Abstract
Information asymmetry between managers and outside investors creates agency problems and impedes efficient capital allocation. Information disclosure is critical in alleviating information asymmetry in capital markets. This study investigates the effect of information asymmetry on managerial short-termism by examining information disclosure ratings (IDRs). Using real earnings management as a proxy for managerial short-termism, our analysis of a sample of Chinese A-share companies during 2001–2018 indicates that high IDRs mitigate managerial short-termism. The results also indicate that the effect of IDRs in reducing managerial short-termism is driven mainly by stock liquidity. This conclusion holds after consideration of endogeneity and application of two-stage least-squares and generalized method of moments methods, adjustment of the definition of IDRs, consideration of alternative proxies for managerial short-termism, and control for firm characteristics that might affect the extent of managerial short-termism. This study also examines the effects within three subsamples: companies listed on the Shenzhen Stock Exchange main board, small and medium enterprise board, and growth enterprise market board. IDRs substantially reduce managerial short-termism among firms listed on all three boards. These findings indicate that enterprises have corrected previous internal governance problems, and IDRs have helped to improve internal governance through stock liquidity. Therefore, external supervision also helps to reduce the agency problem of managerial short-termism.
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Acknowledgements
This manuscript was edited by Wallace Academic Editing.
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The authors were funded by NSFC number (71903199, 71671082), and Fujian Social Fund (Grant No. FJ2021T003.
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Dr. Huang helped to draft the manuscript. Dr. Ho participated in the design of the study and performed the statistical analysis. Dr. Liu conceived of the study and participated in its design and coordination. All authors read and approved the final manuscript.
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Appendices
Appendix A Description of variables
Variables | Definitions |
|---|---|
Dependent variables: Earnings management | |
REM1 | Real earnings management index1, defined as ABPROD plus (-1) * ABDISX (Chen et al., 2015) |
REM2 | Real earnings management index2, defined as (-1) * ABCFO plus (-1) * ABDISX (Chen et al., 2015) |
EQ | The residual value of total accruals based on the cross-sectional modified Jones’ model, deflated by the beginning period market value of equity |
ABCFO | Abnormal operating cash flows, estimated following Roychowdhury (2006) |
ABDISX | Abnormal discretionary expenses, estimated following Roychowdhury (2006) |
ABPROD | Abnormal production costs, estimated following Roychowdhury (2006) |
Information disclosure measures | |
IDR | The information disclosure rating score is ranging from 1 (the lowest) to 4 (the highest) |
