You might think that company managers behave more honestly when they know they’re being watched. More analysts, more institutional investors, more nosy reporters equals reliable financial reporting, right? Not so fast, say three finance researchers at the Massachusetts Institute of Technology and the University of Pennsylvania.
Convention has it that misreporting should decline steadily as the information about a company grows. But in a provocative working paper, the professors show that managers seem tempted to overstate earnings as their companies gain attention and the rewards from lying increase. The temptation to fudge earnings rises like an inverted U, only subsiding among the most-scrutinized companies, in their study of more than 1,000 restatements over about a decade.
