Corporate Governance and Real Earnings Management: The Role of the Board and Institutional Investors

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Peer-Reviewed Article

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This study investigates whether corporate governance can mitigate real earnings management. Specifically, this study investigates the role of the board and institutional owners to mitigate real earnings management. In recent years, firms have been switching from accrual-based earnings management to real earnings management, and the incidence of real earnings management has increased. The role of corporate governance to reduce accrual-based earnings management is well documented in the literature; however, there is no firm evidence regarding the role of corporate governance to constrain real earnings management. In order to fill the gap in the literature, this paper examines whether corporate governance, specifically the board of directors and institutional investors, play any role to reduce real earnings management. In this study, I find the evidence that firms engage in real earnings management either to avoid reporting losses or to meet analysts’ forecasts. The cross-sectional analysis reveals that these activities are less prevalent for the firms that have larger institutional investors; however, no evidence regarding the role of the board to prevent real earnings management is indicated.