Do Passive Investors Demand High Earnings Quality? Evidence from Natural Experiment

Posted: 30 Jul 2018

See all articles by Bill Francis

Bill Francis

Rensselaer Polytechnic Institute (RPI) - Lally School of Management & Technology

Johan Maharjan

Rensselaer Polytechnic Institute (RPI) - Lally School of Management & Technology

Haimeng Teng

Rensselaer Polytechnic Institute (RPI) - Lally School of Management

Date Written: July 28, 2018

Abstract

In this paper, we examine the effect of passive institutional investors on firms’ earnings quality by exploiting the variation in passive ownership around Russell 1000/2000 index cutoff. To get a comprehensive understanding, we use four sets of earnings quality proxies- properties of earnings, investor responsiveness to earnings, external indicators of earnings misstatements, and real earnings management. We find that passive investors improve earnings quality using all four above-mentioned sets of earnings quality proxies. We find this effect to be more pronounced in firms with low active institutional holdings. Furthermore, we find firms with higher passive institutional ownership undertake relatively more long-term investments.

Keywords: Passive Investors, Earnings Quality, Real Earnings Management

JEL Classification: G23, M41

Suggested Citation

Francis, Bill and Maharjan, Johan and Teng, Haimeng, Do Passive Investors Demand High Earnings Quality? Evidence from Natural Experiment (July 28, 2018). 31st Australasian Finance and Banking Conference 2018, Available at SSRN: https://ssrn.com/abstract=3221686 or http://dx.doi.org/10.2139/ssrn.3221686

Bill Francis

Rensselaer Polytechnic Institute (RPI) - Lally School of Management & Technology ( email )

110 8th St
Troy, NY 12180
United States

Johan Maharjan (Contact Author)

Rensselaer Polytechnic Institute (RPI) - Lally School of Management & Technology ( email )

110 8th St
Troy, NY 12180
United States

Haimeng Teng

Rensselaer Polytechnic Institute (RPI) - Lally School of Management ( email )

Troy, NY 12180
United States

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