IDRATT | The information disclosure ratings component of investor attention channel |
IDRLIQ | The information disclosure ratings component of investor liquidity channel |
IDRerror | IDRerror = IDR—IDRATT -IDRLIQ |
Investor attention measures | |
IO | Institutional ownership (%) = stock ownership of foreign institutions, domestic funds, and securities companies |
ANA | The unique number of analysts providing earnings forecasts |
EMP | The number of employees |
SH | The number of shareholders |
ADV | The natural log of (1 + advertising expense). Adv is set to zero when advertising expense is missing |
Liquidity measures | |
PRC | Average daily share price |
TRD | The total number of trading days |
ILR | Amihud (2002) natural log’s illiquidity ratio is defined as average daily absolute return divided by dollar trading volume |
Instrumental variables measures | |
CI | Capital intensity defined as the ratio of property, plant, and equipment to total assets |
OM | Operating margin defined as sales minus cost of goods sold scaled by sales |
Control variables measures | |
CFV | The standard deviation of cash flows over the past three years |
LEV | The total long-term debt is divided by total assets |
LOSS | Dummy variable equal to 1 if operating income is negative, zero otherwise |
AZ | Altman's Z-score, defined as (3.3*operating income + sales + 1.4*retained earnings + 1.2*(current assets—current liability)) / total assets |
MB | The ratio of market value of equity to book value of equity |
SIZE | Natural log of Market capitalization |
HHI | Set the product market competition index as the dummy variable, and use SALES as the measurement variable |
SOE | A dummy variable equals 1 if the ultimate controlling shareholder of a listed firm is the state and 0 otherwise |
SSSR | China's Split Share Structure Reform, and defining to be 1 if the observation is from 2006 and after |
TOP (%) | Percentage of total outstanding shares owned by largest shareholder |
DUAL | CEO duality: a dummy variable, with 0 for a company having separate CEO and chairman, and 1 otherwise |
LISTAGE | Firm age, measured by the natural logarithm of (1 + the firm’s established period) |
Appendix B Characteristics of information disclosure rating-separated portfolios
IDR | 1 | 2 | 3 | 4 | 4 – 1 | |
|---|---|---|---|---|---|---|
D | C | B | A | |||
Earnings management measures | ||||||
REM1 | 0.06 | 0.02 | 0.00 | -0.05 | -0.11 | *** |
(-13.58) | ||||||
REM2 | 0.07 | 0.01 | 0.01 | -0.06 | -0.13 | *** |
(-13.77) | ||||||
EQ | 0.07 | 0.03 | 0.01 | -0.03 | -0.10 | *** |
(-14.75) | ||||||
Investor Attention measures | ||||||
IO | 0.64 | 0.76 | 1.15 | 1.56 | 0.92 | *** |
(16.35) | ||||||
ANA | 0.37 | 0.62 | 1.26 | 2.01 | 1.64 | *** |
(25.06) | ||||||
EMP | 1.51 | 1.40 | 1.26 | 1.57 | 0.06 | |
(0.62) | ||||||
SH | 2.54 | 2.62 | 3.01 | 3.06 | 0.52 | *** |
(6.67) | ||||||
ADV | 0.01 | 0.02 | 0.05 | 0.13 | 0.12 | *** |
(2.49) | ||||||
Liquidity measures | ||||||
PRC | 2.23 | 2.34 | 2.56 | 2.83 | 0.60 | *** |
(16.67) | ||||||
TRD | 5.40 | 5.43 | 5.43 | 5.45 | 0.05 | *** |
(8.07) | ||||||
ILR | -7.36 | -7.38 | -7.45 | -7.27 | 0.09 | |
