TY - JOUR

T1 - Earnings baths by CEOs during turnovers

T2 - Empirical evidence from German savings banks

AU - Bornemann, Sven

AU - Kick, Thomas

AU - Pfingsten, Andreas

AU - Schertler, Andrea

PY - 2015/4

Y1 - 2015/4

N2 - Existing research documents that incoming CEOs in non-financial firms tend to take an "earnings bath". They reduce their first year's profits through discretionary expenses, blame the "bad outcome" on their predecessors, lower the performance benchmark, and save income for subsequent accounting periods. Identifying such an earnings bath for incoming CEOs in banks requires us to disentangle under-provisioning, which may have triggered the turnover event, and the earnings bath. For a sample of German savings banks over the period 1993-2012, we find that incoming CEOs increase discretionary expenses and that this increase is stronger for incoming CEOs from outside the bank than for insiders. We further show that CEOs coming from outside increase discretionary expenses during their first year in charge even if the default risk of the bank is low and the stock of risk provisions relative to risk exposure is high. Therefore, we conclude that the effects are only partially driven by incoming CEOs who rectify discretionary expenses by insufficient existing risk provisions, and that big bath accounting plays an important role in explaining discretionary expenses during CEO turnovers.

AB - Existing research documents that incoming CEOs in non-financial firms tend to take an "earnings bath". They reduce their first year's profits through discretionary expenses, blame the "bad outcome" on their predecessors, lower the performance benchmark, and save income for subsequent accounting periods. Identifying such an earnings bath for incoming CEOs in banks requires us to disentangle under-provisioning, which may have triggered the turnover event, and the earnings bath. For a sample of German savings banks over the period 1993-2012, we find that incoming CEOs increase discretionary expenses and that this increase is stronger for incoming CEOs from outside the bank than for insiders. We further show that CEOs coming from outside increase discretionary expenses during their first year in charge even if the default risk of the bank is low and the stock of risk provisions relative to risk exposure is high. Therefore, we conclude that the effects are only partially driven by incoming CEOs who rectify discretionary expenses by insufficient existing risk provisions, and that big bath accounting plays an important role in explaining discretionary expenses during CEO turnovers.

KW - Economics

KW - Big bath accounting

KW - CEO turnover

KW - Discretionary expenses

KW - Earnings management

KW - Financial institutions

UR - http://www.scopus.com/inward/record.url?scp=84921860423&partnerID=8YFLogxK

U2 - 10.1016/j.jbankfin.2014.12.005

DO - 10.1016/j.jbankfin.2014.12.005

M3 - Journal articles

AN - SCOPUS:84921860423

VL - 53

SP - 188

EP - 201

JO - Journal of Banking and Finance

JF - Journal of Banking and Finance

SN - 0378-4266

IS - 4

ER -