THE LEVEL OF ACCOUNTING KNOWLEDGE, OFF-BALANCE SHEET FINANCING AND INVESTORS’ DETECTION ABILITY

Abstract

Off-balance sheet financing refers to the accounting methods management use to keep their debt-equity and leverage ratios low and cause investors to draw wrong conclusions. The literature reveals that off-balance sheet arrangements is incomprehensible to investors due to limited and obscure disclosure, and thus incur great costs on them. The objective of this research is to examine the effect of the level of accounting knowledge and off-balance sheet financing types on investors’ detection ability. An experimental approach was adopted to achieve this objective, using 152 MBA students as a representative for non-professional investor. The research provides evidence that (1) investors’ knowledge of creative accounting influenced their detection ability (2) off-balance sheet types significantly influenced the investors’ ability to detect the off-balance sheet financing transactions, conditional on knowledge level in creative accounting. The finding suggests that knowledgeable investors could make use of relevant disclosures in the footnote to account for the off-balance sheet financing arrangements.