We explain why a firm may smooth reported earnings. Greater earnings volatility leads to a bigger informational advantage for informed investors over uninformed investors. If sufficiently many current shareholders are uninformed and may need to trade in the future for liquidity reasons, an increase in the volatility of reported earnings will magnify these shareholders' trading losses. They will, therefore, want the manager to smooth reported earnings as much as possible. Empirical implications are drawn out that link earnings smoothing to managerial compensation contracts, uncertainty about the volatility of earnings, and ownership structure.
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Paper provided by EconWPA in its series Finance with number
0411021.
References listed on IDEAS Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
Boot, Arnoud W A & Thakor, Anjan V, 1993.
" Security Design,"
Journal of Finance,
American Finance Association, vol. 48(4), pages 1349-78, September.
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Arnoud W A Boot & Anjan V Thakor, 1992.
"Security Design,"
CEPR Financial Markets Paper
0020, European Science Foundation Network in Financial Markets, c/o C.E.P.R, 53--56 Great Sutton Street, London EC1V 0DG.
Cited by: (explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)