Managerial Equity Incentives And Earnings Management

Because of the implementation of the Reform of Non-Tradable Shares and the promulgation of 《Measure of Equity Incentives of Listed Company》, equity incentives has been widely used in our country since2006. The modern enterprise theory and international practice have proved that equity incentives can promote the convergence of interests between managers and outside shareholders and has played a very active role to improve the corporate governance structure, reduce agency costs, increase management efficiency and enhance market competitiveness.However, due to the existence of Information Asymmetry and Contractual Incompleteness, equity incentives plans are usually designed based on the reported financial performance, such as ROE and the growth rate of net profit. In order to meet the exercise requirements and maximize the compensation, managers would tend to modify the reported financial performance through earnings management, which will weaken the long-term effects of equity incentives.This paper will probe into the relation between equity incentives and earnings management based on SME board listed companies. First, it reviews the major studies of this relation, and conducts theoretical analysis of this relation based on Principal-Agent theory, Incomplete Contracting theory and other theories. Then, based on the analysis of the current situation of equity incentives and earnings management, it establishes a panel data random effect model and chooses the SME board listed companies as the sample to run the empirical test. Finally, it puts forward several suggestions based on empirical results. This paper consists of the following six parts:The first part is the introduction. It includes the introduction of the background and the purpose, the description of the ideas and the methods, and the summaries of the innovation and the insufficiency of this paper. The second part is the literature review. It reviews the related literatures from the theoretical and empirical angles, and introduces the econometric methods of the earnings management, especially the accrual-based models, which has been widely used in empirical researches.The third part is the theoretical analysis. First, it reviews the incentive mechanism of equity incentives from Principal-Agent theory, Incentive theory and Human Capital theory. Then, it analyzes the impact of equity incentives on earnings management based on Information Asymmetry, Contractual Incompleteness and other accounting factors. Finally, it elaborates the impact of managerial stockholding of SME board listed companies on the relation between equity incentives and earnings management.The fourth part is the analysis of current situation. It introduces the development of equity incentives in China, and analyzes the current status of the implementation of equity incentives of SME board listed companies. It also summaries the different motivations and means of earnings management combined with the characteristics of China’s capital market.The fifth part is the empirical research. First, put forward theoretical assumptions based on theoretical analysis. Second, calculate the discretionary accrual by the fixed Jones model and the fixed Jones model adjusted by performance. Third, select the SME board listed companies which has implemented equity incentives between2008and2011as the sample. Finally, establish a panel data random effect model to run the empirical test, and find that (1)the implementation of equity incentives is positively related to earnings management behavior;(2) for the companies with managerial stockholding, the positive correlation is significantly weakened.The sixth part summarizes the results of empirical research and makes some recommendations to suppress the earnings management behavior caused by equity incentives. It also puts forward some suggestions for further research in the econometric methods of the earnings management and the longitudinal study on the impacts of equity incentives.