The Boss Behind the Scenes: Nonfamily Leadership and Earnings Management

Abstract

We examine the effect of nonfamily leadership in family firms, whereby family members do not act as either a board chair or a CEO, on corporate earnings management. We find that firms with nonfamily leadership conduct significantly more earnings management than firms with family leadership, although this effect can be alleviated by more effective internal control and a stronger reputation concern. Additional analyses show that the increased related-party transactions can be one mechanism through which the nonfamily leadership increases earnings management. We further find that nonfamily leaders in family firms are on average weaker but receive higher (excess) payment than their peers in nonfamily firms, all consistent with the role of the nonfamily member as a marionette for the family’s misbehaviors. Moreover, earnings management increases with the degree of family noninvolvement and is mainly driven by nonfamily chairs rather than the CEOs. Overall, our paper suggests that not having a family leader aggravates incentives for the controlling family to manage earnings to realize private benefits.

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