Do institutional shareholders deter earnings management in banks?

Abstract:

This paper highlights the relationship between institutional ownership and earnings management in banks. By using a sample of 738 U.S. banks for the period from 1998 to 2008, the research tests if total institutional shareholders can deter earnings management in banks, and whether domestic or foreign institutional shareholders have more negative impact on earnings management. The research findings suggests that institutional shareholders are deterrents to earnings management in banks. Thus, regulatory policies that encourage institutional investors to participate in corporate governance are in the interest of the different market participants. Also, the results shows that domestic shareholders are better monitors of earnings management than foreign shareholders in banks. This result support the argument that in non-financial firms domestic shareholders have more efficient supervisory role than foreign shareholders because of their proximity and their arm length relationship with companies. The research adds additional tests for the impact of the Sarbanes Oxley Act (2002) on shareholders activism in the U.S. and find evidence suggesting that the introduction of this act has improved institutional shareholders’ role as monitors of earnings management.