What Does Earnings Management Signal? The Role of Managerial Honesty in Investment Decisions

89 Pages Posted: 7 Feb 2017 Last revised: 21 Nov 2019

See all articles by Rajna Gibson

Rajna Gibson

University of Geneva - Geneva Finance Research Institute (GFRI)

Matthias Sohn

European University Viadrina Frankfurt (Oder)

Carmen Tanner

University of Zurich - Department of Banking and Finance

Alexander F. Wagner

University of Zurich - Department of Banking and Finance; Centre for Economic Policy Research (CEPR); European Corporate Governance Institute (ECGI); Swiss Finance Institute

Multiple version iconThere are 2 versions of this paper

Date Written: November 12, 2019

Abstract

Accounting earnings management elicits varying reactions: To some observers, it signals low managerial honesty. To others, it indicates that firm managers are sharing private information. Accordingly, different investors may respond differently to this managerial behavior. To assess these responses in ways not available in archival studies, we conduct two laboratory experiments simulating investment choices. Participants perceive a CEO to be more committed to honesty when they infer that the CEO engaged less in earnings management. For investment decisions, a one standard deviation increase in a CEO's perceived commitment to honesty compared to another CEO reduces the relevance of differences in the CEOs’ claimed future returns by 40%. This effect is prominent among investors with a proself value orientation. To prosocial investors, their own honesty values and those attributed to the CEO matter directly; returns play a secondary role. Overall, perceived CEO honesty matters to different investors for distinct reasons.

Keywords: earnings management, honesty, investor preferences, investor segmentation, protected values

JEL Classification: M41, G41, G11

Suggested Citation

Gibson, Rajna and Sohn, Matthias and Tanner, Carmen and Wagner, Alexander F., What Does Earnings Management Signal? The Role of Managerial Honesty in Investment Decisions (November 12, 2019). Swiss Finance Institute Research Paper No. 17-03; European Corporate Governance Institute (ECGI) - Finance Working Paper No. 516/2017. Available at SSRN: https://ssrn.com/abstract=2912795 or http://dx.doi.org/10.2139/ssrn.2912795

Rajna Gibson (Contact Author)

University of Geneva - Geneva Finance Research Institute (GFRI) ( email )

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Matthias Sohn

European University Viadrina Frankfurt (Oder) ( email )

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Frankfurt (Oder), Brandenburg 15230
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Carmen Tanner

University of Zurich - Department of Banking and Finance ( email )

CH-8032 Zurich
Switzerland

Alexander F. Wagner

University of Zurich - Department of Banking and Finance ( email )

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Zürich, 8032
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Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

European Corporate Governance Institute (ECGI) ( email )

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Belgium

Swiss Finance Institute ( email )

Switzerland

HOME PAGE: http://www.alex-wagner.com

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