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The Effect of Mandatory Quarterly Reporting on Firm Value
Abstract
We exploit a regulatory change in Singapore to analyze the capital market effects of mandatory quarterly reporting. The listing rule implemented in 2003 has required firms with a market capitalization above S$75 million—but not firms with a market capitalization below this threshold—to publish quarterly financial statements. Using regression discontinuity analysis for our identification, we provide novel evidence of the causal effects of mandatory quarterly reporting on small firms. We find a 5 percent decrease in firm value, consistent with the notion that mandatory quarterly reporting is perceived as a net burden for small firms. Contrary to popular belief, we cannot find evidence of informational benefits or myopic investment for firms around the threshold. Additional tests suggest positive information spillover effects from large mandatory quarterly reporters to non-quarterly reporting firms.
JEL Classifications: M41; M48.
... Thus far the academic focus has been on firm-level effects (e.g., Fu et al., 2012;Ernstberger et al., 2017;Kraft et al., 2017). However, this is a multidimensional issue also involving spillover effects on peer firms (Kajüter et al., 2019;Arif & DeGeorge, 2020). A concurrent paper finds negative externalities for firms, such as lower analyst coverage and trading volumes leading to reduced investor attention, when there is more frequent reporting among their peers (De George et al., 2019). ...
... More peers reporting quarterly should increase the relative amount of non-firm-specific public information and, hence, increase stock price synchronicity. This would be consistent with the findings of Arif and De George (2020) and Kajüter et al. (2019), that there are information spillovers from quarterly reporters that subsequently lead to more non-firmspecific information in prices. Higher stock price synchronicity could also be a consequence of On the other hand, more frequent peer reporting can also decrease stock price synchronicity due to its effect on private firm-specific information search activities of sophisticated investors. ...
... Consistent with Morck et al. (2000) and Durnev et al. (2003), we argue that lower stock price synchronicity indicates a better information environment caused by relatively more firm-level information capitalized in stock prices. While the overall synchronicity decreases, we observe an increased co-movement in peer-level (industry-level) returns in line with Arif and De George (2020) and Kajüter et al. (2019), suggesting that a higher quarterly reporting concentration among peers increases the amount of peer-level information incorporated into prices. Together, the main results suggest that more frequent reporting by peers increases the peer-level information as well as the firm-level information in prices. ...
This study investigates whether and how the amount of firm-specific information incorporated into stock prices changes when there is more quarterly, rather than semi-annual, reporting in the peer group. Using a sample of 33,338 European firm-year observations from 2004 to 2017, we find a significantly negative relationship between stock price synchronicity and concentration of quarterly reporting among a firm’s peers. We argue that more public peer disclosure stimulates acquisition of private firm-specific information. Additional tests show that the negative relationship is strongest among firms with semi-annual reporting, opaque earnings, and low institutional ownership. We further decompose the synchronicity measure into market and industry co-movement and find that the former is decreasing while the latter is increasing with more frequent peer reporting.
... Thus far the academic focus has been on firm-level effects (e.g., Fu et al., 2012;Ernstberger et al., 2017;Kraft et al., 2017). However, this is a multidimensional issue also involving spillover effects on peer firms (Arif & DeGeorge, 2020;Kajüter et al., 2019). A concurrent paper finds negative externalities for firms, such as lower analyst coverage and trading volumes leading to reduced investor attention, when there is more frequent reporting among their peers (De George et al., 2019). ...
... More peers reporting quarterly should thus increase the relative amount of non-firmspecific public information and, hence, increase stock price synchronicity. This would be consistent with the findings of Arif and De George (2020) and Kajüter et al. (2019), that there are information spillovers from quarterly reporters that subsequently lead to more non-firmspecific information in prices. Higher stock price synchronicity could also be a consequence of On the other hand, more frequent peer reporting can also decrease stock price synchronicity due to its effect on private firm-specific information search activities of sophisticated investors. ...
... Consistent with Morck et al. (2000) and Durnev et al. (2003), we argue that lower stock price synchronicity indicates a better information environment caused by relatively more firm-level information capitalized in stock prices. While the overall synchronicity decreases, we observe an increased co-movement in peer-level (industry-level) returns in line with Arif and De George (2020) and Kajüter et al. (2019), suggesting that a higher quarterly reporting concentration among peers increases the amount of peer-level information incorporated into prices. Together, the main results suggest that more frequent reporting by peers increases the peer-level information as well as the firm-level information in prices. ...
This study investigates whether and how the amount of firm-specific information incorporated into stock prices changes when there is more quarterly, rather than semi-annual, reporting in the peer group. Using a sample of 33,338 European firm-year observations from 2004 to 2017, we find a significantly negative relation between stock price synchronicity and concentration of quarterly reporting among a firm’s peers. We argue that more public peer disclosure stimulates acquisition of private firm-specific information. Additional tests show that the negative relation is strongest among firms with semi-annual reporting, opaque earnings, and low institutional ownership. We further decompose the synchronicity measure into market and industry co-movement and find that the former is decreasing while the latter is increasing with more frequent peer reporting.
... On the other hand, other studies e.g. (Kajuter, Klassmann, & Nienhaus, 2018;Nallareddy, Pozen, & Rajgopal, 2017) find no relationship between the frequency of financial reporting and the management focus on the long term growth. The evidence supports the notion that, for disclosure to affect myopia, it needs to change the mix of hard information such as earnings versus soft, unverifiable information that firms disclose to the market. ...
... In contrast, another number of recent studies e.g. (Call, Chen, Esplin, & Miao, 2016;Kajuter, Klassmann, & Nienhaus, 2018;Nallareddy, Pozen, & Rajgopal, 2017) find no relationship between the frequency of financial reporting and managerial short termism. These null relationship is consistent with the theoretical insight that, for frequent disclosure to affect myopia, it needs to change the mix of "hard" information such as earnings المجلد ال عاشر العدد ال ثالث األول الجزء 9102 9 versus "soft", unverifiable information firms disclose to the market. ...
... Using a sample of 548 public firm listed on the stock exchange of Singapore in 2003, Kajuter et al., (2018) investigates the effect of mandatory quarterly reporting on the firm value through three channels: liquidity, compliance cost and short termism. Through the short termism channel, they find no evidence for the myopic investment behavior caused by increased reporting frequency. ...
... Relatedly, Fu et al. (2020) find that innovation output is negatively linked to higher reporting frequency in the US. On the other hand, Kajüter et al. (2018) find no association between investments and the implementation of 27 Napier and Stadler (2020) suggest that new accounting regulations can also change practices and operations within the firms (e.g., contracts, software applications, behaviour) and develop a framework to analyse such real effects. Napier and Stadler (2020) apply their framework to analyse the implementation of IFRS 15, which changed the recognition of revenue from customer contracts, using interviews with professionals, comment letters, and annual reports. ...
... Considering that capital market efficiency does not necessarily imply real economic efficiency, regulators might need to weigh the needs of capital market participants against real efficiency losses. For example, studies investigating financial reporting frequency suggest that more frequent financial reports might induce myopic managerial incentives (Fu et al., 2020;Gigler et al., 2014;Kajüter et al., 2018;Kraft et al., 2018). However, future research needs to reconcile the mixed findings on financial reporting frequency effects. ...
