Shareholder activism and earnings management: Evidence from Kenya

Abstract

Earnings management has in the recent past attracted a significant scholarly attention, especially in the wake of global financial misstatements which is detrimental to the firm stakeholders who rely majorly on the financial reports for decision making. In response to this shareholder activism has sprouted in the modern organizational setup where active shareholders directly engage the management on issues about financial reporting. Shareholders' role within the company is grounded by the agency theory. A panel data analysis was conducted using secondary data collected from the yearly audited financial reports of 65 firms registered at the Nairobi Stock Exchange. The research concentrated on the firms that were consistently in operation at the NSE for the periods between 2004 and 2017, with an overall of 490 firm-annum observations. An explanatory research design was used in the study as a guide towards arriving at the conclusions. Statistical techniques, specifically the mean, standard deviation, correlation and regression were used to analyze the data. Harris-Tzavalis test was used to check for unit root, while Hausma’s test was employed to choose between random and fixed effect models. Shareholder activism is a significant corporate governance mechanism that performs a vital role in earnings management. The findings indicate that blockholder activism performs a very vital role in the firm by lowering earnings management (β= -2.546, p<0.05). As suggested by the agency theory, blockholder activism is a desirable monitoring mechanism in a firm meant to reduce the self-interests of the management. Institutional shareholder activism was found to increase (β=3.01, p<0.05) earnings management due to their transient nature. It is further recommended for the institutional investors to refrain from exerting more pressure for short-term performance by the management since it results in earnings management.