Audit exemptions and compliance with tax and accounting regulations

We examine small firms’ compliance with tax and accounting regulations before and after a change in the threshold for mandatory auditing. Prior to 2011, all Norwegian firms were required to be audited. In 2011, a law change allowed small Norwegian firms to choose not to be audited. After this change, the Norwegian Directorate of Taxes conducted on- and off-site inspections of a representative sample of 2117 Norwegian firms, with a focus on compliance with specific requirements in tax and accounting regulation. We use the results from these inspections to construct a compliance quality score (CQS). We find that the firms that chose to opt out of auditing have lower CQS than do firms that chose to continue to be audited; that the CQS of firms that chose not to be audited declined after opting out; and that some of the opt-out firms fully mitigated the decline in CQS by engaging external accountants or auditors to prepare their annual financial statements. The results should be of interest to regulators considering increasing the thresholds for mandatory auditing, as our results show that (i) firms that choose not to be audited can experience a decline in CQS after opting out and (ii) CQS can be maintained at the same level as before if opt-out firms engage external consultants that assist in preparing the annual accounts.     

The valuation relevance of environmental performance revisited: The moderating role of environmental provisions

This study attempts to broaden our understanding of the value relevance of environmental performance by providing empirical evidence on the moderating role of financial environmental reporting. Previous studies find that firms' environmental performance can be both positively and negatively associated with market value. Such contradictory findings can be attributed to the fact that environmental performance is associated with future economic benefits and costs. This study suggests that firms with recognized environmental provisions on their balance sheets enable investors to disentangle these opposite effects either by signaling strong future financial performance or by enhancing the reliability of environmental performance information. Regardless of the mechanism by which this moderation effect is invoked, it is hypothesized that capital market participants place a positive and significantly higher value on the environmental performance ratings of firms with recognized environmental provisions than on the ratings of firms without environmental provisions. Utilizing a sample of 692 firm-year observations of French listed firms and employing a linear price-level model that associates the market value of a firm's equity with its environmental performance, I provide empirical evidence to corroborate this thesis. In addition to contributing to the academic debate on the market valuation implications of environmental performance, this study intends to provide useful insights from a country that can be considered a pioneer of environmental reporting legislation; hence, it provides valuable lessons for other jurisdictions that are in the process of developing their sustainability reporting regulations. Finally, the findings of this study support the calls for more integrated reporting showing that the interaction of financial and non-financial information has market valuation implications.     

Do antitakeover provisions harm shareholders?

We reexamine the negative relation between firm value and the number of antitakeover provisions a firm has in place. We document that firms with characteristics indicating low power to bargain for favorable terms in a takeover, but also indicating high potential agency costs, have more antitakeover provisions in place. We also find that for these firms, Tobin's Q increases in the number of adopted provisions. These findings are robust to several methods that control for endogeneity. Our evidence suggests that adopting more antitakeover provisions is beneficial for certain firms and challenges the commonplace view that antitakeover provisions are universally harmful for shareholders.     

The Impact of the Corporate Control Market on IPO Decisions

Entrepreneurs who take their firm public during an active corporate control market face an increased risk of losing control through a takeover. I examine the extent to which the threat of takeover impacts IPO firms’ decisions and find that an active takeover market in an IPO firm's industry increases the probability that the firm incorporates in a state with state‐level antitakeover provisions. IPO firms backed by venture capital investors and reputable underwriters are less likely to incorporate in a state offering antitakeover provisions. A closer examination of equity carve‐outs suggests that control is not a first‐order consideration for some IPO firms.     

The impact of corporate governance on corporate performance: Evidence from Japan

Employing a unique data set provided by Governance Metrics International, which rates firms using six different corporate governance dimensions, we analyze whether Japanese firms with many governance provisions have a better corporate performance than firms with few governance provisions. Employing an overall index, we find that well-governed firms significantly outperform poorly governed firms by up to 15% a year. Using indices for various governance categories, we find that not all categories affect corporate performance. Governance provisions that deal with financial disclosure, shareholder rights, and remuneration do affect stock price performance. The impact of provisions that deal with board accountability, market for control, and corporate behavior is limited.     

MARKET INTERPRETATION OF ISO 9000 REGISTRATION

Since 1990, many U.S. firms have registered under the provisions of the ISO 9000 standard. Meeting the qualifications of this registration requires considerable time and money. To this point, the justification has been put in terms of management commitment to quality, cost reduction, or opening new markets, particularly international markets. We contribute by examining the reaction of the firms' stock price to the announcement of ISO 9000 registration. We find that for the smallest firms, ISO 9000 registration is regarded as positive information by investors. We also find that the market reaction to ISO 9000 registration is sensitive to the signing of the Maastricht Treaty in 1992.     

