The interaction effects of firm and partner tenure on audit quality†

This paper investigates the impact of firm and partner tenure on audit quality, where audit quality is proxied by discretionary accruals. We study a sample of Spanish listed companies between 2005 and 2011 and address both the individual and the interaction effects of firm and partner tenure. Our study is motivated by the current debate, particularly intense at the EU level, on the impact of the auditor rotation regime on the quality of auditing. We find that, without considering the interaction effects, firm and partner tenure do not seem to play a relevant role as determinants of audit quality. Importantly, the interaction of firm and partner tenure shows stronger effects on audit quality than both forms of tenure separately considered. Finally, our analysis suggests that audit quality is maximized when medium firm and partner tenures interact. However, results for the interaction variables are sensitive to the accruals estimation method.     

The effect of communication design and recipients’ numeracy on responses to UXO risk

Risk communications aim to affect recipients’ understanding of specific risks, their trust and liking of the materials, affective responses, and associated behaviors. We developed communications about the number of construction workers expected to get hurt if building were permitted at the former Fort Ord weapons training site in California, despite its contamination with unexploded ordnance (UXO). We created eight versions, which presented text only or bar graph with text, the numerator of the risk (the number of workers expected to be hurt) with or without emphasis on the denominator (the total number of workers), and uncertainty information (the probability that different numbers of workers would be hurt) or not. Recipients varied in numeracy. We examined the effect of these communication features on recipients’ (1) understanding, (2) trust and liking of the materials, (3) affective responses, and (4) support for construction and for construction workers if construction were to be implemented. Low-numerate individuals showed less understanding across all versions of the communication, yet preferred graph-with-text displays relatively more than text-only displays as compared to high-numerate individuals. Emphasizing the denominator increased understanding of text-only displays but decreased support for construction and construction workers for all communication versions. Moreover, recipients were more supportive of construction and construction workers after receiving text-only displays without uncertainty information or graph-with-text displays with uncertainty information, seemingly due to communications with those features being trusted and liked more. We discuss the implications for communicating risks in general and for communicating UXO-related risks to the community surrounding Fort Ord.     

To switch or not to switch? The effect of audit firms’ economies of scale on audit firm switches after audit price deregulation in China

We exploit the unique setting of China’s 2014 audit price deregulation policy to examine whether audit firms use their economies of scale (EOS) to compete for clients. We find a significant increase in client firms switching from a non-EOS auditor to an EOS auditor after the audit price deregulation policy was implemented. The additional analyses show that EOS audit firms are more likely to offer audit fee discounts than non-EOS audit firms while retaining audit quality. We also find that the auditors’ EOS effect is more pronounced for highly homogeneous industries and firms paying high abnormal audit fees, firms in financial distress, and firms receiving less capital market attention than for less homogeneous industries and firms paying low abnormal audit fees, financially stable firms, and firms receiving more capital market attention. Finally, we find that the presence of state-owned enterprises and political connections both separately and jointly moderate the effect of audit firm–client realignments from a non-EOS auditor to an EOS auditor after the audit price deregulation. Overall, our study provides important insights for policymakers and regulators reviewing and developing new policies on audit services.     

The market’s use of supplier earnings information to value customers

In this paper we examine whether the quarterly earnings announcements of supplier firms contain information about their customer’s earnings. Our evidence suggests that they do. Specifically, we find evidence consistent with the market impounding supplier firm earnings information into the stock prices of the firm’s customers. This is consistent with the market using the supplier’s earnings to help assess the customer firm’s future cash flows and/or uncertainty of those cash flows. We also find that the quality of the earnings influences the magnitude of the customer firm’s stock price reaction. The customer’s stock price reaction is increasing in the revenue growth reported by the supplier and the past persistence of the supplier’s earnings. Additional tests reveal that the market reaction is amplified when the customer firm is more dependent on the supplier. Finally, we find that the relative bargaining power of the customer influences the market reaction to supplier earnings. While prior research has documented that the market uses industry peer earnings and customer earnings in pricing a firm’s stock, this is the first study to provide evidence on the market’s use of supplier earnings information.     

