Institutional investor type, earnings management and benchmark beaters

This paper classifies institutional investors into transient or long-term by their investment horizons to examine the association between institutional investor type and firms’ discretionary earnings management strategies in two mutually exclusive settings – firms that (do not) use accruals to meet/beat earnings targets. The results support the view that long-term institutional investors constrain accruals management among firms that manage earnings to meet/beat earnings benchmarks. This suggests long-term institutional investors can mitigate aggressive earnings management among these firms. Transient institutional ownership is not systematically associated with aggressive earnings management and is evident only among firms that manage earnings to meet/beat their earnings benchmarks. This indicates transient institution-associated managerial myopia may not be as prevalent as posited by critics. This study highlights the importance of explicitly considering the type of institutional investor and the specific setting when investigating the association between institutional ownership and corporate earnings management.