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Target firm earnings management, acquisition premium and shareholder gains

Target firm earnings management, acquisition premium and shareholder gains
Target firm earnings management, acquisition premium and shareholder gains

Using a sample of U.S. domestic deals from 1990 to 2016, we find that bidders adjust the amount of premium paid in mergers and acquisitions (M&As) based on the levels of earnings management at target firms. However, the way a firm manipulates earnings upward matters: earnings management via real activities manipulation is more detrimental than discretionary accruals. As a result, target firms that engage in real earnings management receive lower premiums in M&As, while accruals management has no effect on premiums. Correspondingly, we find that the targets' M&A announcement-period cumulative abnormal returns are inversely related to their level of real earnings management, while the returns are not related to accruals management. Further analyses confirm that target shareholders' wealth is not only driven by undervaluation, expected synergy, and managerial hubris, but also reflects bidders' perception of the target firms' earnings quality based on real earnings management.

Mergers and acquisitions, discretionary accruals, earnings management, real activities manipulation
0020-7063
Farooqi, Javeria
43420ecc-d373-4f72-9918-89df5faceb46
Jory, Surendranath
2624eb24-850a-48f6-b3c6-c96749b87322
Ngo, Thanh
852ea7b9-fd74-4a39-9281-87626e50886b
Farooqi, Javeria
43420ecc-d373-4f72-9918-89df5faceb46
Jory, Surendranath
2624eb24-850a-48f6-b3c6-c96749b87322
Ngo, Thanh
852ea7b9-fd74-4a39-9281-87626e50886b

Farooqi, Javeria, Jory, Surendranath and Ngo, Thanh (2020) Target firm earnings management, acquisition premium and shareholder gains. The International Journal of Accounting, 55 (2), [2050009]. (doi:10.1142/S1094406020500092).

Record type: Article

Abstract

Using a sample of U.S. domestic deals from 1990 to 2016, we find that bidders adjust the amount of premium paid in mergers and acquisitions (M&As) based on the levels of earnings management at target firms. However, the way a firm manipulates earnings upward matters: earnings management via real activities manipulation is more detrimental than discretionary accruals. As a result, target firms that engage in real earnings management receive lower premiums in M&As, while accruals management has no effect on premiums. Correspondingly, we find that the targets' M&A announcement-period cumulative abnormal returns are inversely related to their level of real earnings management, while the returns are not related to accruals management. Further analyses confirm that target shareholders' wealth is not only driven by undervaluation, expected synergy, and managerial hubris, but also reflects bidders' perception of the target firms' earnings quality based on real earnings management.

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MS-14-10-595 Revised Draft July 23- 2019 - Accepted Manuscript
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Accepted/In Press date: 21 August 2019
e-pub ahead of print date: 1 July 2020
Published date: 1 July 2020
Additional Information: Publisher Copyright: © 2020 Board of Trustees, Vernon K. Zimmerman Center, University of Illinois. Copyright: Copyright 2020 Elsevier B.V., All rights reserved.
Keywords: Mergers and acquisitions, discretionary accruals, earnings management, real activities manipulation

Identifiers

Local EPrints ID: 433610
URI: http://eprints.soton.ac.uk/id/eprint/433610
ISSN: 0020-7063
PURE UUID: 2c03bf13-1475-47b3-8b15-c4c257f85a1a
ORCID for Surendranath Jory: ORCID iD orcid.org/0000-0002-8265-0001

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Date deposited: 28 Aug 2019 16:30
Last modified: 28 Apr 2022 06:28

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Author: Javeria Farooqi
Author: Thanh Ngo

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