Earnings Smoothing, Cash Flow Volatility, and CEO Cash Bonus

Somnath Das · Keejae P. Hong · Kyonghee Kim

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Auditing, Earnings Management, Governance Corporate Finance and Governance Accounting and Organizational Management

Abstract

Abstract Prior studies generally relate managers’ decisions to smooth earnings to their desire to maximize their overall compensation and to smooth their consumption. However, earnings smoothing could also be driven by the firm's expected benefits from reporting a smooth earnings stream. Our paper provides empirical support for the latter explanation of earnings smoothing. Specifically, we find that while CEO bonus on average increases with earnings smoothing, the increase is larger when the firm's cash flow volatility is higher. Further, CEO bonus is shielded from the negative effects of lower earnings arising from the need to report a smoother earnings stream.

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References

2005Performance matched discretionary accrual measures 2005The economic implications of corporate financial reporting 1985The Structure of Corporate Ownership: Causes and Consequences 2003Earnings management and investor protection: an international comparison 1999Corporate governance, chief executive officer compensation, and firm performance 2010Understanding earnings quality: A review of the proxies, their determinants and their consequences 1992The investment opportunity set and corporate financing, dividend, and compensation policies 1985The effect of bonus schemes on accounting decisions

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