(1.47) | ||||||
Instrumental Variables | ||||||
CI | 0.25 | 0.27 | 0.25 | 0.22 | -0.02 | ** |
(-2.29) | ||||||
OM | 0.21 | 0.24 | 0.27 | 0.33 | 0.12 | *** |
(11.06) | ||||||
Control | ||||||
CFV | 0.08 | 0.09 | 0.06 | 0.05 | -0.02 | |
(-0.79) | ||||||
LEV | 0.52 | 0.46 | 0.39 | 0.36 | -0.17 | *** |
(-12.98) | ||||||
LOSS | 0.53 | 0.33 | 0.14 | 0.03 | -0.50 | *** |
(-34.94) | ||||||
AZ | 1.94 | 3.04 | 3.59 | 3.48 | 1.54 | *** |
(9.16) | ||||||
MB | 4.12 | 4.23 | 2.46 | 2.55 | -1.57 | *** |
(-2.80) | ||||||
SIZE | 20.78 | 21.14 | 21.49 | 22.07 | 1.29 | *** |
(16.73) | ||||||
HHI | 0.08 | 0.06 | 0.05 | 0.04 | -0.04 | *** |
(-8.45) | ||||||
SOE | 0.26 | 0.36 | 0.37 | 0.39 | 0.13 | *** |
(4.33) | ||||||
SSSR | 0.57 | 0.59 | 0.81 | 0.88 | 0.31 | *** |
(14.58) | ||||||
TOP (%) | 31.73 | 35.42 | 36.06 | 38.13 | 6.39 | *** |
(6.38) | ||||||
DUAL | 0.20 | 0.19 | 0.24 | 0.25 | 0.05 | * |
(1.69) | ||||||
LISTAGE | 2.15 | 2.08 | 1.98 | 1.89 | -0.27 | *** |
(-6.33) | ||||||
Appendix C Correlation matrix
VIF | REM1 | REM2 | EQ | IDR | IO | ANA | EMP | SH | ADV | PRC | TRD | ||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
(1) | REM2 | 0.55 | |||||||||||
(2) | EQ | 0.71 | 0.89 | ||||||||||
(3) | IDR | 1.30 | -0.13 | -0.08 | -0.13 | ||||||||
(4) | IO | 1.73 | -0.16 | -0.15 | -0.17 | 0.26 | |||||||
(5) | ANA | 2.76 | -0.22 | -0.14 | -0.21 | 0.37 | 0.58 | ||||||
(6) | EMP | 1.97 | -0.02 | -0.11 | -0.07 | 0.02 | 0.15 | -0.05 | |||||
(7) | SH | 2.27 | 0.02 | 0.00 | 0.01 | 0.13 | 0.18 | 0.26 | -0.24 | ||||
(8) | ADV | 1.11 | 0.00 | 0.01 | 0.02 | 0.07 | 0.04 | 0.04 | 0.13 | 0.12 | |||
(9) | PRC | 2.24 | -0.21 | -0.10 | -0.19 | 0.23 | 0.34 | 0.50 | -0.05 | -0.21 | -0.02 | ||
(10) | TRD | 1.02 | -0.04 | -0.02 | -0.02 | 0.06 | -0.05 | 0.01 | 0.06 | -0.01 | 0.02 | -0.09 | |
(11) | ILR | 1.49 | -0.03 | -0.08 | -0.04 | 0.02 | 0.06 | 0.02 | 0.24 | 0.16 | 0.16 | -0.13 | -0.11 |
(12) | CI | 1.21 | 0.09 | 0.02 | 0.06 | -0.07 | -0.10 | -0.15 | 0.21 | 0.06 | -0.12 | -0.30 | 0.05 |
(13) | OM | 1.41 | -0.31 | -0.23 | -0.31 | 0.15 | 0.18 | 0.28 | -0.20 | -0.09 | 0.02 | 0.38 | -0.02 |
(14) | CFV | 3.30 | -0.02 | -0.22 | -0.16 | -0.02 | 0.00 | -0.01 | 0.03 | -0.02 | 0.00 | 0.00 | 0.00 |
(15) | LEV | 1.45 | 0.11 | 0.02 | 0.07 | -0.17 | -0.09 | -0.18 | 0.17 | 0.07 | 0.12 | -0.34 | 0.03 |
(16) | LOSS | 1.24 | 0.21 | 0.12 | 0.16 | -0.27 | -0.15 | -0.27 | 0.03 | 0.01 | 0.00 | -0.23 | -0.09 |
(17) | AZ | 1.03 | -0.10 | -0.08 | -0.06 | 0.02 | 0.01 | 0.02 | 0.02 | 0.01 | 0.01 | 0.02 | 0.01 |
(18) | MB | 3.30 | -0.02 | -0.02 | -0.02 | -0.02 | 0.00 | 0.00 | 0.01 | -0.03 | -0.01 | 0.04 | -0.01 |
(19) | SIZE | 2.75 | -0.07 | -0.12 | -0.09 | 0.26 | 0.27 | 0.35 | 0.31 | 0.39 | 0.20 | 0.00 | 0.01 |
(20) | HHI | 1.12 | 0.01 | 0.00 | 0.00 | -0.13 | -0.08 | -0.15 | -0.13 | -0.02 | 0.07 | -0.14 | 0.00 |
(21) | SOE | 1.61 | 0.04 | -0.01 | 0.04 | 0.04 | 0.05 | -0.07 | 0.24 | 0.40 | 0.08 | -0.28 | 0.07 |
(22) | SSSR | 1.92 | -0.02 | 0.00 | -0.02 | 0.23 | 0.32 | 0.41 | 0.01 | 0.28 | 0.06 | 0.38 | -0.06 |
(23) | TOP | 1.20 | -0.03 | -0.05 | -0.04 | 0.06 | -0.12 | -0.03 | 0.14 | -0.14 | -0.01 | 0.00 | 0.08 |