This article systematically reviews 94 accounting and finance studies that address the real effects of financial reporting. Whereas the effects of financial reporting on capital suppliers’ decisions traditionally have received much attention, recent research has generated new important insights into the feedback effects of financial reporting on the reporting firms’ real activities (e.g., investments or allocation and use of resources). We identify the consequences of financial reporting for (1) the reporting firm, (2) its peer firms, and (3) the input and output markets. We also highlight the effects of firms’ internal controls over financial reporting and consider how accounting and auditing regulations influence and contribute to real effects. The studies we review are consistent in their findings that high-quality financial reporting is positively associated with the efficiency of the reporting firm’s resource allocation. Many studies also suggest a positive association between high-quality financial reporting and an efficient allocation of resources in the real sector, which can also benefit other market participants like consumers or employees. The article concludes with an outlook on fruitful research opportunities.
... 8 The WBES does not survey the same companies over time. For example, Poland was surveyed in 2002, 2003, 2005, 2009, 2013, and 2019 Portugal was surveyed in 2005 and 2019, but no individual Polish or Portuguese companies were surveyed in more than one WBES. Thus, prior studies using multiple years of the WBES include a large number of countries and companies but do not examine a panel dataset of the same companies. ...
We examine the value of auditor verification to small businesses when they face economic uncertainty. The COVID-19 pandemic was a significant, exogenous economic shock that immediately heightened the need for external funding for many companies. Using a sample of small, private companies from 21 countries, we examine how the receipt of an audit prior to the pandemic affects the primary type of financing companies obtain during the pandemic. We find that companies with audited financial statements available are more inclined to secure primary funding from bank loans rather than from equity contributions from existing owners or new investors. However, an audit is not associated with primary funding from government sources. We also document that businesses benefit most from an audit when information asymmetry and economic disruption are relatively high and when the supply of government liquidity support is relatively low.
Data Availability: Data are available from the public sources cited in the text.
JEL Classifications: M21; M42.
... 51 Cumming, Hou and Wou (2018) Behrmann et al. (2021). By contrast, Kajüter et al. (2019) find that the introduction of mandatory quarterly reporting in Singapore had a largely negative effect. 53 See generally Bhagat and Romano (2007) 948-51. ...
... This position is the consequence of timeliness: enhancing qualitative characteristic of accounting information according to the conceptual framework. Several researchers analyzed the quality of quarterly accounting numbers (Kerstein and Rai, 2007, Das et al., 2009, Chakraborty and Chetan, 2018, Kajüter et al., 2018, Rá cz and Huszá r, 2019. Results found by Das et al. (2009) indicate that 22% of firms demonstrate a reversal in fourth quarter earnings. ...
Mandatory disclosure of quarterly financial reports for publicly traded companies, in the majority of jurisdictions around the world, is the direct consequence of applying “timeliness” as presented in the Conceptual Framework for Financial Reporting (the conceptual framework) developed jointly in 2010 by the International Accounting Standards Board (IASB) and the Financial Accounting Standards Board (FASB). Having relevant information available sooner would improve its capacity to influence decisions. However, the interim reports are not required to be audited. In UAE, companies whose securities are listed on a securities and commodities market licensed by the Securities and Commodities Authority (SCA) are required to notify and provide interim financial reports, which are reviewed by the external auditor of the company. The objective of this paper is to analyze, in UAE, the volatility of the fourth-quarter earnings compared with the previous three. This study includes four years (2012-2015) of quarterly financial statements of firms listed in Dubai Financial Market (DFM). In order to determine if interim results are suspect, the paper analyzes the magnitude of differences in fourth quarter earnings and revenues relative to the first three quarters by using the Kiger’s 1974 methodology. Overall, results indicate that the volatility of earnings and revenue in the fourth quarter is significantly higher than those of the first three quarters. This main finding would be explained by the necessary adjustments to the fourth quarter earnings and revenues in order to correct the estimation. In fact, the quarterly financial statements require the use of more estimates than those prepared at the end of the fiscal year. This research would contribute to better understanding the quality of interim reports in an emerging market context.
... Governments, income tax departments, security exchanges compel companies to prepare their fi nancial statements on a quarterly basis [Mao, Wu, 2019] that might use company management to guide and control future fi nancial requirements [Kajüter et al., 2019]. The COVID-19 pandemic impeded business operations [Koonin, 2020] and economic growth [Barro et al., 2020] around the world and it continues as a universal phenomenon [Crank et al., 2019]. ...
Abstract
COVID-19 pandemic period impedes business operations and world economic growth. This type of pandemic may happen again in the future. Hence, the
objectives of the study are to fi nd out the pandemic eff ect on items in fi nancial statements; to predict the future eff ect on items in the fi nancial statements, and to
fi nd out the role of government and organizations for future prevention of the adverse eff ects on fi nancial statements due to the pandemic. The analysis is based
on a large number of publicly available sources, including research papers, governmental documents, and reports. The study has taken 8 ratios compared with 80
listed companies around the globe. During the pandemic period the magnitude of adverse eff ect on business operations depends upon the decision and actions
of external bodies (WHO, governments) and internal ones (organizations) parties. The fi ndings revealed that the role of government and organizations for future
prevention of ‘Pandemic Eff ect on Financial Statements’ is vital to defend against future pandemic situations. This study has added a new discussion to the body
of knowledge, i.e. examining pandemic (COVID-19) eff ect on business operational activities and its fi nancial statements; hence, an approach that is not widely
discussed in the previous studies.
Keywords: future prevention, fi nancial statements, government, pandemic, COVID-19.
... The opponents also discuss the high costs of the quarterly financial reports, Kajüter et al. [22], which exploit the effect of companies switching to mandatory quarterly financial reporting statement in Singapore. The research finds a 5 percent decrease in firm value consistent with the notion that mandatory quarterly reporting is perceived as a net burden for small firms. ...
The aim of the research is to examine the reaction of market participants (investors and firms) to a regulatory exogenous shock of easing financial reporting statement regulations. Since 2017, small cap firms, publicly traded on Tel-Aviv stock exchange, are required to publish only Semi-annual reports hence any firm may opt to switch from formerly mandatory quarterly reporting to the currently required semi-annual financial reporting statement. We show that 2/3 of the firms chose to adopt the relief in regulation. In the group of firms that chose to apply the regulation relief, we find a significant negative abnormal market reaction of-2% to the announcement of adopting the relief. In the group of firms that waive the regulation relief and chose to stay on quarterly reporting, we observe a significant positive abnormal market reaction of +2.5% to the announcement of voluntary continuing with the quarterly financial reports. Moreover, for the firms that switch to semi-annual reports, we show a significant decrease of 19.8% in the number of external auditing hours and a significant decrease of 16% in the annual external total audit fee in 2017 as compared to 2016. No significant change in the annual external total audit fee has been observed for the firms that opted not to adopt the abovementioned regulation. We also collect additional information about institutional investor holdings and outside directors which serves on these boards (financial expertise, gender and "busyness") as signals to corporate governance quality. We find positive and significant associations between the voluntarily continue the quarterly financial reporting and high quality corporate governance. The findings of the event study provide a valuable contribution to the ongoing debate on the relevance of the quarterly financial reports to investors. The additional finding of lower corporate governance quality and decreased external audit effort which characterized the firms that adopt the relief represent an increased risk for information asymmetry for investors in such firms thus further reinforces the importance of frequent financial reporting.
