The purpose of this study is to verify whether the psychological characteristics attributed to individual managers are factors that determine the nature of earnings. Specifically, we analyze the effect of managerial confidence on management behavior related to earnings management and the earnings persistence, which is one of the characteristics of earnings.
Previous studies have reported that when managers are overconfident, they tend to overestimate their own future cash flows, which distorts managerial behavior, including investment behavior. In this study, we assume that managers with a high degree of self-confidence perceive objectively overestimated earnings as achievable permanent earnings, and set the following two hypotheses: (1) Overconfident managers implement incremental earnings management to signal subjective (overestimated) earnings. (2) Earnings persistence is low because the permanent earnings assumed by overconfident managers are unlikely to be realized.
The above hypotheses were verified by measuring the level of manager's confidence based on manager's performance forecast values, which are abundantly available in Japan. As a result, a positive relationship was found between the level of manager's confidence and incremental earnings management, and a negative relationship was found between the level of manager's confidence and the earnings persistence.
