The role of earnings management via real activities and accrual management in PIPEs

Private investment in public equity (PIPE) under Regulation D has played an increasingly important role in capital formation for U.S. listed firms. We study the role of earnings management around PIPE transactions and the relative use of real versus accrual-based earnings management. It is unclear whether the documented earnings management strategies around public equity offerings (e.g., Cohen and Zarown in J Account Econ 50:2–19, 2010; Kothari et al. in Account Rev 91(2):559–586, 2016) apply to private placements given the significant differences between the two ways to raise capital. PIPEs, relative to public offerings, have minimal registration requirements, more accredited investors, shorter completion times, and less external monitoring by the SEC, auditors, and analysts. We find firms engage in significantly more real earnings management relative to accrual-based earnings management in PIPE years compared to non-PIPE years, however, overall earnings management is not different because the higher incidence of real earnings management is offset by a lower incidence of accrual-based earnings management. In addition, we find when PIPE investors have a stronger incentive to monitor earnings management (i.e. when investors cannot price protect against stock price declines by shorting the PIPE stock), there is less real earnings management.