Director reputation and earnings management: evidence from the British Honours System

This study introduces a novel and methodological enhancement to the literature on the measurement of director reputation and examines the link between director reputation and earnings management. Using hand-collected British Honours System data for 2005-2014, we test two competing hypotheses about the relationship between director reputation and earnings management: the opportunistic hypothesis and the efficient contracting hypothesis. The results support the hypothesis of a positive association between director reputation and abnormal accruals consistent with the opportunistic hypothesis. However, this study also reports evidence suggesting that boards with reputed directors are more likely to report a loss and, thus, less likely to engage in loss avoidance practices, supporting the prediction of the efficient contracting hypothesis. The results are also robust to the inclusion of additional control variables, self-selection bias, and reverse causality that may result from the potential endogeneity of director reputation. The results of this study suggest that director reputation has different implications for different dimensions of earnings management and contributes to the debate on the double-edged implication of director capital alluded to in the literature.