.25, p = 0.333, one-tailed, for disaggre-
gated-non-core and no difference for disaggregated-core). These results
provide partial support for H4.
Our findings suggest that managers have great opportunities to influence
investors when they first reported the special item in an aggregated form.
When special items are separately presented in the income statement, either
through disaggregation or distinctive classification, investors are not
affected by whether managers emphasize the favorable earnings or not in
the new release. This provides some preliminary evidence of the differential
effect of announcement prominence on earnings metrics contingent on pre-
sentation format. Fig. 2 provides a plot of results for the interactive effects
of presentation format and announcement prominence on investors’ earn-
ings persistence assessments.
In summary, investors’ persistence judgments on earnings involving spe-
cial items are consistent with the perceptions implied by the accounting pre-
sentations. In particular, current earnings are perceived to be most
persistent if the special item is aggregated with other operating expenses,
less persistent if the special item is disaggregated, and least persistent when
it is classified as a non-core item in income statement. Moreover, managers’
highlighting of favorable earnings metrics contributes incrementally to
investors’ persistence judgments beyond the effect of presentation format.
 Accounting Presentation Format and Announcement Prominence 89

8.00
7.70
7.50
7.00 6.80
Participants’ ratings of
earnings persistence

6.50
6.30
6.00
5.50
5.00
4.50 Emphasis absence
4.20
4.00 Emphasis presence 3.95
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3.50
3.00

Fig. 2. Interactive Effect of Presentation Format and Announcement Prominence.

Notes: Participants were asked to answer to what extent they believed the current
announced bottom-line number would persist for the next fiscal year. Perceived
earnings persistence is recorded on a nine-point scale. Higher numbers represent
greater perceived earnings persistence.

Specifically, how the special item is presented interacts with managers’ stra-
tegic announcement prominence on earnings before the special item.
Announcement prominence on favorable earnings metrics seems most
effective when the involved special item is presented under the Aggregated-
Core-Earnings condition among the others.

CONCLUSION AND DISCUSSION

The results of our experimental study suggest that in line with attribute
substitution theory, investors evaluate earnings as less persistent when the
special item is classified under “Unusual or Infrequent Items” than if the
special item is presented under “Operating Expenses.” Similarly, when pre-
sented within the operating expenses category, investors evaluate earnings
as less persistent if the special item is disaggregated as a separate line item
 90 LEI DONG ET AL.

than if it is aggregated with other operating expenses. The current study

documents a moderating role of announcement prominence. We find that
investors’ judgments on earnings persistence are affected to a greater extent
by announcement prominence on earnings excluding the special item when
the special item is aggregated with other operating expenses than when it is
presented otherwise.
Our study has limitations and implications for future research.
Participants in the study did not have access to all the information they
might have in a real setting when they make investment decisions. The sim-
plified task may affect our results in that the features associated with pre-
sentation format and prominence may look more salient and therefore
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have a greater impact on investors’ investment decisions than it would in a

real investment setting. However, we believe that although the effects may
weaken in magnitude, the directional inferences of our findings should still
hold. In addition, as we manipulate the special item as related to impair-
ment, future research can investigate special items of a different nature and
other factors that can affect investors’ earnings persistence perceptions.
Moreover, we are not sure whether the results obtained in an income-
decreasing setting will generalize to a setting with income-increasing special
items. Given that highlighting a special item that increases income is con-
sidered incentive inconsistent because earnings excluding the special item
are lower than otherwise, the question remains regarding whether account-
ing classification or disaggregation can similarly affect investors’ reactions
for income-increasing special items as they do for income-decreasing items.
Despite its limitations, our study contributes to accounting research and
practice. First, our study extends and triangulates the current research that
has examined the role of accounting characteristics in investors’ decisions
(Hopkins, 1996). Prior studies in this area have focused on the effect of pre-
sentation formats across financial statements (Hirst & Hopkins, 1998;
Maines & McDaniel, 2000), within a balance sheet (Hopkins, 1996), and in
non-GAAP presentations (Elliott, 2006; Frederickson & Miller, 2004). We
add to the current literature by examining GAAP presentation formats
within an income statement in the context of earnings release. We find that
nonprofessional investors infer the underlying substance of the transaction
from accounting presentation attributes. Additionally, other factors accom-
panying the accounting information affect how investors use identical
information that is reported differently.
Second, our design allows us to investigate the differential and incremen-
tal contribution of classification and disaggregation to investors’ judgments
 Accounting Presentation Format and Announcement Prominence 91

and decisions in one setting. This design also enables us to examine

the different moderating roles of announcement in those two distinct
accounting dimensions. Third, we add to the emerging literature (Davis
et al., 2012; Davis & Tama-Sweet, 2012) on the importance of the language
used in earnings press releases by documenting that the prominence given
to the special item in the narrative of earnings announcement affects inves-
tors’ perceptions of the performance of the disclosed company. Our study
thus responds to the call for more research on the implications of qualita-
tive transformations of quantitative information (Frederickson & Miller,
2004). It appears that qualitative features such as the prominence of favor-
able earnings metrics can potentially function in a way similar to that
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achieved by a quantitatively presented pro forma income statement.

