Ownership structure, earnings management and acquiring firm post‐merger market performance

Claude Francoeur (Department of Accounting Studies, HEC Montréal, Montréal, Canada)
Walid Ben Amar (Telfer School of Management, University of Ottawa, Ottawa, Canada)
Philémon Rakoto (Department of Accounting Studies, HEC Montréal, Montréal, Canada)

International Journal of Managerial Finance

ISSN: 1743-9132

Publication date: 30 March 2012

Abstract

Purpose

The purpose of this paper is to investigate the link between ownership structure, earnings management (EM) preceding mergers and acquisitions (M&A) and the acquiring firm's subsequent long‐term market performance.

Design/methodology/approach

The authors measure the magnitude of discretionary current accruals using two methodologies, that of Teoh et al. and that of Kothari et al. The latter methodology is used to control for the presence of extreme performance prior to the event. The calendar‐time Fama‐French three‐factor model was used to evaluate long‐term stock performance and to minimize potential problems related to the cross‐sectional dependence of the returns.

Findings

It was found that firms using stock as a financing medium exhibit significant positive discretionary accruals during the year preceding the M&A and during the year of the acquisition. It was also documented that voting right concentration and control‐enhancing mechanisms are not associated with any significant level of earnings management. Finally, a negative association was found between EM and abnormal stock returns over a three‐year period following the acquisition.

Research limitations/implications

These results suggest that the concentrated ownership alignment effect dominates the entrenchment motives and acts as a deterrent mechanism to prevent controlling shareholders from managing earnings in stock‐financed M&A.

Practical implications

The authors’ results highlight the importance of maintaining good legal and extra‐legal protection of minority shareholders. Regulators can play an important role in preventing dominant shareholders from engaging in opportunistic EM in stock‐financed M&A.

Originality/value

The paper extends prior literature by taking a closer look at dominant shareholders’ motivations to manage earnings in stock‐financed M&A. Large shareholders have strong incentives to manage earnings upward prior to stock‐financed transactions to limit the dilution of their controlling position.

Keywords

Citation

Francoeur, C., Ben Amar, W. and Rakoto, P. (2012), "Ownership structure, earnings management and acquiring firm post‐merger market performance ", International Journal of Managerial Finance, Vol. 8 No. 2, pp. 100-119. https://doi.org/10.1108/17439131211216594

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Publisher

:

Emerald Group Publishing Limited

Copyright © 2012, Emerald Group Publishing Limited

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