(24) | DUAL | 1.12 | -0.02 | 0.01 | -0.02 | 0.05 | 0.09 | 0.14 | -0.07 | 0.00 | -0.03 | 0.18 | -0.05 |
(25) | LISTAGE | 2.04 | 0.07 | 0.00 | 0.11 | -0.09 | 0.02 | -0.20 | 0.23 | 0.43 | 0.17 | -0.44 | -0.04 |
CI | OM | CFV | LEV | LOSS | AZ | MB | SIZE | HHI | SOE | SSSR | TOP | DUAL | |
(1) | |||||||||||||
(2) | |||||||||||||
(3) | |||||||||||||
(4) | |||||||||||||
(5) | |||||||||||||
(6) | |||||||||||||
(7) | |||||||||||||
(8) | |||||||||||||
(9) | |||||||||||||
(10) | |||||||||||||
(11) | |||||||||||||
(12) | |||||||||||||
(13) | -0.20 | ||||||||||||
(14) | -0.02 | 0.00 | |||||||||||
(15) | 0.13 | -0.38 | 0.00 | ||||||||||
(16) | 0.11 | -0.26 | 0.01 | 0.20 | |||||||||
(17) | -0.02 | -0.06 | 0.24 | 0.03 | -0.05 | ||||||||
(18) | -0.04 | 0.04 | 0.76 | -0.04 | 0.00 | 0.07 | |||||||
(19) | 0.04 | -0.11 | -0.05 | 0.29 | -0.10 | 0.03 | -0.11 | ||||||
(20) | -0.03 | 0.07 | 0.01 | 0.09 | 0.03 | -0.02 | 0.01 | -0.09 | |||||
(21) | 0.24 | -0.19 | -0.01 | 0.25 | 0.06 | 0.01 | -0.03 | 0.26 | 0.08 | ||||
(22) | -0.20 | 0.11 | 0.03 | -0.22 | -0.03 | 0.01 | 0.02 | 0.17 | -0.15 | -0.10 | |||
(23) | 0.09 | -0.07 | 0.00 | 0.05 | -0.09 | 0.02 | -0.02 | 0.12 | -0.02 | 0.14 | -0.15 | ||
(24) | -0.13 | 0.10 | -0.01 | -0.15 | -0.03 | -0.01 | 0.00 | -0.07 | -0.09 | -0.23 | 0.21 | -0.06 | |
(25) | 0.13 | -0.16 | 0.06 | 0.33 | 0.18 | 0.02 | 0.00 | 0.33 | 0.16 | 0.43 | -0.02 | -0.09 | -0.19 |
Appendix D Regressions of REM on the alternative proxy of IDR
Dependent Variable | REM1 | REM2 | ||||||
|---|---|---|---|---|---|---|---|---|
Model 1 | Model 2 | Model 1 | Model 2 | |||||
Intercept | -0.0107 | 0.3386 | *** | -0.0280 | 0.6384 | *** | ||
(-0.37) | (7.07) | (-0.88) | (12.05) | |||||
IDRS | -0.0257 | *** | -0.0117 | *** | -0.0257 | *** | -0.0096 | *** |
(-15.34) | (-6.70) | (-13.90) | (-4.98) | |||||
Control variables | No | YES | No | YES | ||||
ADJ-RSQ | 0.02 | 0.08 | 0.02 | 0.08 | ||||
Observations | 9,557 | |||||||
Appendix E Regressions of the alternative proxy of REM on IDR
Dependent Variable | EQ | |||||||
|---|---|---|---|---|---|---|---|---|
Model 1 | Model 2 | Model 3 | Model 4 | |||||
Intercept | 0.0970 | *** | 0.3505 | *** | 0.0287 | 0.6384 | *** | |
(5.04) | (11.47) | (1.53) | (12.05) | |||||
IDR | -0.0307 | *** | -0.0138 | *** | ||||
(-17.64) | (-7.65) | |||||||
IDRS | *** | -0.0257 | *** | 0.3439 | *** | |||
(-13.90) | (11.22) | |||||||
Control variables | No | YES | No | YES | ||||
ADJ-RSQ | 0.03 | 0.11 | 0.01 | 0.10 | ||||
Observations | 9,597 | |||||||
Appendix F Information disclosure and rating measures
This appendix lists the 52 measures used to evaluate the information disclosure rating of each firm listed on the SZSE (Gong & Ho, 2021). The evaluation system is based on self-evaluations by firms and further examination by the SZSE. The period of evaluation is May 1st in the previous year to April 30th in the current year. The following three dimensions are used to measure IDR: quality of information disclosure, compliance level of a firm’s operations, and degree of investor protection. Each firm is assigned a rating score of A, B, C, or D based on these measures.