Universal Banking Under Bilateral Information Asymmetry

The Gramm–Leach–Bliley (GLB) Act of 1999 repealed many provisions of the Glass–Steagall Act that curtailed competition between banks and commercial firms. Significantly, however, the GLB Act did not repeal the constraint on banks from owning equity in commercial firms (“universal banking”). Should banks be allowed to hold equity in corporate borrowers? If allowed, would banks optimally choose to do so? Despite its relevance from a policy perspective, there are surprisingly few theoretical analyses of this issue of “universal banking”. We develop a model in which the bank's advisory role as an “inside” shareholder hinges on its equity stake. The optimal capital structure and the bank's and entrepreneur's equity stakes are endogenously determined in a world with potential double-sided moral hazard. In certain scenarios, the bank may prefer not to hold any equity. Our analysis indicates that allowing optimal bank equity participation may foster improved corporate performance. This benefit of universal banking should be considered in policy debates.     

The unintended consequences of voluntary adoption of clawback provisions on managerial ability

I investigate the impact of the voluntary adoption of clawback provisions on managerial ability and predict that clawback provisions will motivate managers to exert more efforts following the adoption of clawback and these efforts will be in the form of an increased managerial efficiency. Using a propensity score matched sample of firms, I find a significant positive association between voluntary clawback adoption and the change in both rank and score of managerial ability. My study highlights the unintended consequences of clawback provisions on CEO's behavior and contributes to the on-going debate on the importance of proactively and carefully drafting clawback policies, further signifying the importance of the SEC's efforts (Rule 10D-1) to enforce clawback policies.     

Opting for Opting‐In? An Evaluation of the European Commission's Proposals for Reforming VAT on Financial Services*

This paper provides a legal and economic analysis of the European Commission's recent proposals for reforming the application of VAT to financial services, with particular focus on their ‘third pillar’, under which firms would be allowed to opt in to taxation on exempt insurance and financial services. From a legal perspective, we show that the proposals’‘first and second pillars’ would give rise to considerable interpretative and qualification problems, resulting in as much complexity and legal uncertainty as the current regime. Equally, an option to tax could potentially follow significantly different legal designs, which would give rise to discrepancies in the application of the option amongst Member States of the European Union (EU). On the economic side, we show that quite generally, when firms cannot coordinate their behaviour, they have an individual incentive to opt in on business‐to‐business (B2B) transactions, but not on business‐to‐consumer (B2C) transactions. We also show that opting‐in eliminates the cost disadvantage that EU financial services firms face in competing with foreign firms for B2B sales. But these results do not hold if firms can coordinate their behaviour. An estimate of the upper bound on the amount of tax revenue that might be lost from allowing opting‐in is provided for a number of EU countries.     

The Vote Is Cast: The Effect of Corporate Governance on Shareholder Value

This paper investigates whether improvements in the firm's internal corporate governance create value for shareholders. We analyze the market reaction to governance proposals that pass or fail by a small margin of votes in annual meetings. This provides a clean causal estimate that deals with the endogeneity of internal governance rules. We find that passing a proposal leads to significant positive abnormal returns. Adopting one governance proposal increases shareholder value by 2.8%. The market reaction is larger in firms with more antitakeover provisions, higher institutional ownership, and stronger investor activism for proposals sponsored by institutions. In addition, we find that acquisitions and capital expenditures decline and long‐term performance improves.     

The effects of firm-initiated clawback provisions on bank loan contracting

Although firm-initiated clawbacks reduce accounting manipulation, they also induce managers to engage in suboptimal activities (e.g., reduce research and development (R&D) expenses) to achieve earnings targets. To assess the effectiveness of clawback provisions, we examine their impact from debtholders' point of view. We find that banks use more financial covenants and performance pricing provisions in the loan contracts and decrease interest rates after firms initiate clawbacks. Moreover, we also find that loan maturity increases and loan collateral decreases subsequent to clawback adoption. Taken together, our findings indicate that firm-initiated clawback provisions enhance financial reporting quality, thereby reducing the information uncertainty that financing providers face.     

Corporate performance and CEO compensation in China

This paper examines the compensation of CEOs in China's listed firms. First, we discuss what is known about the setting of CEO compensation and then we go on to examine factors that may help explain variations in the use of performance related pay. In China, listed firms have a dominant or controlling shareholder and we argue that the distinct types of controlling shareholder have different impacts on the use of incentive pay. We find that firms that have a State agency as the major shareholder do not appear to use performance related pay. In contrast, firms that have private blockholders or SOEs as their major shareholders relate the CEO's pay to increases in stockholders' wealth or increases in profitability. However the pay–performance sensitivities for CEOs are low and this raises questions about the effectiveness of firms' incentive systems.     

A Lobbying Approach to Evaluating the Sarbanes‐Oxley Act of 2002

We evaluate the impact of the Sarbanes‐Oxley Act (SOX) on shareholders by studying the lobbying behavior of investors and corporate insiders in order to affect the final implemented rules under SOX. Investors lobbied overwhelmingly in favor of strict implementation of SOX, while corporate insiders and business groups lobbied against strict implementation. We identify firms most affected by the law as those whose insiders lobbied against strict implementation. Such firms appear to be characterized by agency problems, rather than motivated by concerns over compliance costs. Cumulative stock returns during the five and a half months leading up to SOX passage were approximately 7% higher for corporations whose insiders lobbied against SOX disclosure‐related provisions than for similar non‐lobbying firms, consistent with an expectation that SOX would reduce agency problems. Analysis of returns in the post‐passage implementation period suggests that investors' positive expectations with regards to the effects of these provisions were warranted.     

