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Journal ArticleDOI

Managerial Overconfidence and Accounting Conservatism: managerial overconfidence

01 Mar 2013-Journal of Accounting Research (Blackwell Publishing Inc)-Vol. 51, Iss: 1, pp 1-30
TL;DR: This paper found that overconfident managers will tend to accelerate good news recognition, delay loss recognition, and generally use less conservative accounting, and test whether external monitoring helps to mitigate this effect.
Abstract: Overconfident managers overestimate IXWXUHUHWXUQVIURPWKHLUILUPV∂�LQYHVWPHQWV��7KXV��ZH� predict that overconfident managers will tend to accelerate good news recognition, delay loss recognition, and generally use less conservative accounting. Furthermore, we test whether external monitoring helps to mitigate this effect. Using measures of both conditional and unconditional conservatism, we find robust evidence of a negative relation between CEO overconfidence and accounting conservatism. We further find that external monitoring does not appear to mitigate this effect. Our findings add to the growing literature on overconfidence and complements findings in Schrand and Zechman (2011) that overconfidence affects financial reporting behavior.
Citations
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Journal ArticleDOI
TL;DR: This article examined the association between chief executive officer (CEO) overconfidence and future stock price crash risk and found that firms with overconfident managers overestimate the returns to their investment projects and misperceive negative net present value (NPV) projects as value creating.
Abstract: This study examines the association between chief executive officer (CEO) overconfidence and future stock price crash risk. Overconfident managers overestimate the returns to their investment projects and misperceive negative net present value (NPV) projects as value creating. They also tend to ignore or explain away privately observed negative feedback. As a result, negative NPV projects are kept for too long and their bad performance accumulates, which can lead to stock price crashes. Using a large sample of firms for the period 1993–2010, we find that firms with overconfident CEOs have higher stock price crash risk than firms with non-overconfident CEOs. The impact of managerial overconfidence on crash risk is more pronounced when the CEO is more dominant in the top management team and when there are greater differences of opinion among investors. Finally, it appears that the effect of CEO overconfidence on crash risk is less pronounced for firms with more conservative accounting policies.

351 citations

Journal ArticleDOI
TL;DR: This article examined how overconfidence affects the properties of management forecasts using both the overoptimism and miscalibration dimensions of overconfidence to generate their predictions, and found that overconfidence increases the likelihood of issuing a forecast and increases the amount of optimism in management forecasts.
Abstract: This paper examines how overconfidence affects the properties of management forecasts. Using both the ‘over-optimism’ and ‘miscalibration’ dimensions of overconfidence to generate our predictions, we examine three research questions. First, we examine whether overconfidence increases the likelihood of issuing a forecast. Second, we examine whether overconfidence increases the amount of optimism in management forecasts. Third, we examine whether overconfidence increases the precision of the forecast. Using both options- and press-based measures to proxy for individual overconfidence we find support for all three research questions.

334 citations

Journal ArticleDOI
TL;DR: This paper examined the association between chief executive officer (CEO) overconfidence and future stock price crash risk and found that firms with overconfident managers overestimate the returns to their investment projects and misperceive negative net present value (NPV) projects as value creating.
Abstract: This study examines the association between chief executive officer (CEO) overconfidence and future stock price crash risk. Overconfident managers overestimate the returns to their investment projects and misperceive negative net present value (NPV) projects as value creating. They also tend to ignore or explain away privately observed negative feedback. As a result, negative NPV projects are kept for too long and their bad performance accumulates, which can lead to stock price crashes. Using a large sample of firms for the period 1993–2010, we find that firms with overconfident CEOs have higher stock price crash risk than firms with nonoverconfident CEOs. The impact of managerial overconfidence on crash risk is more pronounced when the CEO is more dominant in the top management team and when there are greater differences of opinion among investors. Finally, it appears that the effect of CEO overconfidence on crash risk is less pronounced for firms with more conservative accounting policies.

325 citations

Journal ArticleDOI
TL;DR: The authors examined how overconfidence affects the properties of management forecasts using both the "overoptimism" and "miscalibration" dimensions of overconfidence to generate their predictions, and found support for all three research questions.
Abstract: This paper examines how overconfidence affects the properties of management forecasts. Using both the “over-optimism” and “miscalibration” dimensions of overconfidence to generate our predictions, we examine three research questions. First, we examine whether overconfidence increases the likelihood of issuing a forecast. Second, we examine whether overconfidence increases the amount of optimism in management forecasts. Third, we examine whether overconfidence increases the precision of the forecast. Using both options- and press-based measures to proxy for individual overconfidence, we find support for all three research questions.

257 citations

Journal ArticleDOI
TL;DR: In this paper, the authors provide a theoretical and empirical framework that allows them to synthesize and assess the burgeoning literature on CEO overconfidence, and they also provide empirical evidence that overconfidence matters for corporate investment decisions in a framework that explicitly addresses the endogeneity of firms' financing constraints.
Abstract: In this paper, we provide a theoretical and empirical framework that allows us to synthesize and assess the burgeoning literature on CEO overconfidence. We also provide novel empirical evidence that overconfidence matters for corporate investment decisions in a framework that explicitly addresses the endogeneity of firms' financing constraints.

