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Investor Protection, Income Smoothing, and Earnings Informativeness
Steven F. Cahan, University of Auckland
Guoping Liu, Ryerson University
Jerry Sun, University Of Windsor
ABSTRACT. This study investigates whether investor protection affects the efficient communication of private information about future prospects through income smoothing. While prior research suggests that the level of earnings management differs between high and low investor protection countries, we examine whether the motivation for earnings management differs between high and low investor protection countries. Using firm-level data, we document evidence supporting the hypothesis that earnings informativeness is more positively associated with income smoothing in countries with strong investor protection than in countries with weak investor protection. Our findings suggest that managers in weak investor protection countries are more likely to use income smoothing for opportunistic reasons while managers in strong investor protection countries are more likely to use income smoothing to convey their private information about future earnings.
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