Item | Measure | Yes | No |
|---|---|---|---|
Any answer of “Yes” for the following 23 measures disqualifies a score of A | |||
1 | The evaluation period was less than 12 months | ||
2 | The firm modified and revised its information disclosure report twice by 5% or more of its content | ||
3 | The firm’s annual report or semiannual report provided a non-standardized audit report by the certified public accountant | ||
4 | The firm’s stock or derivatives was or were suspended because its annual report was not disclosed on time | ||
5 | The differential of performance data from the (expected) annual performance report and the performance data of the firm’s annual report were more than 20% and the absolute value was above RMB 2 million | ||
6 | The profits influenced by mistakes on the accounting report were equal to or over 20% of the modified net profits belonging to shareholders’ interests and the absolute value was above RMB 2 million | ||
7 | The firm’s operating profits in its initial public offering (IPO) year decreased by more than 50% compared with that in the preceding year if the firm completed its IPO in the most recent accounting year | ||
8 | The realized profits in the recent accounting year were lower than 80% of the expected value (if the firm made a profit) | ||
9 | The firm should provide a corporate social responsibility report but did not disclose it in time or the content did not comply with the regulations | ||
10 | The firm did not disclose the self-evaluated controlling report in time or did not employ an accounting firm to audit its report | ||
11 | Because of a violation of the information transparency principle by employees, private information was disclosed by the public media, causing the stock and its derivatives to be suspended | ||
12 | The firm received a supervision letter from the SZSE because of its illegality | ||
13 | The firm was registered and investigated by the judiciary because of its illegality | ||
14 | The firm or its employees failed to cooperate with the SZSE in the form of not replying to enquiries on time, not rectifying problems according to requirements, not accepting a supervision letter, not engaging in a training program, or not reporting abnormal situations on time | ||
15 | The absence of the secretary of the board was longer than 3 months | ||
16 | The firm provided non-operating funds to its director, supervisor, manager, or controlling shareholder | ||
17 | The firm provided a warranty or financial support for outsiders to engage in risky investments or alter the objective of funds | ||
18 | Because of a violation of the information transparency principle by the controlling shareholders and ultimate controller, private information was disclosed by the public media, causing the stock and its derivatives to be suspended | ||
19 | The firm, controlling shareholders, or ultimate controller did not comply with their promises | ||
20 | The director, supervisor, manager, controlling shareholder, or ultimate controller was punished by the CSRC or its agency, received criticism from the SZSE, or received two supervision letters | ||
21 | The director, supervisor, manager, controlling shareholder, or ultimate controller was registered and investigated by the judiciary because of illegality | ||
22 | The director, supervisor, manager, controlling shareholder, or ultimate controller failed to cooperate with the activities of the SZSE in the form of not replying to the confirmation of a rumor, not reporting related information on time, or not fulfilling the obligation of information disclosure | ||
23 | The director, supervisor, manager, controlling shareholder, or ultimate controller did not provide a record of declaration and commitment to the SZSE, or the recorded declaration and commitment contains false contents or major omissions | ||
Any answer of “Yes” for the following 19 measures qualifies for a score of C | |||
1 | The firm modified and revised its information disclosure report more than five times by 7% or more of its content | ||
2 | The annual report or semiannual report provided a qualified opinion by the audit or a disclaimer of opinion because of large uncertainty regarding the firm’s sustainable performance | ||
3 | The firm did not disclose the performance report or expected performance report in time | ||
4 | The differential of performance data from the (expected) annual performance report and performance data of its annual report were at least 50% and the absolute value was above RMB 5 million or induced a slight change in the property of profits | ||
