An accounting-based earnings manipulation detection model has strong
out-of-sample power to predict cross-sectional returns. Companies with a higher
probability of manipulation (M-score) earn lower returns on
every decile portfolio sorted by size, book-to-market, momentum, accruals, and
short interest. The predictive power of M-score stems from its
ability to forecast changes in accruals and is most pronounced among low-accrual
(ostensibly “high-earnings-quality”) stocks. These findings support
the investment value of careful fundamental and forensic analyses of public
companies.