... If they expensed to avoid disclosure of proprietary information, the new information revealed to the market can lower adverse selection costs, again leading to increased R&D expenditures. By investigating these three channels, we follow recent papers, such as Biddle et al. (2009), Shroff (2017, and Kajüter et al. (2019), that investigate multiple mechanisms in an attempt to understand the way(s) that accounting information affects investment. ...
We examine the effect of capitalization vs. expensing on UK firms’ R&D expenditures. Our investigation is motivated by the UK’s mandatory switch from UK GAAP to IFRS in 2005. Under UK GAAP, firms could elect to expense or capitalize development expenditures, but IFRS mandates capitalization. Thus, “capitalizers” maintained their accounting method, while “switchers” were required to change from expensing to capitalization. We examine the effect of the rule change on the amount of the two groups’ R&D expenditures, and we find that switching firms increased their R&D expenditures more than firms that continued to capitalize. We subject our results to numerous robustness tests, and across all of them our results support the conclusion that the accounting method affects the amount that firms invest in R&D. Our results attest to the real effects of accounting policy on firms’ R&D investments.
... For example, Kraft et al. (2018) show that increased reporting frequency is associated with a decline in investments, consistent with the notion that frequent financial disclosures induce myopic managerial behaviors. However, based on a sample from Singapore, Kajüter et al. (2019) cannot find evidence of informational benefits or myopic investment for firms changing disclosure frequency. In sum, the debate over the costs and benefits of frequent financial reporting remains inconclusive. ...
Using data from Taiwan, where listed firms are required to disclose monthly revenues, this paper examines the information value of mandatory interim revenue disclosures. We find that monthly revenue surprises have a significant effect on analysts’ earnings forecasts, suggesting that analysts incorporate such information into their earnings forecasts once the information is available. In addition, monthly revenue surprises significantly predict future earnings surprises, and their predictive power goes beyond the information provided by analysts’ earnings forecasts, suggesting that monthly revenue surprises provide leading information about future earnings growth but analysts do not fully reflect this information. Stock prices drift positively with monthly revenue surprises during the period prior to the quarterly earnings announcement. However, when quarterly earnings are finally announced, stock prices are no longer driven by monthly revenue surprises, suggesting that monthly revenue surprises have been fully incorporated into the stock prices. Overall, our results suggest that interim accounting information helps investors increase the speed of adjustments to fundamental news.
... According to some authors, higher disclosure frequency might harm investors due to compliance cost and the short-term perspective of managers' business decisions (cf. (Gigler et al. 2014;Ernstberger et al. 2017;Kajuter et al. 2018;Kraft et al. 2018)). If firms are required to disclose interim financial statements (in Q1 and Q3), managers will shift numerous resources to the preparation, review, and auditing of quarterly reports. ...
his paper fits into the stream of current research on the concept of short-termism and its importance for economic sustainability, especially sustainable finance. Short-termism focuses on short time horizons by both corporate managers and the financial markets, and prioritizes short-time shareholder return over the long-term growth of the company’s value. This study engages the short-termism discussion by examining the effect of quarterly reporting on the long-term market value of listed companies. The aim of the article is to determine whether European companies experience the negative effects of short-termism, precisely, whether public companies that prepare quarterly reports, and which focus mainly on achieving the short-term goals of stock exchange investors, are seeing a decline in their market value in the long-term. We have not proven the existence of such a dependence, the increase in reporting frequency of public companies does not contribute to a decline in their long-term market value. In the case of the EU-15 the results of regression model estimation indicate a positive and statistically significant impact of the time of regular quarterly reporting on the buy-and-hold rates of return, in the “new” EU member states this relationship is not observed.
Keywords: sustainable finance; short-termism; quarterly reporting; market value of companies; EU countries
... First, consider a public European firm that file its financial statements semi-annually and a private European firm that files its financial statements annually; or consider Singapore, where lager public firms (above S$75 million in market capitalization) are required to report quarterly, while smaller public firms are required to report semi-annually (see Kajuter, Klassmann, and Nienhaus 2018). These are two examples where firms may operate in the same country or even in the same industry, nevertheless, have different reporting frequencies. ...
The thesis is a collection of three separate papers on accounting consequences. Specifically, the papers examine the relation between accounting and employment, risk and valuation. The first chapter (solo-authored) documents that approximately 20% of large US public firms choose to disclose employment information quarterly, at a higher frequency than mandated by the US Securities and Exchange Commission (SEC). I use these voluntary disclosures to examine whether managers modify their firms’ workforces to manage earnings. Using firm-level analysis, I find that managers alter their firms’ workforce in the short-run to meet financial reporting benchmarks. I separately investigate the decision to voluntary disclose employment information more frequently than mandated by the SEC. I show that providing quarterly employment disclosures is associated with managerial myopic behavior. Overall, in the first chapter I present evidence that more frequent disclosures of workforce information provide valuable insights into firm operations and managerial decisions. I demonstrate that financial measures may govern decisions regarding real resource allocations, specifically, the firm’s workforce size. The second chapter (co-authored with Brian Burnett and Paige Patrick) investigates the effect of adopting more principles-based standards on litigation risk. A common perception is that principles-based accounting standards, such as International Financial Reporting Standards (IFRS), allow for more managerial discretion over financial reporting. This suggests that adopting principles-based standards may alter the litigation risk exposure of companies and their directors and officers. We study changes in litigation risk in Canada following IFRS adoption in 2011. Canada switched its reporting standards from Canadian Generally Accepted Accounting Principles (GAAP) to IFRS, which is considered more principles-based. We examine the effect of IFRS adoption on litigation risk using two established proxies for litigation risk: Directors’ and Officers’ (D&O) liability insurance, which Canadian firms are mandated to disclose, and excess cash holdings. We document that more principles-based accounting standards reduce litigation risk and provide evidence for a benefit of adopting such standards, in the form of lower insurance premiums. The third chapter (co-authored with Bjorn Jorgensen) develops an accounting-based valuation model for an economy with multiple firms and demonstrates the effect of crossholdings on firms’ prices. We illustrate how market values appear distorted when firms have mutual minority interest equity investments. We discuss possible empirical implications for valuation of multiple firms and articulate why corporate equity investments may distort firms’ market-to-book ratios. Overall, we show how the accounting treatment for corporate equity investments may alter prices and provide theoretical predictions regarding the mechanism and magnitude of these distortions. We also model linear information dynamics in a setting with multiple firms, allowing for inter-firm information transfers for firms with and without crossholdings. Our analysis illustrates how inter-firm accounting information shape prices. Moreover, we describe possible implications of our model for firms that exhibit variation in reporting dates or reporting frequency.
A longstanding literature suggests that earnings provide the market with relevant information about firm performance, but one often overlooked benefit is their role in disciplining market expectations. This study examines the role of earnings announcements in constraining potential mispricing associated with firm-specific media sentiment. We show that media sentiment-driven quarterly returns (orthogonal to risk factors and fundamental news) largely reverse when public earnings are released. Our results suggest that quarterly earnings announcements play an important role in reducing media sentiment-related mispricing.
Data Availability: Data are available from the public sources cited in the text.
JEL Classifications: G14; L82; M41.
We present theory and empirical evidence that greater financial reporting quality can incentivize myopic investments. In the model, greater financial reporting quality increases investor response to earnings, elevating the manager’s incentive to invest myopically to improve earnings. Using the setting of Big N auditors’ acquisitions of non-Big Ns, which increased investor response to earnings for the acquired client firms, we find evidence supporting myopic investments. Specifically, acquired clients decrease intangible investments, particularly when (1) the increase in investor response to earnings is larger and (2) the horizon of shareholders is shorter. The investment decrease is inefficient, as evidenced by reduced profitability, fewer exploratory innovations, and other measures.