Political Connections and Corporate Bailouts

We analyze the likelihood of government bailouts of 450 politically connected firms from 35 countries during 1997–2002. Politically connected firms are significantly more likely to be bailed out than similar nonconnected firms. Additionally, politically connected firms are disproportionately more likely to be bailed out when the International Monetary Fund or the World Bank provides financial assistance to the firm's home government. Further, among bailed‐out firms, those that are politically connected exhibit significantly worse financial performance than their nonconnected peers at the time of and following the bailout. This evidence suggests that, at least in some countries, political connections influence the allocation of capital through the mechanism of financial assistance when connected companies confront economic distress.     

German Reporting Practices: An Analysis of Reconciliations from German Commercial Code to IFRS or US GAAP

This paper presents the results of research analyzing reconciliations of net income and stockholders’ equity from reports prepared according to Germany's Commercial Code (HGB) to either International Financial Reporting Standards (IFRS) or US Generally Accepted Accounting Principles (US GAAP). We describe the distribution of the reconciling items and assess their value relevance to firm market values 3 months after the financial statement date. The work helps to identify many issues not apparent from research that focuses only on promulgated accounting standards. Among other things, the research presented in this paper demonstrates that, when reconciling to IFRS or US GAAP, German companies must reverse significant software and film licensing revenue. Other areas of significant difference, not surprisingly, show greater conservatism in reporting under HGB than IFRS or US GAAP, particularly in asset capitalizations and write-offs as well as in accruals of provisions and reserves. The latter category is value relevant to the firms’ market values after controlling for all other categories of reconciling items from HGB to either IFRS or US GAAP, indicating that German markets value these companies’ provisions and accruals under the German reporting system.     

Corporate Governance and Firm Value: The Impact of the 2002 Governance Rules

The 2001 to 2002 corporate scandals led to the Sarbanes–Oxley Act and to various amendments to the U.S. stock exchanges' regulations. We find that the announcement of these rules has a significant effect on firm value. Firms that are less compliant with the provisions of the rules earn positive abnormal returns compared to firms that are more compliant. We also find variation in the response across firm size. Large firms that are less compliant earn positive abnormal returns but small firms that are less compliant earn negative abnormal returns, suggesting that some provisions are detrimental to small firms.     

The effects of stricter regulation on the going public decision of small and knowledge-intensive firms

This paper studies the impact of increased securities regulation on the IPOs of small and high-tech, knowledge-intensive firms. We take advantage of the adoption of European SOX-like provisions, staggered at different dates across European countries, to test its influence on the going public decision. Starting from the population of European private firms during 1995–2012, we find that the likelihood of going public has decreased among small and high-tech, knowledge-intensive firms. Consistently, we document a 6% and 8.5% decrease in the industry-adjusted Tobin's Q of small and knowledge-intensive firms that go public after the regulatory change.     

Does product market competition affect corporate governance? Evidence from corporate takeovers

We examine the extent to which shareholders strategically allow a weak governance structure in response to increasing competition pressures in the product market. We treat acquisitions by rival firms as shocks that increase threats in a competitive product market. We find that firms adopt greater entrenchment provisions when there are greater competition threats. Moreover, firms with high institutional ownership – especially by dedicated investors – and​ board independence within the compensation committee are particularly aggressive, which is consistent with our theory that aggressive behavior represents a strategic decision by shareholders. Finally, we find positive relationship between the adoption of entrenchment provisions and firm’s future performance, but only for the adoption under relatively severe competitive pressures.     

THE EFFECTS OF MUTUAL FUNDS ON M&A COMPENSATION

Motivated by shareholders’ interest in combating executive wealth expropriation through the merger and acqusition (M&A) process, we study how mutual funds influence firm behavior around an acquisition through votes against management proposals. We find that mutual funds reduce the chief executive officer's ability to extract rents during the M&A process by voting against management‐sponsored compensation proposals after the acquisition, thus lowering both excess compensation and increasing pay‐for‐performance sensitivity. Furthermore, mutual fund voting magnifies the impact on negatively performing firms and firms with a larger amount of the mutual fund's holdings in the firm.     

THE ELIMINATION OF DIRECTOR LIABILITY AND STOCKHOLDER RETURNS: AN EMPIRICAL INVESTIGATION

In this paper, the performance of the common stock of Delaware and non-Delaware firms is examined during the Delaware legislature's debate and approval of an amendment to the Delaware General Corporation Law permitting the elimination of director liability. In addition, stockholder returns surrounding the proxy and meeting dates for certain Delaware firms are examined. Results indicate that Delaware firms performed worse than non-Delaware firms during the legislative period; however, strong differences between the two groups are not documented.