The role of specialists in financial reporting: Evidence from pension accounting

The increasing use in financial reporting of estimates prepared by specialists has raised questions on the role these specialists play in financial reporting quality. In the setting of defined-benefit pension accounting—where the pension actuary is involved as a specialist—I examine whether pension sponsors with strong incentives to improve reported funding status pressure their actuaries for aggressive (obligation-reducing) assumptions. Among these sponsors, I find that those that are economically important clients of their actuaries use more aggressive discount rates than less important clients of the same actuary. Sponsors incentivized to inflate reported funding status but constrained from doing so also tend to seek out new actuaries. Discount rates become more aggressive after switches. These findings suggest that specialists are used to facilitate aggressive reporting. They also indicate that auditors—who are charged with evaluating specialists’ independence before relying on their work—may have difficulty implementing this guidance in practice.     

The effect of financial reporting quality on CEO compensation structure: Evidence from accounting comparability

This study examines the effect of accounting comparability on the design of CEO compensation structure. After controlling for firm-specific attributes, we find that accounting comparability is positively associated with CEO equity-based compensation intensity and pay-performance sensitivity. This suggests that the improved comparability increases the usefulness of equity-based compensation and a firm is willing to offer more equity-based compensation contracts to CEOs and increase their pay-performance sensitivity. Further, we find that the impact of comparability on the CEO’s compensation contract increases with information asymmetry, which is consistent with the notion that accounting comparability is a quality of financial reporting that facilitates the use of equity-based compensation in a poor information environment. Our analysis also reveals that the effect of accounting comparability on CEO compensation structure is greater when a firm’s corporate governance is strong, consistent with the complementary relation between comparability and the exiting corporate governance in determining CEO compensation schemes. Overall, our evidence suggests that firms utilize more equity-based compensation as a proportion of total compensation under greater accounting comparability and enhance the alignment between equity-based compensation and firm performance.     

Assessing financial instability: The case of Brazil

In this paper we use the arbitrage pricing theory to infer the probability of financial institution failure for banks in Brazil. We build an index of financial stability for Brazilian banks. Empirical results seem to provide evidence that after the Russian crisis in 1998, systemic risk has increased in the country but this risk has decreased over time through 2002. Furthermore, for individual major banks the probability of failure has decreased monotonically after the Russian crisis with the adoption of a floating exchange rate regime, an inflation-targeting framework and the introduction of the new payment system.     

Assessing the effectiveness of financial reporting harmonization for emerging market banks: The case of Banco Serfin

In the last decade there has been a proliferation of financial crises in emerging markets. To some extent, the suddenness and magnitude of some of these crises have been blamed on poor financial reporting standards for bank loan losses. As a result, prior to providing countries with “financial bailout” funds, international investors and international financial organizations have increasingly required that countries harmonize their bank financial reporting standards with international financial reporting standards.Given this trend, this case requires students to assess the effectiveness of efforts to harmonize loan financial reporting (with International Financial Reporting Standards) for Mexican banks during (and after) the country’s financial crisis of the late 1990s. Students are required to assess the extent to which both pre-crisis standards as well as new, post-crisis standards complied with international financial reporting standards. They are also required to assess the impact of the new standards on the reporting practices for loans of one particularly troubled financial institution. Through the examination of this institution’s accounting practices for loans, students obtain a familiarity of the shortcomings of emerging markets’ banks’ loan financial reporting as well as the factors which influence the adoption of international financial reporting standards by emerging market banks.     

Adoption of IFRS in Spain: Effect on the comparability and relevance of financial reporting

EU Regulation 1606/2002 requires application of International Financial Reporting Standards (IFRS) by groups listed on European stock markets. In Spain, listed groups are now obliged to prepare consolidated financial information under IFRS, and legislative changes to bring local rules into line with international standards have been tabled.In this context, the potential impact of IFRS is fraught with uncertainty. Our study of IBEX-35 companies focuses on the effects of the new standards on comparability and the relevance of financial reporting in Spain. We address these objectives by seeking significant differences between accounting figures and financial ratios under the two sets of standards (i.e. Spanish accounting standards and IFRS).The results obtained show that local comparability has worsened. The study reveals that local comparability is adversely affected if both IFRS and local accounting standards are applied in the same country at the same time. Reforms to bring local rules into line with international standards are therefore urgent. We also find that there has been no improvement in the relevance of financial reporting to local stock market operators because the gap between book and market values is wider when IFRS are applied. While there has been no gain in terms of the usefulness of financial reporting in the short-term, improved usefulness may be achieved in the medium to long-term.     

