The role of foreign institutional investors in restraining earnings management activities across countries

Abstract

This study investigates the role of foreign institutional investors (FIIs) in restraining earnings management activities of firms under varying levels of investor protection. Firms manage their earnings less when independent FIIs are among their shareholders, especially for firms in which monitoring is more valuable – firms in weak investor protection countries and when firms have greater growth opportunities. These effects are robust to a quasi-exogenous shock to FIIs’ shareholdings, unobserved firm heterogeneity, and alternative earning management measures. FIIs are associated with an increase in foreign director presence on corporate boards and audit committees.

Résumé

Cette étude examine le rôle des investisseurs institutionnels étrangers (IIE) dans la limitation des activités de gestion des revenus des firmes présentant différents niveaux de protection des investisseurs. Les firmes gèrent moins leurs revenus lorsque les IIE sont parmi leurs actionnaires, en particulier les entreprises dans lesquelles la surveillance est plus utile - les entreprises situées dans des pays où la protection des investisseurs est faible et les opportunités de croissance accrues pour les entreprises. Ces effets sont robustes à un choc quasi-exogène sur les participations des IIE, à une hétérogénéité non observée des entreprises et à des mesures alternatives de gestion des revenus. Les IIE sont associés à une présence accrue d’administrateurs étrangers dans les conseils d’administration et les comités d’audit.

Resumen

Este estudio investiga el papel de los inversionistas institucionales extranjeros (FII por sus iniciales en inglés) en restringir las actividades de administración de ganancias de las empresas bajo distintos niveles de protección de los inversionistas. Las empresas gestionan menos sus ganancias cuando los inversionistas institucionales extranjeros independientes están entre sus accionistas, especialmente para las empresas en las que el monitoreo tiene más valor: las empresas en países con protección débil a los inversionistas y cuando las empresas tienen mayores oportunidades de crecimiento. Estos efectos son robustos a un choque casi exógeno para las participaciones de los inversionistas institucionales extranjeros, la heterogeneidad no observada de la empresa, y las medidas alternativas de gestión de ganancias. Los los inversionistas institucionales extranjeros están asociados con un aumento en la presencia de directores extranjeros en juntas directivas y comités de auditoría.

Resumo

Este estudo investiga o papel dos investidores institucionais estrangeiros (FIIs) em restringir as atividades de gestão de lucros das empresas sob diferentes níveis de proteção do investidor. As empresas gerenciam seus lucros menos quando FIIs independentes estão entre seus acionistas, especialmente em empresas nas quais o monitoramento é mais valioso - empresas em países com fraca proteção ao investidor e quando empresas têm maiores oportunidades de crescimento. Esses efeitos são robustos mesmo diante de um choque quase exógeno às participações acionárias dos FIIs, da heterogeneidade não observada da empresa, e a medidas alternativas de gerenciamento de lucros. FIIs estão associados a um aumento da presença de diretores estrangeiros em conselhos de administração e comitês de auditoria.

摘要

本研究调查了外国机构投资者(FIIs)在投资者保护不同水平下限制公司盈余管理活动中的作用。当独立的FIIs就在其股东中时, 公司较少管理它们的收益, 特别是对监管更有价值的公司 – 投资者保护薄弱国家的公司以及当公司有更大增长机会的时候。这些影响对于针对FIIs股权、未被观察到的公司异质性、以及替代收益管理措施的准外生冲击是强有力的。FIIs与外国董事在公司董事会和审计委员会中的存在增多有关。

Appendix

This appendix reports variable definitions as well as additional results on the impact of foreign and domestic institutional ownership on earnings management. Table 10 provides definitions of variables used throughout the paper. In Table 11, countries with an average depth (the ratio of the number of firms to the number of observations) of less than the sample median of 4.96 are excluded. Table 12 presents OLS estimates of the relationship between FIIs and the extent of earnings management by legal origin (French, German, Scandinavian, and English). Table 13 presents the estimates of the impact of FIIs on the extent of earnings management before and after the global financial crisis of 2008. Table 14 presents the estimates of the impact of FIIs on the extent of earnings management where FII ownership is proxied by a dummy variable that equals one for non-zero levels of FII ownership, zero otherwise. Table 15 presents estimates of the relationship between FIIs and the extent of earnings management on a country by country basis.

Table 10 Variable definitions

Table 11 Robustness check based on sample depth

Table 12 The impact of FIIs and DIIs on corporate earnings management by type of legal origin

Table 13 The impact of FIIs and DIIs on corporate earnings management before and after the global financial crisis

Table 14 An alternative proxy for foreign institutional ownership

Table 15 Country-by-country regression analysis