Earnings management, market discounts and the performance of private equity placements

• Published in: Journal of banking & finance 2010-08, Vol.34 (8), p.1922-1932
• Main Authors: Chen, An-Sing, Cheng, Lee-Young, Cheng, Kuang-Fu, Chih, Shu-Wei
• Format: Article
• Language: English
• Subjects: Capital market; Earnings; Earnings management; Equity; Financial economics; Financial institutions; Financial systems; Investments; Investors; Long-run stock performance; Operating performance; Private equity; Private equity placements; Private equity placements Earnings management Long-run stock performance Operating performance; Private investment; Private sector; Studies
• ISSN: 0378-4266; 1872-6372
• DOI: 10.1016/j.jbankfin.2009.12.013

Private equity placement data allow us to determine whether sophisticated investors can uncover the true value of firms. This can be done by defining sophisticated investors as those who meet the stringent participation requirements of the private equity market. Our results show private equity issuing firms overstate their earnings in the quarter preceding private equity placement announcements and that sophisticated investors do not ask for a fair discount when purchasing the shares of the private issuing firms. We also find evidence showing that the reversal of the effects of pre-issue earnings management is a significant determinant of the long-term performance of private issues. Results further show that post-issue stock performance and operating performance of firms using “aggressive” earnings management significantly underperform those using more “conservative” earnings management.