The effect of pension accounting on corporate pension asset allocation

We examine the impact of new pension disclosures and subsequent full pension recognition under FRS 17 and IAS 19 in the United Kingdom and SFAS 158 in the United States on pension asset allocation. These standards require recognition of net pension surplus/deficit on the balance sheet and actuarial gains/losses in other comprehensive income. Therefore, these standards introduce volatility into comprehensive income and balance sheets. We identify a disclosure period during which UK companies disclosed all the required data under FRS 17 in the notes without recognition. We also identify a full recognition period starting 1 year before until 1 year after the adoption of FRS 17/IAS 19 (UK) and SFAS 158 (US). We predict and find that UK companies, on average, shifted pension assets from equity to debt securities during both the disclosure and the full recognition periods. We also find that while before the adoption of SFAS 158 US companies maintained a stable allocation to equities and bonds, these companies, on average, shifted funds from equities to bonds around the adoption of SFAS 158. Cross-sectional analysis shows that the shift away from equities is related to changes in funding levels, shorter investment horizons, increased financial leverage, and the expected impact of the new standards on shareholders’ equity.     

The quality of financial reporting in China: An examination from an accounting restatement perspective

This study uses restatements to reveal the poor quality of past accounting information reported within China’s capital market. We show that up to a quarter of listed firms in mainland China explicitly admitted the poor quality of their financial information by restating their previous financial reports between 1999 and 2005. Many of these firms managed their earnings mainly via below-the-line items to avoid losses and promote survival, rather than to support refinancing goals. Such poor-quality financial reporting is more likely among firms that have weaker profitability and a shareholder base that is state-controlled, with diffused ownership and a relatively low proportion of shares held by institutional investors. Furthermore, we find the market to be relatively insensitive to such admissions. Investors’ reactions capture only the earnings information of the current reported year, rather than also reflecting the concurrently revealed correction of past financial reporting. However, the equity market does not completely ignore the earnings information. Investors’ reliance on earnings is merely low relative to the mature US market. These findings demonstrate that accounting credibility in China has low value; providing poor-quality financial information bears little cost because various market mechanisms fail to deter such behavior. Nevertheless, regulators’ ongoing efforts to enhance the quality of financial information and disclosure among listed firms are still fruitful. The frequency of restatements decreased over our sample period, which reinforces the current regulatory prospects and strategies for further improving China’s capital markets.     

The effect of recognition vs. disclosure on investor valuation: The case of pension accounting

Whether or not the format of financial reporting influences user assessment of the reported information is an important issue to the Securities and Exchange Commission (SEC), the Financial Accounting Standards Board (FASB), and managers. Do investors, in determining security prices, differentiate between information recognized in the balance sheet and that disclosed in the footnotes? The findings indicate that investors appear to consider pension information disclosed in the footnotes as value-relevant, given that an accrued (prepaid) pension liability (asset) is also recognized in the balance sheet. Second, investors attach equal importance to both sorts of pension information.     

Valuation-based accounting research: Implications for financial reporting and opportunities for future research

This paper discusses the relation between financial reporting research and practice, particularly standard setters. Many studies addressing financial reporting issues use a valuation approach. The paper describes alternative approaches to valuation research and summarises the findings relating to four major current issues: fair value accounting for financial, tangible, and intangible assets, cash flows versus accruals, recognition versus disclosure, and international harmonisation of accounting standards. The summaries include identifying what standard setters and others would like to learn from research, what we have learned, and what is left to learn. The paper concludes with observations about future financial reporting academic research.     

The global institutionalization of financial reporting: The case of the United Arab Emirates

Almost 100 countries have agreed to adopt or work towards convergence with the International Accounting Standards Board's international financial reporting standards (IFRS). Applying an institutional theory framework at a nation state level, and using publicly available data about the emerging economy of the United Arab Emirates (UAE) as a case, this paper identifies some of the global coercive, normative and mimetic pressures which have contributed to this widespread adoption. The challenge for emerging economies such as that of the UAE is whether the reality of IFRS implementation can match the image of IFRS adoption.     

Governmental budgeting as ex ante financial accounting: The United Kingdom case

For many years now the academic governmental-budgeting literature has concentrated almost exclusively on the politics and economics of the budgetary process at the expense of the mechanical foundations. Consequently, we see an interesting but insulated discussion about political involvement and about the strengths and weaknesses of planning models. What we do not see is a discussion of the accounting perspective. This paper offers such a discussion. It explains local government budgeting as “ex ante financial accounting” and offers some important implications of this re-interpretation.     

Convergence of accounting standards and financial reporting externality: evidence from mandatory IFRS adoption

Using mandatory adoption of International Financial Reporting Standards (IFRS) as a natural experiment, we examine whether reporting externalities can be magnified when financial disclosures are based on a common set of accounting standards. Specifically, we investigate and find that the changes in publicly available information of mandatory IFRS adopters (due to the convergence of accounting standards) can impact the investment efficiency of prior voluntary adopters. While we document positive externalities of mandatory IFRS, we also observe heterogeneity in these spillover effects at the firm and the country level, suggesting that externalities increase with improvements in the comparability of accounting information.     