JEL Classifications: G14; G34; M41; M42; O31; O34; N22.
This article investigates the role of mandatory interim financial reporting in financial analysts’ annual earnings forecast errors. We provide large-scale evidence from 49 countries that a mandatory quarterly (as compared to semi-annual) reporting regime is associated with lower analysts’ annual earnings forecast errors. This conjecture is further supported when we exploit an exogeneous change in the mandatory frequency regime from a semi-annual to a quarterly reporting mandate in Japan. Consistent with an improvement in the information environment, our findings are more pronounced for firms and analysts subject to higher information acquisition costs and in countries where the institutional setting is less able to meet analysts’ information needs. We corroborate this conjecture by documenting that more frequent mandatory reporting decreases analysts’ forecast dispersion and improves the profitability of their stock recommendations. Overall, our findings extend the research on the role of the institutional setting in analysts’ output, suggesting that the mandate of more frequent reporting improves analysts’ forecasting process.
Purpose
This study aims to examine the levels of interim financial reporting (IR) disclosure by listed firms in the Asia-Pacific region and factors influencing these disclosure levels.
Design/methodology/approach
Drawing on a sample of 700 interim reports issued in 2012 by the top 100 listed firms in seven Asia-Pacific countries (Australia, Hong Kong, Malaysia, Singapore, the Philippines, Thailand and Vietnam), the author constructed a disclosure index consisting of disclosure items commonly required across the sample countries. Using this index, the study measures the extent to which listed firms in the Asia-Pacific Region comply with IR disclosure requirements. The study performs ordinary least square regression to investigate the influence of the four country-level factors including international financial reporting standard (IFRS) adoption, audit review, reporting frequency and reporting lag.
Findings
This research documents that IR disclosure varies significantly across the region. The IR disclosure levels are positively associated with IFRS adoption, audit review and mandatory of quarterly reporting, but negatively associated with reporting lag.
Originality/value
IR regulation varies across the Asia-Pacific region, but there is no existing research on the country-level factors influencing IR disclosure practices. To the best of the author’s knowledge, this is the first paper providing some insights into IR disclosure levels by listed firms in the region. It also contributes to the disclosure literature by providing empirical evidence on the country-level factors influencing these disclosure levels. Deriving from the findings, the authors offer recommendations for regulators, investors and listed firms on the issue of reviewing the regulation, using information and preparing IR.
This study examines the optimal reporting time a regulator should choose for firms to report their information when the firms' effort choices influence the outcome of projects. Our analysis shows that, the regulator's optimal choice of reporting time to maximize overall efficiency is contingent on a trade‐off between motivating a firm's effort to improve the outcome and saving the liquidation value for the creditor to reduce the firm's financing cost. We also find that to induce the firm's effort, the reporting time should be either early enough or late enough–depending on the effectiveness of the effort to turn bad projects into successes. Furthermore, we examine the regulator's optimal choice of reporting time for an economy with heterogenous firms/industries, and we show that the optimal reporting time changes non‐monotonically in the probability of good projects in the economy. This article is protected by copyright. All rights reserved
We examine the effect of compliance frictions in reclaiming foreign withholding tax overpayments on foreign portfolio investment (FPI) using data on bilateral FPI around the globe and U.S. institutional investors’ foreign holdings. Exploiting variation in withholding tax overpayments for 36 investor countries and 110 issuer countries, we find that withholding tax overpayments adversely affect FPI because of the high compliance costs to international investors in claiming foreign tax credits. Cross-sectional tests further show that the adverse effect of withholding tax overpayments on FPI is reduced when compliance costs in claiming these overpayments from foreign countries are lower. Our results indicate that eliminating most of the compliance costs in the reclaim process by implementing a relief at the source mechanism could increase FPI by about 7.6 percent.
JEL Classifications: D25; G11; G25; H20; H24.
This study provides the first comprehensive literature review on interim reporting based on 112 papers published between 1961 and 2020. The review focuses on both the firm-specific consequences (capital market-based and real effects) and externalities of interim reporting. We analyze three primary interim reporting characteristics: (1) frequency, (2) contents, and (3) assurance. The review allows us to summarize the existing literature, reconcile different findings, identify trends in the literature, and present avenues for future research. We observe that investors perceive interim reports to be useful. However, no clear evidence exists for strong capital market-based benefits of higher reporting frequency, such as increases in liquidity. Higher reporting frequency seems to imply stricter monitoring, especially in the absence of other effective monitoring mechanisms. Nonetheless, it can also induce myopic decision-making. More comprehensive reports convey more information at the costs of increases in reporting lags and processing time. Surprisingly, the current literature does not find that interim assurance leads to higher interim report quality.
The European Union introduced Regulation 236/2012 in 2012 to address short selling and certain aspects of credit default swaps (CDS). Consequently, a uniform short position disclosure regime was developed, which is used in this paper to examine CDS spreads as a proxy for credit risk around public short sale announcements and evaluate the disclosure policy's relevance from the debtholder's perspective. Existing literature documents short selling regulations’ impacts on the stock market, but no evidence exists from the CDS market. Therefore, we first conduct an event study to examine the effects of different short sale events on corresponding firms’ CDS spreads between 2012 and 2018. Moreover, we use regression analyses to control for several credit risk determinants that may also affect CDS spreads. Our evidence suggests that opening and increasing short positions are perceived as negative information, and in this regard lead to higher CDS spreads. In contrast, CDS spreads tend to be lower if short positions decrease or close. Additionally, we find that negative information ceteris paribus more strongly affects CDS spreads than positive information. Finally, we investigate certain anticipatory reactions when negative news enters the CDS market.
Delays in financial reporting give a negative signal to the market and adversely affect the company’s market value. Financial reporting lags raise suspicions among market participants regarding concealment of any potential bad news by a firm, which may affect its share value. Thus, the study investigates the interaction of audit reporting lag and firm value in Nigerian beverage and food companies. Audit delays lead to the late publication of financial statements, enhancing the information asymmetry problem, and affecting firm value. We obtained the data from annual reports of 10 listed companies for five years. The Generalized Method of Moments (GMM) estimation is used to analyze the data. The results suggest that audit delays do not affect the market value of a firm. Previous studies mainly focus on the relationship between corporate governance firm characteristics, and audit reporting lag in Nigeria. To the best of our knowledge, the impact of audit delays on firm value in Nigeria is yet to be adequately explored. The finding may help statutory bodies in reducing the period of financial reporting. The results may also help firms improve their performance and promote an environment that may give investors confidence. This study has focused on the food and beverage sector in Nigeria. Future studies can be undertaken in other sectors which may bring more insight to the issues related to financial reporting lags.
This paper examines how low financial reporting frequency affects investors' reliance on alternative sources of earnings information. We find that the returns of semi-annual earnings announcers (i.e., low reporting frequency stocks [LRF]) are almost twice as sensitive to the earnings announcement returns of U.S. industry bellwether peers for non-reporting periods compared to reporting periods. Strikingly, these heightened spillovers are followed by return reversals when investors finally observe own-firm earnings at the subsequent semi-annual earnings announcement. This indicates that investors periodically overreact to peer-firm earnings news in the absence of own-firm earnings disclosures in interim periods. We also find elevated price volatility and trading volume around earnings announcements for non-reporting periods, consistent with theories of investor overconfidence. Collectively, our results suggest that investors are unable to successfully offset the information loss arising from low reporting frequency, thus impairing their ability to value firms and adversely affecting the quality of financial markets.
