Earnings Management Through Transaction Structuring: Contingent Convertible Debt and Diluted Eps

54 Pages Posted: 8 Mar 2004

See all articles by Carol A. Marquardt

Carol A. Marquardt

City University of New York (CUNY) – Baruch College

Christine I. Wiedman

University of Waterloo

Multiple version iconThere are 2 versions of this paper

Date Written: December 2004

Abstract

This paper examines whether firms structure their convertible bond transactions to manage diluted EPS. We find that the likelihood of firms issuing contingent convertible bonds (COCOs), which are often excluded from diluted EPS calculations under SFAS 128, is significantly associated with the reduction that would occur in diluted EPS if the bonds were traditionally structured. We also document that firms' use of EPS-based compensation contracts significantly affects the likelihood of COCO issuance and find weak evidence that reputation costs, measured using earnings restatement data, play a role in the structuring decision. These results are robust to controlling for alternative motivations for issuing COCOs, including tax and dilution arguments. In addition, an examination of announcement returns reveals that investors view the net benefits and costs of COCOs as offsetting one another. Our results contribute to the literatures on earnings management, diluted EPS, financial reporting costs, and financial innovation.

Keywords: Earnings management, transaction structuring, convertible bonds, diluted EPS

JEL Classification: M41, M43, G32, J33

Suggested Citation

Marquardt, Carol and Wiedman, Christine I., Earnings Management Through Transaction Structuring: Contingent Convertible Debt and Diluted Eps (December 2004). Available at SSRN: https://ssrn.com/abstract=515255 or http://dx.doi.org/10.2139/ssrn.515255

Carol Marquardt (Contact Author)

City University of New York (CUNY) – Baruch College ( email )

One Bernard Baruch Way, Box B12-225
New York, NY 10010
United States
646-312-3241 (Phone)

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