Pass-through business entity choice and earnings management: evidence from UK real estate investment trust conversion
Abstract
This empirical study innovatively investigates how the choice of a pass-through business entity and corresponding regulatory regime influence firms’ earnings management (EM) behaviors by testing on the UK Real Estate Investment Trust (REIT) conversion. A substantial proportion of UK non-REIT publicly traded property companies (LPCs) have chosen to become REITs since the UK REITs were launched in 2007. We conduct a series of tests on a database containing UK LPCs and REITs from 2000 to 2019 and find that conversion into pass-through business entity regimes like REITs that enjoy more favorable tax treatment but face more restrictions leads to more accrual earnings management (AEM) activity, but less real earnings management (REM) activity.
Keyword : pass-through entity, REIT, accrual earnings management, real earnings management, REIT regulatory regime
How to Cite
Liang, J., Dong, Z., & Zheng, M. (2022). Pass-through business entity choice and earnings management: evidence from UK real estate investment trust conversion. International Journal of Strategic Property Management, 26(3), 188-202. https://doi.org/10.3846/ijspm.2022.16834
This work is licensed under a Creative Commons Attribution 4.0 International License.
References
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Bhattacharya-Mis, N., & Lamond, J. (2016). Risk perception and vulnerability of value: a study in the context of commercial property sector. International Journal of Strategic Property Management, 20(3), 252–264. https://doi.org/10.3846/1648715X.2016.1188174
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Cheng, Q., & Warfield, T. D. (2005). Equity incentives and earnings management. The Accounting Review, 80(2), 441–476. https://doi.org/10.2308/accr.2005.80.2.441
Clark, S., Hackemann, T., Mesmin, O., Roche, M., & Road, T. (2010). Progress on REIT regimes in Europe. In Global trends in real estate finance. Blackwell Publishing. https://doi.org/10.1002/9781444315301.ch3
Cohen, D. A., & Zarowin, P. (2010). Accrual-based and real earnings management activities around seasoned equity offerings. Journal of Accounting and Economics, 50(1), 2–19. https://doi.org/10.1016/j.jacceco.2010.01.002
Cohen, D. A., Dey, A., & Lys, T. Z. (2008). Real and accrual‐based earnings management in the pre‐and post‐Sarbanes‐Oxley periods. The Accounting Review, 83(3), 757–787. https://doi.org/10.2308/accr.2008.83.3.757
Danielsen, B., Harrison, D., Van Ness, R., & Warr, R. (2014). Liquidity, accounting transparency, and the cost of capital: evidence from real estate investment trusts. Journal of Real Estate Research, 36(2), 221–252. https://doi.org/10.1080/10835547.2014.12091389
Dechow, P. M., Sloan, R. G., & Sweeney, A. P. (1995). Detecting earnings management. Accounting Review, 70(2), 193–225.
Degeorge, F., Patel, J., & Zeckhauser, R. (2005). Earnings management to exceed thresholds. Princeton University Press. https://doi.org/10.1515/9781400829125-021
Deng, X., & Ong, S. E. (2018). Real earnings management, liquidity risk and REITs SEO dynamics. The Journal of Real Estate Finance and Economics, 56(3), 410–442. https://doi.org/10.1007/s11146-017-9649-5
Derwall, J., Huij, J., Brounen, D., & Marquering, W. (2009). REIT momentum and the performance of real estate mutual funds. Financial Analysts Journal, 65(5), 24–34. https://doi.org/10.2469/faj.v65.n5.4
Dong, Z. (2012). Capital structure decisions of LPTs in a small economy. Journal of Property Investment & Finance, 30(5), 493–504. https://doi.org/10.1108/14635781211256756
Edelstein, R. H., Liu, P., & Tsang, D. (2008). Real earnings management and dividend payout signals: a study for U.S. real estate investment trusts. In CAAA 2008 Annual Conference (pp. 1–40). https://doi.org/10.2139/ssrn.1079984
Edwards, T. (1999). REITs modernized. National Association of Real Estate Investment Trusts. https://www.reit.com/sites/default/files/media/Portals/0/Files/Nareit/htdocs/policy/government/RMA-2.pdf
European Public Real Estate Association. (n.d.). Global REIT survey. Retrieved October 19, 2021, from https://www.epra.com/public-affairs/global-reit-survey
Feng, Z., Ghosh, C., & Sirmans, C. (2007). On the capital structure of real estate investment trusts (REITs). The Journal of Real Estate Finance and Economics, 34(1), 81–105. https://doi.org/10.1007/s11146-007-9005-2
Franklin, E. H. (2015). A rational approach to business entity choice. Kansas Law Review, 64, 573–662.