IFRS Taxonomy and financial reporting practices: The case of Italian listed companies

XBRL taxonomies have a crucial role in digital financial reporting. On the one hand, they provide a unique set of computer-readable tags to allow the interchange of interactive information. On the other hand, a systematic, agreed-upon convention for naming each taxonomy tag is needed. In this context, the IFRS Foundation is playing a relevant role in developing well-structured taxonomies, which could simultaneously favor both the interoperability and the homogenization of the firms' financial information at the global level. Due to its importance, XBRL is being applied in many countries, but according to different implementation schemas.In this study, we attempt to verify if the IFRS Taxonomy released by the IFRS Foundation adequately reflects the reporting practices of the Italian listed companies for which XBRL is not yet required. The results reveal a general discrepancy between the financial items disclosed by the companies and the taxonomy tags. Specifically, we noticed that the financial statements items are more disaggregated than the taxonomy tags and that this depends on the sector and the size of the companies. Unless the XBRL implementation system explicitly allows companies to use and disclose taxonomy extensions, a loss of detailed information occurs if the taxonomy is applied.     

Pro forma accounting disclosures: The effect of reconciliations and financial reporting knowledge on nonprofessional investors' judgments

Regulation G requires companies that report non-GAAP or “pro forma” earnings provide a reconciliation. While nonprofessional investors are a large, heterogeneous population with varying degrees of financial reporting knowledge, previous research treats them as a homogenous group. The study examines how differences in financial reporting knowledge and information viewing behavior affect the influence of reconciled pro forma earnings disclosures on nonprofessional investors' judgments. Lower-knowledge investors appear to incorporate information on differences between GAAP and pro forma earnings in their judgments as long as they view this information in the reconciliation. However, higher-knowledge investors appear to consistently incorporate information on differences between GAAP and pro forma earnings in their judgments regardless of the relative amount of time they spend viewing the reconciliation relative to other disclosures. Our results suggest that knowledge differences influence how nonprofessional investors acquire and use information on differences between GAAP and pro forma earnings.     

On the robustness of the results of adoption date choice studies: The case of pension accounting

This paper examines the robustness of the results of adoption date choice studies to sample selection criteria, variable set, and the approach to model building. We use the new pension accounting standard (SFAS 87) in our examination. To this end, we develop a model of the relationship between the adoption date of the pension standard and the variables commonly used in adoption date studies. The variables are: (1) Firm size (2) income change prior to the adoption date and proxies for income management; (3) tightness of debt constraints; and (4) extent of the impact of the standard on financial statements.The results are consistent with the smoothing and compensation hypotheses, but not with the size hypothesis. Debt constraints did not have a significant effect on the selection of the adoption date; but, to the extent that the funding status of pension plans is a measure of the income effect of SFAS 87, the results are also consistent with the selection of adoption date to ease accounting-based debt constraints.Further tests indicate that the results of adoption date choice studies depend on the sample selection critiera, the variable set, and the approach to model building. Future researchers should be aware of the sensitivity of the results to these factors.     

Measuring the convergence of national accounting standards with international financial reporting standards: The application of fuzzy clustering analysis

A single set of accounting standards is considered the path to achieving accounting convergence globally. Given the important role that formal harmonization/convergence plays in the accounting profession and global capital markets, this study focuses on the methods and methodology for the measurement of formal accounting convergence. Based on our review and evaluation of the existing methods for measuring the level of harmonization/convergence between any two sets of accounting standards, we propose using a new method of matching and fuzzy clustering analysis to assess the convergence progress of national accounting standards (NAS) with International Financial Reporting Standards (IFRS) from whole and single standards, respectively. Single standards are clustered according to their convergence level, which may indicate further convergence emphasis. As an illustrative example, the achievements made in China are evaluated using this new method. The results reveal that this new method can measure the convergence level of NAS with IFRS more clearly and informatively.     

The impact of financial reporting quality on debt maturity: the case of private firms

We examine whether the debt maturity structure of privately held firms is associated with the quality of their earnings numbers. We argue that earnings numbers that are better able to predict future cash flows lower information asymmetry between privately held firms and their creditors, improving privately held firms’ access to long-term debt. Furthermore, we examine whether the relationship between privately held firms’ earnings quality and their debt maturity differs between small and medium-sized enterprises (SMEs) and larger privately held firms. Using detailed financial statement information from a sample of privately held Belgian firms, we find that earnings quality is positively associated with the likelihood of having long-term debt and with the proportion of long-term debt in total debt. Further, we report evidence that these associations are more pronounced for SMEs than for larger privately held firms, which is consistent with smaller firms entailing more fundamental risk for creditors.     

The determinants of Internet financial reporting

Responding to the widespread adoption of the Internet and the rapidly growing demands for information from stakeholders, corporations around the world are using the Internet for business and financial disclosures. Internet reporting has the benefits of low cost, wider reach, frequency and speed. Despite these benefits Internet reporting varies across companies and across countries. We study Internet financial reporting (IFR), in particular the presentation and content of IFR, of 660 large companies in 22 countries to identify the firm, and environmental determinants of IFR. The study revealed that firm size, listing on US stock exchanges and technology were firm specific determinants of IFR. Given that IFR is not just about the content of disclosure, but also about employing new presentation methods, the environment of disclosure was included in the research. The overarching disclosure environment of a country was found to be an important environmental driver for IFR presentation and less strongly for IFR content. The presentation aspect of IFR was more associated with the identified determinants than the content of IFR, which suggests that Internet presentation technologies were more related to the determinants than the content of the reports on the company Web sites.