Blockholder Exit Threats and Financial Reporting Quality
New York University (NYU) – Department of Accounting, Taxation & Business Law
University of Toronto – Rotman School of Management
University of Oklahoma – Michael F. Price College of Business
George Washington University – Department of Accountancy
January 4, 2014
Rotman School of Management Working Paper No. 2374770
Abstract:
Recent theoretical and empirical studies suggest that blockholders (shareholders with ownership ≥ 5%) exert governance through the threat of exit. These shareholders have strong incentives to gather private information and sell their shares when managers are perceived to underperform. To prevent blockholders from selling their shares and the firm from suffering a stock price decline, managers align their actions with the interests of shareholders. As a result, these managers are expected to have fewer incentives to conceal their activities and are less likely to manage earnings. Consistent with these predictions from economic theory, we find evidence that as exit threat increases, firms have higher financial reporting quality. Furthermore, the impact of blockholders’ exit threat on financial reporting quality increases as the manager’s wealth is tied more closely to the stock price. Our study contributes to the research on the impact of shareholders on financial reporting quality and to an emerging literature on the impact of blockholders in financial markets. Blockholders play an important role in managers’ reporting outcomes through their actions as informed investors.
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