Accounting for Earnings Manipulation
Don't think companies that lard chief executives pay packages with equity incentives are at risk of earnings manipulation? Accounting firms aren't taking any chances.
Including stock options, restricted stock and the like in compensation is meant to align management incentives with what's best for shareholders. The CEO whose future wealth depends on how well the firm's stock performs will think twice before doing anything rash, the thinking goes.
Yet CEOs with hefty stock packages can also have an incentive to juice results, although studies examining this issue have been somewhat inconclusive.
But a forthcoming paper in Contemporary Accounting Research by Yongtae Kim, Haidan Li and Siqi Li of Santa Clara University suggests accounting firms think the risk is real. Examining a large sample of firms, the three found that the more sensitive CEOs' wealth was to volatility in their companies' stock, the more accounting firms tended to charge for audits.
One reason behind that might be that auditors feel like they have to spend more time digging around for accounting irregularities. Another might be that they're more worried about missing those and getting sued, demanding higher payment for taking on that risk.
Stuart Don Levy
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