Does Equity Compensation Cause Firms to Manage EPS? Evidence from a Regression Discontinuity
74 Pages Posted: 29 Nov 2017 Last revised: 1 Apr 2019
Date Written: March 30, 2019
Equity-based compensation causes increases in firms' share count and depresses Earnings Per Share (EPS), which can give firms an incentive to raise EPS through repurchases or earnings management. This paper documents a causal relationship between equity-based pay and EPS management. Employing a regression discontinuity framework, we compare firms with "just-in-the-money" option exercises to firms with options that narrowly end up out-of-the-money. We find that firms engage in real- and accruals-based earnings management, but not repurchases, to boost EPS around these plausibly exogenous exercises. These effects are stronger when the increase in shares is larger, and apply only when earnings are positive.
Keywords: executive compensation, EPS, option exercises, regression discontinuity, share repurchases, dilution, earnings management
JEL Classification: G30, G35
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