Earnings Management and Executive Remuneration

Abstract

This Master's thesis aims to examine the relation between earnings management and the cashbased bonus in public Danish companies. To achieve this the thesis compares the earnings management measures of REM, AEM and total earnings management to the cash-based bonus. The measures of earnings management are based on the approaches of Dechow et al. (1995), Roychowdhury (2006) & Burgstahler et al. (2006). Initially, the thesis outlines the theoretical framework for earnings management. Besides for earnings management theory, the agent principal problem by Jensen (1976) is outlined as an explanation to why earnings management could occur. In the analysis the measurements of REM, AEM and total earnings management is calculated. The measurements are then used as the dependent variable in regressions that have the potential cash-based bonus of the CEO and control variables as the independent variables. The results of the regressions are mixed, however in several of the regressions the coefficient for the cashbased bonus is negative and significant, which indicates that a higher cash-based bonus makes the company less likely to use earnings management. The regression contradicts the preconception that a high cash-based bonus makes the company more likely to use earnings management. The findings of the analysis are discussed in the context of the theoretical framework. The discussion concludes that the findings are contradicting the existing research on the relationship of earnings management and bonus, however the findings have a degree of uncertainty. The findings are based on a small data sample and results are not consistent throughout the analysis, which both makes the results more uncertain. The thesis concludes that there are indications of a cash-based bonus resulting in less earnings management in public Danish compagnies, however this cannot be determined definitively due to uncertainties and will require further research.