JEL Classifications: M41; M48; G14.
Data Availability: Data are available from the public sources cited in the text.
2019 Elsevier B.V. A fundamental question in accounting is whether and to what extent financial reporting facilitates the allocation of capital to the right investment projects. Over the last two decades, a large and growing body of literature has contributed to our understanding of whether and why financial reporting affects investment decision-making. We review the empirical literature on this topic, provide a framework to organize this literature, and highlight opportunities for future research.
When larger market values of equity result in being subject to costly regulation, firms have incentives to shift their sources of financing toward debt and away from equity. We use the Sarbanes-Oxley Act of 2002 (SOX) as a setting to provide evidence of such incentives. Smaller firms were granted several reprieves and eventually exempted from the internal control audit requirements of SOX Section 404, which many consider the most costly and onerous aspect of SOX. Using a difference-in-differences design, we show that relative to control firms, firms just below the regulatory threshold have increased propensities to issue debt, decreased propensities to issue equity, and increased leverage levels in the post-SOX period. These results are consistent with firms altering their financing choices to maintain their exempt status and demonstrate an economic consequence of regulatory regimes that are tiered by equity values.
Gatekeepers in financial markets have the power to provide the institutional stability, fortitude and direction necessary for the development and the smooth functioning of capital markets. At the same time, they are often motivated by their own private incentives. This along with the trade‐offs they face, and the at‐times unintended consequences of the regulations they propose and enforce, can undermine their effectiveness. A thorough understanding of gatekeepers and their roles can thus illuminate academics, the financial community and regulators on how such gatekeepers can be the most effective and generate the greatest benefits for capital markets. Since gatekeeping roles and the literature they have inspired encompass a wide array of institutions and agencies, our overview concentrates on those that the conference papers appearing in this volume focus on. We conclude that collectively, the papers contribute to significant progress, and point out some crucial areas that call for further investigation and offer opportunities for future research.
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Regulators claim that increased mandated disclosure frequency should lead to more efficient price formation. However, analytical models suggest that mandating disclosure may actually impede the price formation process, and prior empirical studies have been unable to document a relation between mandatory disclosure and improved price formation. We re-examine this relationship using a recent SEC regulation that increased the frequency of mandated event disclosures in form 8-K. We show that price formation improves after the mandate, where firms with the largest increases in mandatory disclosure experience the greatest improvements in price formation. Our evidence is consistent with the idea that mandating an increase in the frequency that material events must be disclosed is associated with improved price formation. © 2018, Springer Science+Business Media, LLC, part of Springer Nature.
This study examines the externalities of mandatory IFRS adoption on firms' investment efficiency in 17 European countries. We use the ROA difference between the firm and its peers to proxy for the information on the peers' investment performance. We find that the spillover effect of a firm's ROA difference versus its foreign peers, but not domestic peers, on the firm's investment efficiency increases after IFRS adoption. We also find that increased disclosure by both foreign and domestic peers after IFRS adoption has a spillover effect on a firm's investment efficiency. Further, a firm's investment changes induced by its ROA difference versus foreign peers are more value-relevant after IFRS adoption, and those induced by increased disclosure by foreign peers under IFRS are value-relevant. Additional analyses reveal that our results are affected by legal enforcement strength, peer composition, and industry competition. Overall, we document positive externalities of mandatory IFRS adoption.
Data Availability: Data are available from commercial providers (Worldscope, DataStream, and I/B/E/S).
This paper examines the effect of market participants’ information processing costs on firms’ disclosure choice. Using the recent eXtensible Business Reporting Language (XBRL) regulation, I find that firms increase their quantitative footnote disclosures upon implementation of XBRL detailed tagging requirements designed to reduce information users’ processing costs. These results hold in a difference‐in‐difference design using matched non‐adopting firms as controls, as well as two additional identification strategies. Examination of the disclosure increase by footnote type suggests that both regulatory and non‐regulatory market participants play a role in monitoring firm disclosures. Overall, these findings suggest that the processing costs of market participants can be significant enough to impact firms’ disclosure decisions.
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We examine the effects of banks' financial reporting frequency from 2000 to 2014 and find that quarterly reporting improves their loan portfolio quality. Sample banks experience a relative decrease of about 11 percent in their nonperforming loans after switching to quarterly financial disclosures. Consistent with market discipline enhancing lending practices, these results are stronger in regimes with weaker depositor insurance and external monitoring, and in those with stronger capital markets. We also find that banks that provide quarterly financial information experience lower deposit interest rates and credit default swap spreads. Collectively, our findings suggest that quarterly reporting reduces banks' risk-taking.
JEL Classifications: G21; G28; G32; M41; M48.
This paper examines whether and when the information environment of peer firms in an industry affects the cost of capital for other firms in the industry. We predict and find that the peer information environment is negatively associated with a firm's cost of capital when there is less publicly available firm-specific information and this negative association shrinks as the amount of firm-specific information increases. This paper provides evidence that information about peer-firms has externalities on the cost of capital for related firms and that these externalities are time-varying.
Using the transition of U.S. firms from annual reporting to semi-annual reporting and then to quarterly reporting over the period 1950–1970, we provide evidence on the effects of increased reporting frequency on firms' investment decisions. Estimates from difference-in-differences specifications indicate that increased reporting frequency is associated with an economically large decline in investments. Additional analyses reveal that the decline in investments is most consistent with frequent financial reporting inducing myopic management behavior. Our evidence informs the recent controversial debate about eliminating quarterly reporting for U.S. corporations.
JEL Classifications: M40; M41; G30; G31.
This paper examines the economic consequences of a regulatory change mandating OTCBB firms to comply with reporting requirements under the 1934 Securities Exchange Act. This change substantially increases mandated disclosures for firms previously not filing with the SEC. We document that the imposition of disclosure requirements results in significant costs for smaller firms, forcing them off the OTCBB. SEC regulation also has significant benefits. Firms previously filing with the SEC experience positive stock returns and permanent increases in liquidity, suggesting positive externalities from disclosure regulation. Newly Compliant firms exhibit significant increases in liquidity consistent with improved disclosure reducing information asymmetry.
Private firms face differing financial disclosure and auditing regulations around the world. In the US and Canada, for example, private firms are generally neither required to disclose their financial results nor have their financial statements audited. By contrast, many firms with limited liability in most other countries are required to file at least some financial information publicly and are also required to have their financial statements audited. This paper discusses and analyzes the reasons for differential financial reporting regulation of private firms. We first discuss various definitions of a private firm. Next, we examine theoretical arguments for regulating the financial reporting of these firms, particularly related to public disclosure and auditing. We then provide new survey-based evidence of firms’ and standard setters’ views of regulation. We conclude by identifying future research opportunities.
We uncover a negative consequence of reduced financial reporting frequency, namely excessive earnings information spillovers. Our central idea is that investors in firms that report earnings only semi-annually compensate for the lack of interim earnings disclosures for non-reporting periods — i.e. first three months of semi-annual periods — by relying more heavily on alternative sources of earnings news. We find that returns of semi-annual announcers are almost twice as sensitive to the earnings announcement returns of US industry bellwethers for non-reporting periods compared to reporting periods. Strikingly, these exacerbated spillovers are followed by return reversals when investors finally observe own-firm earnings at the subsequent semi-annual earnings announcement. This indicates that investors periodically overreact to peer-firm earnings news in the absence of own firm earnings disclosures arising from low reporting frequency. Overall, the evidence suggests that reduced reporting frequency impairs the ability of investors to properly value firms and impedes the efficiency of financial markets.
