مشارکت سهامداران اقلیت و مدیریت سود: آزمون تئوری پذیرش Minority shareholder participation and earnings management A test of catering theory

1. Introduction In this paper, we propose a catering theory of earnings management (EM). In particular, we test whether pressures from minority shareholders’ direct participation in corporate decisions have consequences for firm EM. We define catering following Baker et al. (2009) and Baker and Wurgler (2013), i.e. catering refers to any actions intended to boost share prices above fundamental value by increasing the supply of a characteristic that investors appear to be paying a premium for. In this paper, the catering theory of EM posits that the EM is partly a response to the demand of investors who can affect the stock prices. Empirically, this theory predicts that the probability of EM will be higher when the firm faces more active participation pressures of shareholders, and especially when the shareholders do not have ability to identify the EM. Meanwhile, one hotly debated issue is whether minority shareholders should be granted increased participation in corporate decisions. Given the difficulty to exactly identify relevant costs and benefits, the answer is ambiguous. For example, Bainbridge (2006) argues that minority shareholders’ direct participation in corporate decisions will reduce shareholder value due to lacking the necessary information idiosyncratic to a particular firm. Listokin (2010) finds that simply altering shareholder power without changing other governance mechanisms is unlikely to lead to widespread changes in corporate governance. Although some scholars argue that firms may have incentives to cater investors by managing earnings, to the best of our knowledge, there is no direct study to formally explore this issue. For example, Graham et al. (2005) survey Chief Financial Officers who indicate they manage earnings to maintain or increase the stock price of their firms. Simpson (2013) points out that EM is partially driven by the market-wide investor sentiment. Moreover, the likelihood of EM to avoid negative earnings surprises is also positively associated with investor sentiment. However, both of these two studies are not directly examining whether firms cater to minority shareholders by EM. The difficulty of studying these issues comes from limited available data. In particular, the data of minority shareholders’ participation in corporate governance is not accessible to most researchers. Thus, difficulties arise in constructing the variable serving as a proxy for minority shareholders participation (MSP) in corporate governance. In the current paper, based on a unique data set of the minority shareholders’ online voting for firms’ proposals in China, we construct the MSP as the ratio of shares of MSP in online voting over the number of all outstanding shares, and further analyze its impact on EM.