Last, our findings should be of interest to standard setters such as the
FASB and the IASB, as they continue to contemplate issues related to dis-
aggregation and other financial statement presentation characteristics. For
example, unlike US GAAP, IFRS currently does not separate unusual or
infrequent (special) items from other operating expenses. Evidence of
distinctive reactions from investors should assist both United States and
international standard setters with their joint effort for convergence.

NOTES
1. The standards governing special items have been classified as principle-based
according to Donelson, McInnis, and Mergenthaler (2012).
2. The same can be found in APB 30 ¶26 for pre-codification GAAP standards
(Elliott & Hanna, 1996).
3. Riedl and Srinivasan (2010) point out that there are no rigid guidelines
regarding the presentation of special items, except that they must be included in
operating income.
4. Davis et al. (2012) point out that language usage in earnings release varies
substantially across firms, ranging from straight-forward recitations of numbers to
being quite promotional. In this study, announcement prominence is manipulated
in terms of whether managers emphasize earnings excluding the special item.
5. Unfavorable voluntary disclosure is inherently more informative or credible
than its favorable counterpart (Healy & Palepu, 2001).
6. Ahmed, Kilic, and Lobo (2006) point out three situations in which account-
ing matters. They are: (a) if there are costs of processing information (Barth,
Clinch, & Shibano, 2003); (b) systematic biases in how decision makers process
information (Hirshleifer & Teoh, 2003); or (c) when differences in accounting treat-
ment affect perceived reliability or relevance of the items in questions. The current
 92 LEI DONG ET AL.

study focuses on the last two situations as they relate to the reporting of
special items.
7. Articles in the financial media suggest that the frequent reports of special
items obscure the information in reported earnings numbers by complicating the
determination of recurring component of earnings, and thus impair investors’ abil-
ity to evaluate firm performance (e.g., Smith & Lipin, 1996). Dichev and Tang
(2008) document a dramatic decrease over the last 40 years in the contemporaneous
correlation between revenue and expense, along with an associated increase in earn-
ings volatility and a decline in earnings persistence, suggesting a decline in earnings
quality. In a follow-up study, Donelson et al. (2011) document that these changes
are primarily attributable to an increase in the incidence of large special items.
Similarly, Collins, Maydew, and Weiss (1997) claim that the shift in value-relevance
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from earnings to book values can be partially attributed to the increasing frequency
and magnitude of one-time items.
8. Donelson et al. (2012) provide a comprehensive classification of the current
major accounting standards as either principle-based or rule-based.
9. With the rise of behavioral finance, it has been accepted that the format and
the content of disclosures affect retail investors’ investment decisions (Barber &
Odean, 2002; Huberman, 2001; Thaler, 2004). For example, Barberis and Thaler
(2003) highlight how the format, salience, and framing of information affect invest-
ment judgments and decisions of individuals.
10. Some studies also refer to the level of disaggregating accounting information
in financial statements as an issue of “unit of account” (see Hales et al., 2012).
11. Libby, Bloomfield, and Nelson (2002, p. 784) refer to the model developed by
Maines and McDaniel (2000) as “the beginning of a theory of format effects.” In
their model, Maines and McDaniel (2000) identify five factors that may affect inves-
tors: placement, labeling as income, linkage to net income, isolation, and degree of
aggregation.
12. Special items have distinctive implications for persistence of firm profitability
(Lipe, 1986).
13. To assess the extent to which their earnings persistence judgments are tied
to their investment-related judgments and decisions, they were asked to provide
an estimate of diluted EPS for the next fiscal year, an estimate of the stock price
given the historical trailing P/E multiples ranging from 20 to 30 times of the earn-
ing and their investment interest on a nine-point Likert scale labeled 1 (not inter-
ested) to 9 (very interested). We also included some questions to help us
understand the decision process, to assess exploratory measures, and to control
for extraneous factors.
14. In analyzing the results, we find that the variances of earnings persistence
judgments are not homogenous across conditions with Levene statistic p < 0.05.
However, according to Kirk (1982, p. 77), F-test and related analyses are robust
against unequal variances when the sample sizes are approximately equal, as in our
case. Therefore, our hypotheses tests are based on raw earnings persistence judg-
ments. The hypotheses were also tested using ranked participants’ judgments on
earnings persistence based upon Kutner, Nachtsheim, Neter, and Li (2005). The
results are quantitatively and inferentially similar, albeit stronger.
 Accounting Presentation Format and Announcement Prominence 93

ACKNOWLEDGMENT

We appreciate helpful comments from 2014 American Accounting

Association (AAA) Annual Meeting and 2014 AAA ABO Research
Conference.

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