Managing for the Moment: The Role of Real Activity Versus Accruals Earnings Management in SEO Valuation

Abstract:     
We assess the role of both accruals manipulation (AM) and real activities manipulation (RAM) in inducing overvaluation at the time of a seasoned equity offering (SEO).Our results reveal that earnings management is most closely and predictably linked with post-SEO stock market under-performance when it is driven by RAM. The results suggest that overvaluation at the time of the SEO is more likely when managers actively engage in more opaque channels to overstate earnings; accordingly managers exhibit a greater propensity to engage in RAM at the time of SEOs, even though RAM is more costly in the long run. Thus, the focus in prior research on examining the influence of abnormal accruals on SEO overvaluation appears incomplete at best, since most existing studies do not consider the role of RAM in misleading investors at a time when firms are subject to substantial scrutiny.

Number of Pages in PDF File: 42

Keywords: earnings management, discretional accruals, real activity manipulation, seasoned equity offering, SEO overvaluation, earnings management opacity

JEL Classification: G14, G31, M40, M41

working papers series