Foreign Equity Ownership and Income Smoothing

Abstract

We examine whether foreign investors influence a local firm's income smoothing, using a sample of Korean firms from 2000 to 2013. We hypothesize that given innate informational difficulties of overseas investments, foreign investors demand less noisy and more sustainable earnings, and to satisfy this demand, managers have strong incentives to smooth earnings. We find that foreign investors' ownership is positively related to the level of earnings smoothing. We also find that earnings smoothing improves earnings informativeness in the presence of high foreign-investor ownership, consistent with the notion that foreign investors play an important role in local firms' information environments.

Income smoothing and firm value in a regulated market: the moderating effect of market risk

“…More so, this suggests that smoothen practices are seen to signal private information by managers to investors, thus, income smoothing is perceived from the information view rather than the garbling (managerial opportunistic) view. This result supports the findings of Allayannis and Simko (2009), Bitner and Dolan (1996), Habib et al (2011), De Jong et al (2013), Jung et al, (2020, Makela (2012), Takasu and Nakano (2012), and Yang and Zhu (2014) that found smoothing of earnings improves the informativeness of earnings and signal future earnings persistence to investors.…”

“…The result of the interaction of the variables arose from findings of previous studies on how environmental uncertainty might motivate income smoothing practice or behavior. In high market volatility, investors' prefer stable earnings as this gives assurance to investors on the financial position of the firms (Chen et al, 2020;Cvetanovska and Kerekes, 2015;Habib et al, 2011;Jung et al, 2020;Takasu and Nakano, 2012).…”

“…Demsetz and Villalonga (2001) argue that higher market risk (beta) indicates better prospects for managers to profit from inside information and for outside shareholders to engage in profitable monitoring of managers. There are countless reasons why managers engage in income smoothing; this includes reaching bonus targets, protect their job, meeting performance goals, improving firm value, meeting debt covenants, reduce tax liabilities and political costs and enhancing the reliability of financial forecasts (Chen et al, 2020;Flourien, 2019;Jung et al, 2020;Monjed and Ibrahim, 2020;Novianti and Firmansyah, 2020;Trueman and Titman, 1988). The capital market tends to appreciate companies that report highly stable earnings because it is easier for future earnings of such companies to be forecast more accurately.…”

Earnings Quality and Foreign Investors in Gulf Cooperation Council Countries

“…Basically, the information environment in GCC is categorized as less informative, so foreign investors encounter difficulties when trying to understand whether the earnings smoothness practices improve earnings informativeness. This result is not in line with Jung et al (2020) which found that foreign investors demand earnings smoothness to improve the earnings informativeness in Korea.…”

“…The result of this measure is not in line with Jung et al (2020) which found a positive association between FI and income smoothing as foreign investors demand more sustainable earnings, and this can be done by earnings smoothness. This result is also not in line with Rountree et al (2008) which found that investors evaluate earnings smoothness negatively.…”