Giambona, E., Harding, J. P., & Sirmans, C. (2008). Explaining the variation in REIT capital structure: the role of asset liquidation value. Real Estate Economics, 36(1), 111–137. https://doi.org/10.1111/j.1540-6229.2008.00209.x
Glascock, J. L., Lu, C., & So, R. W. (2000). Further evidence on the integration of REIT, bond, and stock returns. The Journal of Real Estate Finance and Economics, 20(2), 177–194. https://doi.org/10.1023/A:1007877321475
Gunny, K. A. (2010). The relation between earnings management using real activities manipulation and future performance: evidence from meeting earnings benchmarks. Contemporary Accounting Research, 27(3), 855–888. https://doi.org/10.1111/j.1911-3846.2010.01029.x
Hainmueller, J. (2012). Entropy balancing for causal effects: a multivariate reweighting method to produce balanced samples in observational studies. Political Analysis, 20(1), 25–46. https://doi.org/10.1093/pan/mpr025
Healy, P. M., & Palepu, K. G. (2001). Information asymmetry, corporate disclosure, and the capital markets: a review of the empirical disclosure literature. Journal of Accounting and Economics, 31(1), 405–440. https://doi.org/10.1016/S0165-4101(01)00018-0
Jadevicius, A., Sloan, B., & Brown, A. (2017). Century of research on property cycles: a literature review. International Journal of Strategic Property Management, 21(2), 129–143. https://doi.org/10.3846/1648715X.2016.1255273
Jensen, M. C., & Meckling, W. H. (1976). Theory of the firm: managerial behavior, agency costs and ownership structure. Journal of Financial Economics, 3(4), 305–360. https://doi.org/10.1016/0304-405X(76)90026-X
Jones, J. J. (1991). Earnings management during import relief investigations. Journal of Accounting Research, 29(2), 193–228. https://doi.org/10.2307/2491047
Jones, K. L., Krishnan, G. V., & Melendrez, K. (2008). Do models of discretionary accruals detect actual cases of fraudulent and restated earnings? An empirical evaluation. Contemporary Accounting Research, 25(2), 499–531. https://doi.org/10.1506/car.25.2.8
Kara, A., Karimov, N., & Nguyen, A. P. (2021). Brexit referendum and the U.K. securitization market. Applied Economics Letters, 28(13), 1092–1097. https://doi.org/10.1080/13504851.2020.1798340
Keating, A. S., & Zimmerman, J. L. (1999). Depreciation-policy changes: tax, earnings management, and investment opportunity incentives. Journal of Accounting and Economics, 28(3), 359–389. https://doi.org/10.1016/S0165-4101(00)00004-5
King, G., & Nielsen, R. (2019). Why propensity scores should not be used for matching. Political Analysis, 27(4), 435–454. https://doi.org/10.1017/pan.2019.11
Koh, P. S. (2003). On the association between institutional ownership and aggressive corporate earnings management in Australia. The British Accounting Review, 35(2), 105–128. https://doi.org/10.1016/S0890-8389(03)00014-3
Koo, K. M., & Liang, J. (2021). The effect of bilingual education on housing price-a case study of bilingual school conversion. The Journal of Real Estate Finance and Economics, 62(4), 629–664. https://doi.org/10.1007/s11146-020-09754-9
Kothari, S. P., Leone, A. J., & Wasley, C. E. (2005). Performance matched discretionary accrual measures. Journal of Accounting and Economics, 39(1), 163–197. https://doi.org/10.1016/j.jacceco.2004.11.002
Kunze, F., Basse, T., Gonzalez, M. R., & Vornholz, G. (2020). Forward-looking financial risk management and the housing market in the United Kingdom: is there a role for sentiment indicators? Journal of Risk Finance, 21, 659–678. https://doi.org/10.1108/JRF-10-2019-0191
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