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Introduction
Real earnings management (REM) is a managerial strategy involving with altering timing or patterns of normal business activities that include operating activities (e.g. sales, production, discretionary expenditure), financing activities (e.g. stock option issuances, stock repurchases) and investing activities (e.g. long-term asset acquisition or disposition, research and development (R&D) expenditure) to meet a short-term earnings target. Graham et al. (2005) documented that the REM strategy was exploitatively utilized by chief executive officers (CEO) in the USA, despite adverse effects on future cash flows. According to Kim and Park (2013), Kim and Sohn (2013), Commerford et al. (2016), Abad et al. (2016), Kothari et al. (2016) and Mellado-Cid et al. (2017), real activity manipulation contributes to higher risk premiums demanded by investors, lower post-seasonal equity offering (SEO) performance, auditors’ discomfort, elevated information asymmetry and impaired firm value. REM also incurs greater agency costs.
An ideal leadership structure should help forge a mutual collaboration between CEOs and board members that averts prioritizing myopic earnings strategies over long-term growth and competitiveness. Under agency theory, the CEO-chairman role combination establishes dependence, decreases board monitoring effectiveness and increases CEO entrenchment (Daily and Dalton, 1997). The monopoly of power and control of CEO duality is often associated with outperformance, bankruptcy risk and overly impressive financial reports (Rechner and Dalton, 1991; Boyd, 1995; Daily and Dalton, 1994; Davidson et al., 2004), thus inducing real activity manipulation to maintain the status quo. On the other hand, stewardship theory argues that the combined role of CEO and chairman restrains agency costs, informational costs and managerial succession costs (Brickley et al., 1997). Interestingly, no correlation exists between the dual leadership structure and accrual-based earnings management (Qaiser Rafique and Abdullah Al, 2016).
In competitive CEO labor market, corporate performance is a crucial barometer of CEO capabilities and oftentimes leads to myopic business strategies to manipulate the short-term earnings. Moreover, high expectations of the incoming CEOs to outperform the outgoing CEOs inadvertently encourage REM, especially when the new CEOs’ equity incentives are unaligned with the interests of shareholders (Fabrizi and Parbonetti, 2017). According to Datta et al. (2003), new CEOs with openness characters would challenge the conventional practices with new and untried strategies, e.g. changes in adverting and R&D policies. This is consistent with Alderson