5 | The amount of profits influenced by mistakes in the accounting report was at least 50% of the modified net profits belonging to shareholders’ interests and the absolute value was above RMB 5 million or induced a slight change in the property of profits | ||
6 | The realized profits in the recent accounting year were lower than 50% of their expected value (if the firm made a profit) | ||
7 | The self-evaluated controlling report or audit report indicated a severe problem regarding the firm’s control in the recent accounting report | ||
8 | Because of a violation of the information transparency principle by employees, private information was disclosed by the public media, inducing the stock and its derivatives to be suspended at least twice | ||
9 | The firm received more than three supervision letters from the SZSE because of illegality | ||
10 | The firm received criticism from the SZSE | ||
11 | A severe problem occurred when the firm applied for an IPO of its stock or derivatives or implemented the profits distribution project, equity incentive plan, and destabilization program of non-tradable shares | ||
12 | The firm or its employees failed to cooperate with the SZSE in the form of not replying to enquiries in time, not rectifying problems according to requirements, not accepting a supervision letter, not engaging in a training program, or not reporting abnormal situations on time. Furthermore, the firm refused to correct its activities after the SZSE’s supervision | ||
13 | The absence of the secretary of the board was longer than 6 months | ||
14 | The firm provided non-operating funds to its director, supervisor, manager, or controlling shareholder. The maximum daily amount was larger than RMB 3 million and smaller than RMB 10 million or accounted for1%–5% of its net assets | ||
15 | The firm provided a warranty or financial support to outsiders. The amount was higher than 10 million RMB and accounted for more than 5% of its net assets | ||
16 | The firm did not fulfill its information disclosure obligation but engaged in security or risky investments that were larger than RMB 50 million and accounted for more than 10% of its net assets | ||
17 | The firm altered its funding purpose and the accumulated amount was more than 10% of its net assets | ||
18 | Because of a violation of the information transparency principle by the controlling shareholders and ultimate controller, private information was disclosed by the public media, causing the stock and its derivatives to be suspended more than twice | ||
19 | The payout policy, profits distribution policy, and program of capital reserve transfers to equity disclosed by the firm were inconsistent with its promises or the relevant laws and regulations | ||
Any answer of “Yes” for the following 10 measures qualifies for a score of D | |||
1 | The annual report or semiannual report included a disclaimer of opinion or adverse opinion by the auditor | ||
2 | The annual report provided a nonstandard unqualified opinion by the certified public accountant. The related items in the report violated the accounting principle and related disclosure regulations. The firm did not provide the correlated annual report and audit report within the time limit regulated by the SZSE | ||
3 | Severe mistakes or false data existed in the accounting report and were not corrected by the firm within the time limit | ||
4 | The firm did not disclose the periodical report in time | ||
5 | The conclusion of the nature of profits provided by the annual quick performance report was severely inconsistent with the data in the annual report | ||
6 | The nature of profits was altered by mistakes in the accounting report | ||
7 | The firm was punished by the CSRC or its agencies condemned by the SZSE, or criticized more than three times | ||
8 | The firm’s stock and its derivatives were issued a delisting warning, other risk warning, suspended warning, or were delisted, and the firm did not provide a report to the SZSE within the regulated time limit or disclose the relevant information to the public | ||
9 | The firm provided non-operating funds to its director, supervisor, manager, and controlling shareholder. The maximum daily amount was larger than RMB 10 million or accounted for more than 5% of its net assets | ||
10 | The firm provided a warranty or financial support to outsiders worth more than RMB 50 million and accounting for more than 10% of its net assets | ||
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Ho, KC., Huang, HY. & Liu, S. Information disclosure ratings and managerial short-termism: An empirical investigation of the Chinese stock market. Int Entrep Manag J 18, 349–381 (2022). https://doi.org/10.1007/s11365-021-00778-y
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DOI: https://doi.org/10.1007/s11365-021-00778-y