This paper examines the economic consequences of mandatory International Financial Reporting Standards (IFRS) reporting around the world. We analyze the effects on market liquidity, cost of capital, and Tobin's q in 26 countries using a large sample of firms that are mandated to adopt IFRS. We find that, on average, market liquidity increases around the time of the introduction of IFRS. We also document a decrease in firms' cost of capital and an increase in equity valuations, but only if we account for the possibility that the effects occur prior to the official adoption date. Partitioning our sample, we find that the capital-market benefits occur only in countries where firms have incentives to be transparent and where legal enforcement is strong, underscoring the central importance of firms' reporting incentives and countries' enforcement regimes for the quality of financial reporting. Comparing mandatory and voluntary adopters, we find that the capital market effects are most pronounced for firms that voluntarily switch to IFRS, both in the year when they switch and again later, when IFRS become mandatory. While the former result is likely due to self-selection, the latter result cautions us to attribute the capital-market effects for mandatory adopters solely or even primarily to the IFRS mandate. Many adopting countries make concurrent efforts to improve enforcement and governance regimes, which likely play into our findings. Consistent with this interpretation, the estimated liquidity improvements are smaller in magnitude when we analyze them on a monthly basis, which is more likely to isolate IFRS reporting effects.
Credible causal inference in accounting and finance research often comes from “natural” experiments. These natural experiments can be exploited using several “shock-based” research designs, including difference-in-differences (DiD), regression discontinuity (RD) , and instrumental variables based on the shock (shock based IV). Shock-based IVs potentially rest on a much more solid basis than non-shock IVs, but remain problematic. We illustrate these problems by (i) examining all shock-based IV papers published in two broad datasets; and (ii) re-analyzing three recent, high-quality shock-based IV papers. The IVs in all three papers fail. For Desai and Dharmapala’s (REStat 2009) study of the interaction between tax shelter opportunities and corporate governance, their IVs fail in the first stage when we impose a balanced sample of firms with data both before and after the shock. For Duchin, Matsusaka and Ozbas’s (2010) study of the effect of board independence on performance, their first stage also fails, once we impose balance on a core pre-shock covariate (initial percentage of independent directors). For Iliev’s (2010) RD/IV study of the cost of compliance with SOX § 404, his IV produces large imbalance between treated and control firms on post-shock growth, and thus does not satisfy the “only through” condition for a valid instrument. We discuss common themes in our re-analyses, especially the need for covariate balance between treated and control firms, and the value of using both DiD and shock-based IV designs, rather than IV alone. These themes generalize to the vast majority of other shock-based IV papers in our samples, including more recent papers.
This paper examines how mandatory quarterly reporting affects managers' business decisions in terms of real activities manipulations. For our analyses, we use the setting of the European Union, where the reporting frequency was increased with the introduction of a mandate to issue Interim Management Statements (IMSs) on a quarterly basis. Controlling for accrual-based earnings management, we find an increase in real activities manipulations for firms mandated to switch from semiannual to quarterly IMS reporting, relative to matched control firms. This finding is in line with the notion of higher managerial short-termism resulting from increased reporting frequency requirements. Further, we provide evidence that reporting frequency-induced real activities manipulations are more pronounced if the price pressure from investors is high and if the informativeness of IMS disclosure is low. We also document that reporting frequency-induced real activities manipulations are followed by a short-term increase and then a decrease in firms' operating performance.
Data Availability: Data are available from the commercial databases and public sources identified in the paper.
We study shock-based methods for credible causal inference in corporate finance research. We focus on corporate governance research, survey 13,461 papers published between 2001 and 2011 in 22 major accounting, economics, finance, law, and management journals; and identify 863 empirical studies in which corporate governance is associated with firm value or other characteristics. We classify the methods used in these studies and assess whether they support a causal link between corporate governance and firm value or another outcome. Only a small minority have convincing causal inference strategies. The convincing strategies largely rely on external shocks – usually from legal rules – to generate natural experiments. We examine the 75 shock-based papers and provide a guide to shock-based research design, which stresses the common features across different designs and the value of using combined designs.
Using a dataset which records banks’ ongoing requests of information from small commercial borrowers, we examine when banks use financial statements to monitor borrowers after loan origination. We find banks request financial statements for half the loans and this variation is related to borrower credit risk, relationship length, collateral, and the provision of business tax returns, but in complex ways. The relation between borrower risk and financial statement requests has an inverted U-shape; and tax returns can be both substitutes and complements to financial statements, conditional on borrower characteristics and the degree of bank-borrower information asymmetry. Frequent financial reporting is used to monitor collateral, but only for non-real estate loans and only when the collateral is easily accessible to lenders. Collectively, our results provide novel evidence of a fundamental information demand for financial reporting in monitoring small commercial borrowers and a specific channel through which banks fulfill their role as delegated monitors. This article is protected by copyright. All rights reserved
Prior literature documents that both earnings announcements and management earnings forecasts increase information asymmetry at announcement. In contrast, we predict and document that analyst earnings forecasts decrease information asymmetry at announcement. As expected, this directional contrast is temporary, in that all three information release types lead to a decrease in information asymmetry following the short-window announcement period. Our evidence demonstrates that the direction of the effect of a public information release on announcement-period information asymmetry is determined by how the information contained in the release relates to prior information held by sophisticated and unsophisticated investors, which supports extant disclosure theory.
This paper examines how performance measures are defined in major earnings-based financial covenants in loan contracts to shed light on the economic rationales underlying the contractual use of performance measures. I find an earnings-based covenant is typically based on a performance measure close to earnings before interest, tax, amortization, and depreciation expenses (EBITDA). However, my empirical analyses show that EBITDA is less useful in explaining credit risk than earnings before interest and tax expenses (EBIT) and even the bottom-line net income. Thus, measuring credit risk cannot fully explain the choice of accounting performance measures in earnings-based covenants. I conjecture that contracting parties choose an EBITDA-related measure, instead of a measure calculated after depreciation and amortization expenses (e.g., EBIT), to make the performance measure less sensitive to investment activities, which can be controlled through other contractual terms, such as a restriction on capital expenditure, and provide empirical evidence consistent with this conjecture. © 2016 University of Chicago on behalf of the Accounting Research Center
We hypothesize that the choice to obtain a financial statement audit provides external financiers with incremental information about the firm, which helps reduce information asymmetry and financing frictions. Using a natural experiment, we show that when external financiers observe a firm׳s choice to voluntarily obtain an audit, the firms obtaining an audit significantly increase their debt, investment, and operating performance, and become more responsive to their investment opportunities. Further, we find that these effects are stronger for firms that are financially constrained and weaker for firms with other means to reduce financing frictions. Overall, our evidence suggests that the audit choice conveys information to capital providers, which reduces financing frictions and improves performance.
This chapter discusses how applied researchers in corporate finance can address endogeneity concerns. We begin by reviewing the sources of endogeneity-omitted variables, simultaneity, and measurement error-and their implications for inference. We then discuss in detail a number of econometric techniques aimed at addressing endogeneity problems, including instrumental variables, difference-in-differences estimators, regression discontinuity design, matching methods, panel data methods, and higher order moments estimators. The unifying themes of our discussion are the emphasis on intuition and the applications to corporate finance.
