Why do Corporate Managers Misstate Financial Statements? The Role of Option Compensation and Other Factors

Posted: 8 Apr 2007 Last revised: 19 Feb 2008

See all articles by Jap Efendi

Jap Efendi

University of Texas at Arlington

Anup Srivastava

University of Calgary - Haskayne School of Business

Edward P. Swanson

Texas A&M University - Mays Business School; Mays Business School, Texas A&M University

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Abstract

We investigate the incentives that led to the rash of restated financial statements at the end of the 1990s market bubble. We find that the likelihood of a misstated financial statement increases greatly when the CEO has very sizable holdings of in-the-money stock options. Misstatements are also more likely for firms that are constrained by an interest-coverage debt covenant, that raise new debt or equity capital, or that have a CEO who serves as board chair. Our results indicate that agency costs increased (Jensen, 2005a) as substantially overvalued equity caused managers to take actions to support the stock price.

Keywords: restatements, stock options, executive compensation, agency theory, overvalued equity

JEL Classification: M41, M43, M52, J33, G32, G34

Suggested Citation

Efendi, Jap and Srivastava, Anup and Swanson, Edward P., Why do Corporate Managers Misstate Financial Statements? The Role of Option Compensation and Other Factors. Journal of Financial Economics (JFE), Vol. 85, No. 3, pp. 667-708, September, Available at SSRN: https://ssrn.com/abstract=978059

Jap Efendi

University of Texas at Arlington ( email )

415 S West St Apt no 205
Arlington, TX 76019
United States

Anup Srivastava

University of Calgary - Haskayne School of Business ( email )

2500 University Drive, NW
Calgary, Alberta T2N 1N4
Canada

Edward P. Swanson (Contact Author)

Texas A&M University - Mays Business School ( email )

338 Tuckerman Avenue
Middletwon, RI 02842
United States
979-739-4414 (Phone)

Mays Business School, Texas A&M University ( email )

338 Tuckerman Avenue
Middletown, RI 02842
United States
979-739-4414 (Phone)

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