Earnings Management and Managerial Honesty: The Investors’ Perspectives

88 Pages Posted: 7 Feb 2017 Last revised: 19 Feb 2021

See all articles by Rajna Gibson

Rajna Gibson

University of Geneva - Geneva Finance Research Institute (GFRI); European Corporate Governance Institute (ECGI)

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: February 10, 2021

Abstract

Extant research shows that CEO characteristics affect earnings management. This paper studies how investors infer a specific characteristic of CEOs, namely moral commitment to honesty, from earnings management and how this perception – in conjunction with their own social and moral preferences – shapes their investment choices. We conduct two laboratory experiments simulating investment choices. Our results show that 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 most prominent among investors with a proself value orientation. To prosocial investors, their own honesty values and those attributed to the CEO matter directly, while 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., Earnings Management and Managerial Honesty: The Investors’ Perspectives (February 10, 2021). Swiss Finance Institute Research Paper No. 17-03, European Corporate Governance Institute (ECGI) - Finance Working Paper No. 516/2017, LawFin Working Paper No. 7, 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 )

40 Boulevard du Pont d'Arve
Geneva 4, Geneva 1211
Switzerland
+41.22.379.89.83 (Phone)

European Corporate Governance Institute (ECGI) ( email )

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels
Belgium

Matthias Sohn

European University Viadrina Frankfurt (Oder) ( email )

Grosse Scharrnstr. 59
Frankfurt (Oder), Brandenburg 15230
Germany

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 )

Plattenstrasse 14
Zürich, 8032
Switzerland
+41 44 634 3963 (Phone)

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

European Corporate Governance Institute (ECGI) ( email )

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels
Belgium

Swiss Finance Institute ( email )

Switzerland

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

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