Transaction costs are important for a host of empirical analyses from market efficiency to international market research. But transaction costs estimates are not always available, or where available, are cumbersome to use and expensive to purchase. We present a model that requires only the time series of daily security returns to endogenously estimate the effective transaction costs for any firm, exchange, or time period. The feature of the data that allows for the estimation of transaction costs is the incidence of zero returns. Incorporating zero returns in the return-generating process, the model provides continuous estimates of average round-trip transaction costs from 1963 to 1990 that are 1.2% and 10.3% for large and small decile firms, respectively. These estimates are highly correlated (85%), with the most commonly used transaction cost estimators. Article published by Oxford University Press on behalf of the Society for Financial Studies in its journal, The Review of Financial Studies.
We document, for a global sample, that firms with greater transparency (based on accounting standards, auditor choice, earnings management, analyst following and forecast accuracy) experience less liquidity volatility, fewer extreme illiquidity events and lower correlations between firm-level liquidity and both market liquidity and market returns. Results are robust to numerous sensitivity analyses, including controls for endogeneity and propensity matching. Results are particularly pronounced during crises, when liquidity variances, covariances and extreme illiquidity events increase substantially, but less so for transparent firms. Finally, liquidity variance, covariance and the frequency of extreme illiquidity events are all negatively correlated with Tobin's Q.
In this monograph, we discuss the existing literature on the economic effects of transparency in international equity markets, present aspects of an international setting that make it a fruitful environment for investigating these effects and suggest directions for future research.
We use a proprietary database of bank information requests to small commercial firms to examine the role of financial statements in monitoring borrowers. In this setting financial reporting is not mandated by regulation, but is the equilibrium outcome of negotiation between the bank and borrower. We find that while financial statements are the most commonly requested item in the dataset, they are requested for only half of the loans. Moreover, we find that alternative contracting mechanisms mediate financial statement requests on both the extensive and intensive margins. Collectively, our results provide novel evidence of the fundamental demand for financial reporting in debt contracting and the manner in which banks fulfill their role as delegated monitors.
In this paper we study the relation between the frequency of mandatory financial disclosures, the amount of information voluntarily disclosed by privately informed managers, and the resulting informational efficiency of stock prices. Our analysis emphasizes the "confirmatory role" of mandatory financial reports and uses frequency to highlight the difference between this view of reporting and the prevailing view of mandatory disclosures as "primary" sources of information. We model the mandatory financial disclosures as verifiable but noisy and, possibly, late signals of management's private value-relevant information. Accordingly, financial statements may be of little use as a timely, primary source of information for the purpose of valuing the firm. However, since the audited statements can be used to evaluate the truthfulness of management's past voluntary disclosures (i.e., to "confirm" that they are indeed truthfully, they may be useful in creating an environment in which management
In 2005, the Securities and Exchange Commission enacted the Securities Offering Reform (Reform), which relaxes “gun-jumping” restrictions, thereby allowing firms to more freely disclose information before equity offerings. We examine the effect of the Reform on voluntary disclosure behavior before equity offerings and the associated economic consequences. We find that firms provide significantly more preoffering disclosures after the Reform. Further, we find that these preoffering disclosures are associated with a decrease in information asymmetry and a reduction in the cost of raising equity capital. Our findings not only inform the debate on the market effect of the Reform, but also speak to the literature on the relation between voluntary disclosure and information asymmetry by examining the effect of quasi-exogenous changes in voluntary disclosure on information asymmetry, and thus a firm's cost of capital.
This paper studies the effect of the bid-ask spread on asset pricing. We analyze a model in which investors with different expected holding periods trade assets with different relative spreads. The resulting testable hypothesis is that market-observed expexted return is an increasing and concave function of the spread. We test this hypothesis, and the empirical results are consistent with the predictions of the model.
We develop a cost-benefit tradeoff that provides new insights into the frequency with which firms should be required to report the results of their operations to the capital market. The benefit to increasing the frequency of financial reporting is that it causes market prices to better deter investments in negative net present value projects. The cost of increased frequency is that it increases the probability of inducing managerial short-termism. We analyze the tradeoff between these costs and benefits and develop conditions under which greater reporting frequency is desirable and conditions under which it is not.
Prior literature documents an announcement period increase in information asymmetry for earnings announcements and management forecasts. In sharp contrast, we predict and document a decrease in information asymmetry upon announcement of analyst forecasts. We find that this decrease is more pronounced for analyst forecasts with greater information content and when analysts exert higher effort, and is less pronounced after exogenous regulatory actions that diminished analysts’ ability to obtain private information. Our predictions and evidence demonstrate the general insight that the directional effect of an information release on announcement period information asymmetry depends on whether the information is unprocessed or processed, and on how the information interacts with prior information held by sophisticated and unsophisticated investors. These findings enhance our understanding of the effects of information intermediaries in capital markets.
This study exploits the event of covenant violations to provide evidence on how firms make disclosure decisions in the presence of bank monitoring as a governance mechanism. Using a regression discontinuity design, I document a significant reduction in firms’ disclosure following covenant violations. A series of analyses suggest that at least part of this decline in disclosure reflects a delegation of the monitoring role to banks by shareholders who rationally choose to not duplicate banks’ monitoring effort and consequently demand less disclosure.
We provide insights into earnings quality from a survey of 169 CFOs of public companies and in-depth interviews of 12 CFOs and two standard setters. CFOs believe that (i) above all, high-quality earnings are sustainable and repeatable; specific characteristics include consistent reporting choices, backing by actual cash flows, and absence of one-time items and long-term estimates; (ii) about 50% of earnings quality is driven by non-discretionary factors such as industry and macro-economic conditions; (iii) in any given period, about 20% of firms manage earnings to misrepresent economic performance, and for such firms 10% of EPS is typically managed; (iv) earnings manipulation is hard to unravel from the outside but peer comparisons and lack of correspondence between earnings and cash flows provide helpful red flags. In addition, CFOs disagree with current standard setting on a number of issues including the sheer number of promulgated rules, the top-down approach to rule-making, the neglect of the matching principle, and the emphasis on fair value accounting. They indicate that a rules-based culture makes the audit function centralized and mechanical, and hinders the development of audit professionals. A summary impression from our work is that CFOs view earnings quality as more of a universal characteristic, in contrast to current research where earnings quality is strongly conditional on the decision setting. This CFO view is related to their idea of “one number” - a single earnings metric that shapes both their interactions with external stakeholders and internal decision-making.
Public firms provide a large amount of information through their disclosures. In addition, information intermediaries publicly analyze, discuss and disseminate these disclosures. Thus, greater public firm presence in an industry should reduce uncertainty in that industry. Following the theoretical prediction of investment under uncertainty, we hypothesize and find that private firms are more responsive to their investment opportunities when they operate in industries with greater public firm presence. Further, we find that the effect of public firm presence is greater in industries with better information quality and in industries characterized by a greater degree of investment irreversibility. Our results suggest that public firms generate positive externalities by reducing industry uncertainty and facilitating more efficient private firm investment.
