The Effects of Controlling Shareholders’ Share Pledging on Corporate Decision: Focusing on Earning Management

This study examines the effect of share pledging by controlling shareholders on earnings management. Share pledging is a strategy in which shareholders use their owned shares as collateral to secure personal loans, enhancing their liquidity while maintaining control of the company. However, if the stock price drops significantly below a certain threshold, a margin call can be triggered, and failure to meet this call may lead to the liquidation of pledged shares, resulting in a loss of control rights. This study explores whether controlling shareholders engage in earnings management to avoid potential margin calls associated with pledged shares, thereby preserving their control rights. The findings reveal that controlling shareholders who pledge their shares engage in real earnings management, particularly among Chaebol shareholders prioritizing control rights. The robustness of these results is validated through alternative measures of share pledging, subsample tests using stock price performance and agency cost, and endogeneity tests by 2SLS and lag tests. This study is the first to examine how Korean controlling shareholders use earnings management as a strategic tool to mitigate margin call risks. It reveals how differing priorities on control rights influence earnings management practices, offering new insights into shareholder behavior related to share pledging.