231 citations


Cites background from "Managerial Overconfidence and Accou..."

  • ...…overconfident CEOs overestimate future earnings, they borrow more aggressively against future earnings to avoid missing current earnings forecasts and generally practice less-conservative accounting practices—for example, in delaying recognition of losses (Bouwman 2014; Ahmed and Duellman 2013)....

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References
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Journal ArticleDOI
TL;DR: In this article, the authors investigated the tendency of people to be unrealistically optimistic about future life events and found that degree of desirability, perceived probability, personal experience, perceived controllability, and stereotype saliency would influence the amount of optimistic bias evoked by different events.
Abstract: Two studies investigated the tendency of people to be unrealistically optimistic about future life events. In Study 1, 258 college students estimated how much their own chances of experiencing 42 events differed from the chances of their classmates. Overall, they rated their own chances to be above average for positive events and below average for negative events, ps<.001. Cognitive and motivational considerations led to predictions that degree of desirability, perceived probability, personal experience, perceived controllability, and stereotype salience would influence the amount of optimistic bias evoked by different events. All predictions were supported, although the pattern of effects differed for positive and negative events. Study 2 tested the idea that people are unrealistically optimistic because they focus on factors that improve their own chances of achieving desirable outcomes and fail to realize that others may have just as many factors in their favor. Students listed the factors that they thought influenced their own chances of experiencing eight future events. When such lists were read by a second group of students, the amount of unrealistic optimism shown by this second group for the same eight events decreased significantly, although it was not eliminated.

4,650 citations

Journal ArticleDOI
TL;DR: The authors examine explanations for corporate financing-, dividend-, and compensation-policy choices and find that contracting theories are more important in explaining cross-sectional variation in observed financial, dividend, and compensation policies than either tax-based or signaling theories.

3,969 citations

Journal ArticleDOI
Sudipta Basu1
TL;DR: In this paper, the authors interpret conservatism as resulting in earnings reflecting "bad news" more quickly than "good news" and find that negative earnings changes are less persistent than positive earnings changes.

3,874 citations

Journal ArticleDOI
TL;DR: The hubris hypothesis is advanced as an explanation of corporate takeovers by Jensen and Ruback as mentioned in this paper, who argued that the evidence supports the hubris hypotheses as much as it supports other explanations such as taxes, synergy, and inefficient target management.
Abstract: Despite many excellent research papers, we still do not fully understand the motives behind mergers and tender offers or whether they bring an increase in aggregate market value. In their comprehensive review article (from which the above quote is taken), Jensen and Ruback (1983) summarize the empirical work presented in over 40 The hubris hypothesis is advanced as an explanation of corporate takeovers. Hubris on the part of individual decision makers in bidding firms can explain why bids are made even when a valuation above the current market price represents a positive valuation error. Bidding firms infected by hubris simply pay too much for their targets. The empirical evidence in mergers and tender offers is reconsidered in the hubris context. It is argued that the evidence supports the hubris hypothesis as much as it supports other explanations such as taxes, synergy, and inefficient target management. * The earlier drafts of this paper elicited many comments. It is a pleasure to acknowledge the benefits derived from the generosity of so many colleagues. They corrected several conceptual and substantive errors in the previous draft, directed my attention to other results, and suggested other interpretations of the empirical phenomena. In general, they provided me with an invaluable tutorial on the subject of corporate takeovers. The present draft undoubtedly still contains errors and omissions, but this is due mainly to my inability to distill and convey the collective knowledge of the profession. Among those who helped were C. R. Alexander, Peter Bernstein, Thomas Copeland, Harry DeAngelo, Eugene Fama, Karen Farkas, Michael Firth, Mark Grinblatt, Gregg Jarrell, Bruce Lehmann, Paul Malatesta, Ronald Masulis, David Mayers, John McConnell, Merton Miller, Stephen Ross, Richard Ruback, Sheridan Titman, and, especially, Michael Jensen, Katherine Schipper, Walter A. Smith, Jr., and J. Fred Weston. I also benefited from the comments of the finance workshop participants at the University of Chicago, the University of Michigan, and Dartmouth College, and of the referees.

3,795 citations

Journal ArticleDOI
TL;DR: This paper pointed out that the "quality" of earnings is a function of the firm's fundamental performance and suggested that the contribution of a firms fundamental performance to its earnings quality is suggested as one area for future work.
Abstract: Researchers have used various measures as indications of "earnings quality" including persistence, accruals, smoothness, timeliness, loss avoidance, investor responsiveness, and external indicators such as restatements and SEC enforcement releases. For each measure, we discuss causes of variation in the measure as well as consequences. We reach no single conclusion on what earnings quality is because "quality" is contingent on the decision context. We also point out that the "quality" of earnings is a function of the firm's fundamental performance. The contribution of a firm's fundamental performance to its earnings quality is suggested as one area for future work.

2,633 citations

Trending Questions (1)
Does Accounting Conservatism Mitigate the Shortcomings of CEO Overconfidence?

The paper does not directly address whether accounting conservatism mitigates the shortcomings of CEO overconfidence.