This study examines the effects of shareholder support for equity compensation plans on subsequent chief executive officer (CEO) compensation. Using cross-sectional regression, instrumental variable, and regression discontinuity research designs, we find little evidence that either lower shareholder voting support for, or outright rejection of, proposed equity compensation plans leads to decreases in the level or composition of future CEO incentive-compensation. We also find that in cases where the equity compensation plan is rejected by shareholders, firms are more likely to propose, and shareholders are more likely to approve, a plan the following year. Our results suggest that shareholder votes have little substantive impact on firms’ incentive-compensation policies. Thus, recent regulatory efforts aimed at strengthening shareholder voting rights, particularly in the context of executive compensation, may have limited effect on firms’ compensation policies.
We document that firms with greater transparency (based on accounting standards, auditor choice, earnings management, analyst following and analyst forecast accuracy) experience less liquidity volatility, fewer extreme illiquidity events and lower correlations between firm-level liquidity and both market liquidity and market returns. Results are robust to a wide range of sensitivity analyses, including controls for endogeneity and propensity matching. Results are particularly pronounced during crises, when liquidity variances, covariances and extreme illiquidity events generally increase substantially, but less so for transparent firms. Finally, liquidity variance, covariance and frequency of extreme illiquidity events are all negatively correlated with Tobin's Q.
This paper reports on the 2009 update of the Worldwide Governance Indicators (WGI) research project, covering 212 countries and territories and measuring six dimensions of governance between 1996 and 2008: Voice and Accountability, Political Stability and Absence of Violence/Terrorism, Government Effectiveness, Regulatory Quality, Rule of Law, and Control of Corruption. These aggregate indicators are based on hundreds of specific and disaggregated individual variables measuring various dimensions of governance, taken from 35 data sources provided by 33 different organizations. The data reflect the views on governance of public sector, private sector and NGO experts, as well as thousands of citizen and firm survey respondents worldwide. We also explicitly report the margins of error accompanying each country estimate. These reflect the inherent difficulties in measuring governance using any kind of data. We find that even after taking margins of error into account, the WGI permit meaningful cross-country comparisons as well as monitoring progress over time.
Using hand-collected data on firms’ interim reporting frequency from 1951 to 1973, we examine the impact of financial reporting frequency on information asymmetry and the cost of equity. Our results show that higher reporting frequency reduces information asymmetry and the cost of equity, and they are robust towards considerations of the endogenous nature of firms’ reporting frequency choice. We obtain similar results when we focus on mandatory changes in reporting frequency. Our results suggest the benefits of increased reporting frequency.
This paper investigates whether the decision to issue a management earnings forecast is related to information asymmetry in the market for the firm s stock and whether the forecasts reduce the asymmetry. Theoretical models hold that a portion of the bid-ask spread arises because of asymmetric information and that specialists widen spreads when they perceive greater information asymmetry. We find that forecasting firms have wider bid-ask spreads than a matched sample of non-forecasting firms prior to the forecast release. This difference disappears after the release of the management forecast. Forecasting firms also experience a gradual increase in spreads over the twelve months leading up to the forecast. The spread is reduced to below the pre- forecast level after the forecast is released.
When the profitability of new investments is privately known only to firms' managers, price pressure from the capital market induces managers to ignore their superior information and base their decisions on the market's uninformed judgements. We show that performance reporting, such as periodic earnings disclosures, supplements price pressure with reporting pressure and alleviates this perverse incentive. Managers choose investment to influence their private anticipation of future performance reports and the market's price response. This disciplines managers' choices in such a way that investment becomes a fully revealing signal of future profitability. Tradeoffs between reporting precision and investment are developed and optimized.
We examine the relation between firm-level transparency, stock market liquidity, and valuation across a variety of international settings. We document lower transaction costs and greater liquidity (as measured by lower bid-ask spreads and fewer zero-return days) for firms with greater transparency (as measured by less evidence of earnings management, better accounting standards, higher quality auditors, more analyst following and more accurate analyst forecasts). The relation between transparency and liquidity is more pronounced in periods of high volatility, when investor protection, disclosure requirements, and media penetration are poor, and when ownership is more concentrated, suggesting that firm-level transparency matters more when overall investor uncertainty is greater. Increased liquidity is associated with lower implied cost of capital and with higher valuation as measured by Tobin’s Q. Finally, a mediation analysis suggests that liquidity is a significant channel through which transparency affects firm valuation and equity cost of capital.
This paper investigates whether accounting standards harmonization enhances the comparability of financial information across countries. I hypothesize that a firm yet to announce earnings reacts more strongly to the earnings announcement of a foreign firm when both report under the same rather than different accounting standards. My analysis of abnormal price and volume reactions for a global sample of firms supports the prediction. Next, in an attempt to control for the underlying economic comparability and the effects of changes in reporting quality, I use a difference-in-differences design around the mandatory introduction of International Financial Reporting Standards (IFRS). I find that mandatory adopters experience a significant increase in market reactions to the release of earnings by voluntary adopters compared to pre-mandatory adoption. This increase is not observed for non-adopters. Taken together, the results show that accounting standards harmonization facilitates transnational information transfer, and suggest financial statement comparability as a direct mechanism.
In this paper we discuss the existing accounting literature on the real effects of financial reporting transparency in international equity markets, present aspects of an international setting that make it a fruitful environment for investigating these effects and suggest directions for future research.
Whether the information environment affects the cost of capital is a fundamental question in
accounting and finance research. Relying on theories about competition between informed
investors as well as the pricing of information asymmetry, we hypothesize a cross-sectional
variation in the pricing of information asymmetry that is conditional on competition. We develop
and validate empirical proxies for competition using the number and concentration of
institutional investor ownership. Using these proxies, we find a lower pricing of information
asymmetry when there is more competition. Overall, our results suggest that competition
between informed investors has an important effect on how the information environment affects
the cost of capital.
Outside directors and audit committees are widely considered to be central elements of good corporate governance. We use a 1999 Korean law as an exogenous shock to assess how board structure affects firm market value. The law mandates 50% outside directors and an audit committee for large public firms, but not smaller firms. We study how this shock affects firm market value, using event study, difference-in-differences, and instrumental variable methods, within a regression discontinuity approach. The legal shock produces large share price increases for large firms, relative to mid-sized firms; share prices jump in 1999 when the reforms are announced.In a companion paper, Bernard Black, Woochan Kim, Hasung Jang and Kyung-Suh Park, How Corporate Governance Affects Firm Value: Evidence on Channels from Korea (working paper 2011), http://ssrn.com/abstract=844744, we provide evidence on the channels through which governance may affect firm value. For our earlier cross-sectional research on Korean corporate governance, see:Bernard Black, Hasung Jang and Woochan Kim, Does Corporate Governance Affect Firms' Market Values? Evidence from Korea,: 22 Journal of Law, Economics and Organization 366-413 (2006), nearly final version at http://ssrn.com/abstract=311275Bernard Black, Hasung Jang & Woochan Kim, Predicting Firms' Corporate Governance Choices: Evidence from Korea, 12 Journal of Corporate Finance 660-691 (2006), nearly final version at http://ssrn.com/abstract=428662
This chapter discusses how applied researchers in corporate finance can address endogeneity concerns. We begin by reviewing the sources of endogeneity - omitted variables, simultaneity, and measurement error - and their implications for inference. We then discuss in detail a number of econometric techniques aimed at addressing endogeneity problems including: instrumental variables, difference-in-differences estimators, regression discontinuity design, matching methods, panel data methods, and higher order moments estimators. The unifying themes of our discussion are the emphasis on intuition and the applications to corporate finance.