The Inside Job: Share Pledges By Insiders And Earnings Management
Speaker(s) Pranav Singh, Gies College of Business, University of Illinois at Urbana-Champaign Publication CAFRAL Conference room on Mezzanine Floor, Main Building. Reserve Bank of India, Fort, Mumbai 400 001

The study creates the first comprehensive database of share pledges by insiders in the U.S. to reveal the prevalence of this practice and its role in encouraging earnings management. I find that, during the fiscal years 2006 to 2014, insiders at one of every three S&P 1500 firms pledged their ownership in the firm as collateral to obtain loans at least once. I exploit a 2012 market-wide advisory against share pledges by Institutional Shareholder Services, the largest proxy advisory firm, as a quasi-natural experiment. A difference-in-differences estimation reveals that, after the shock, insiders curtailed share pledge activity by approximately 40% and firms with share pledges reduced earnings manipulation by an average 15% of their reported profits. The results suggest that share pledges distort the incentives of insiders and motivate them to inflate earnings.

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