Abstract
ABSTRACT Objective: this study aims to verify if companies that practice equity market timing have higher earnings management levels around the stock issue period. Method: we used a sample of 68 seasoned equity offerings (SEOs) in Brazil from 2004-2015. First, we ranked the sample among companies that used market timing (timers) behavior in the SEOs and those that did not (non-timers). Second, we estimated each company’s earnings management levels by the Modified Jones and Modified Jones with ROA models. Finally, we tested the relationship between earnings management and equity market timing using a linear regression model. Results: the results show that the timers managed earnings more intensively in the quarters around SEOs than the non-timers. This happens to increase net income and consequently improve profitability ratios. Therefore, to explore opportunity windows, managers can inflate accounting profit through accruals and influence the market’s ability to correctly price shares. Conclusion: Brazilian companies practice earnings management as a way of exploiting opportunity windows in the stock market. The conclusion reinforces the need for a careful analysis of the company’s profits by investors, analysts, auditors, and regulators while allowing efforts to avoid such practices through compliance, governance, and regulation.
Highlights
According to the market timing theory, firms seek to take advantage of temporarily favorable market conditions, and equity market timing refers to the practice of issuing shares at high prices and repurchasing at low (Baker & Wurgler, 2002)
The present study focuses on earnings management and its motivations based on the stock market
The results are presented for the two earnings management proxies, the Modified Jones (EM_1) and the Modified Jones with return on assets (ROA) (EM_2) models
Summary
According to the market timing theory, firms seek to take advantage of temporarily favorable market conditions, and equity market timing refers to the practice of issuing shares at high prices and repurchasing at low (Baker & Wurgler, 2002). There are two primary motivators of the market timing behavior: equity mispricing and temporal variation of adverse selection costs Both factors are due to the excess of investors’ optimism regarding the stock market conditions and referring to companies that have presented evolution in their profitability (Alti, 2006; Korajczyk, Lucas, & McDonald, 1991; Loughran & Ritter, 1995; Rangan, 1998; Ritter, 1991). Given the favorable economic scenario and high expectations of the last decades, Brazilian companies issued shares to take advantage of the existing ‘opportunity windows’ (Albanez, 2015; Albanez & Lima, 2014; Gomes, Magnani, Albanez, & Valle, 2019; Rossi Junior & Marotta, 2010). These equity issues were more likely to occur after the announcement of above-expected earnings and favorable prospects for the company’s future, especially in the quarters before the issuance of shares, implying positive abnormal returns in the periods before issuance (Domingos, Ponte, Paulo, & Alencar, 2017; Gomes et al, 2019)
Sign-in/Register to view highlights & summary Talk to us
Join us for a 30 min session where you can share your feedback and ask us any queries you have
Schedule a callDisclaimer: All third-party content on this website/platform is and will remain the property of their respective owners and is provided on "as is" basis without any warranties, express or implied. Use of third-party content does not indicate any affiliation, sponsorship with or endorsement by them. Any references to third-party content is to identify the corresponding services and shall be considered fair use under The CopyrightLaw.
