Do takeover defenses impair equity investors perception of Higher Quality Earnings?/ Lee-Seok Hwang

Prior studies show that managerial entrenchment deteriorates the credibility of earnings, hence reducing the value relevance of earnings. However, prior literature documents that the likelihood of earnings management is lower in firms with more antitakeover provisions because entrenched managers pursue a “quiet life” instead of striving to maximize wealth of shareholders. Despite “higher quality” earnings of such firms, the authors find that takeover protection impairs the perception of equity investors on earnings quality. The authors attribute this contradictory result to the failure of management to take risky but value-enhancing projects owing to pursuits of a quiet life. The authors also expect and find that investments of more defensive firms are valued at a discount, suggesting that equity investors expect such firms to take less advantage of their growth potentials. The authors corroborate this result by showing lower variability in firm value of more defensive firms.