The effect of independent directors’ characteristics on firm performance: Tenure and multiple directorships

In this paper, we analyze how the tenure and the number of directorships of independent directors may influence the relationship between board independence and firm performance. Our sample is composed of US listed firms for the period 2008–2012. Several robustness checks and sensitivity analyses are performed and we confirm that the board’s independence positively influences the firm’s performance. Nevertheless, this relationship exists only under certain values of directors’ tenure and external directorships. Our findings show that these variables determine the effectiveness of independent directors. Therefore, this paper highlights the need for a more specific approach, based on the personal characteristics of independent directors, in order to study their influence on corporate decisions, strategy and outcomes. Furthermore, our evidence has direct implications for companies in the selection of board members.     

The effects of firms’ information environment on analysts’ herding behavior

We find financial analysts herd to a greater degree in firms with more opaque information environments as measured by the incidence of short-term institutional investors present. The S-statistic, a measure of forecast bias, and forecast timing and quality metrics are used to measure analyst herding behavior. The results are consistent with the notion that opaque information environments are more conducive to analysts engaging in reputational herding behavior where more capable analysts act first and less capable analysts follow. Additionally, analysts are more likely to issue forecast revisions subsequent to management earnings guidance in less opaque environments. Robustness tests indicate our operational measure of opacity is not subsumed by other measures of the information environment, namely information asymmetry.     

The effects of rural–urban migration on corporate innovation: Evidence from a natural experiment in China

We show that the migration of low-skilled, rural workers to urban centers has a negative causal effect on innovation of firms in such urban centers. Our tests exploit the staggered relaxation of city-level household registration system in China, which facilitates rural residents to migrate to cities. We find a significant decrease in innovation for firms headquartered in cities that have adopted such policies relative to firms headquartered in cities that have not. Overall, our results support the view that an abundant supply of low-skilled workers increases the benefit of using existing low-skilled technology and thus reduces firms’ incentive to innovate.     

Explaining Americans’ responses to dread epidemics: an illustration with Ebola in late 2014

Despite several surveys of Americans’ responses to Ebola as people were treated or died in the US in the late fall of 2014, little was published on factors that might affect these responses, despite their value for informing future management and communication regarding outbreaks of novel infectious diseases. This explanatory aim was the goal of a national quota online sample of Americans (n = 815) who reported their beliefs and attitudes about Ebola in early December, three weeks after the second US death. Responses were shaped particularly by risk judgments and concern, but also by available Ebola information (from news attention or residence in a state with Ebola experience), political cues (partisanship, ideology), and demographics. Judgments of personal risk and US/global risk were shaped by largely different factors; for example, knowledge of Ebola exposure routes exhibited negative and positive signs, respectively. News attention was associated with both positive (e.g. trust in US Centers for Disease Control & Prevention [CDC]; knowledge) and negative (e.g. US/global risk perception; concern about a US outbreak and family member infection) reactions. Findings suggest challenges for future health communication.     

Bancassurance in East Asia: Cultural impact on customers’ cross-buying behaviour

Amid rapid growth of bancassurance in East Asian countries, particularly in South Korea and Taiwan, the article examines the determinants of this growth in these two countries, by testing the influence of ‘collectivism’ as a proxy for national culture on the relationship between cross-buying determinants and customers’ cross-buying intentions. The interviews were conducted during 2011 and 2012 with 13 professional senior managers and academics engaged in customers’ cross-buying activities of bancassurance in South Korea and Taiwan. ‘Perceived value’, ‘trust’, ‘image’ and ‘satisfaction’ were found to be the key determinants of customers’ cross-buying intentions on bancassurance in South Korea and Taiwan, among which ‘trust’ and ‘satisfaction’ were significantly influenced by ‘collectivism’. The article confirms that, even between countries with similar levels of ‘collectivism’, the influence of ‘collectivism’ can differ because of the determinants of cross-buying intentions on bancassurance.     

Make or buy new technology: The role of CEO compensation contract in a firm’s route to innovation

A firm’s board of directors, based on its risk tolerance or “appetite,” sets the corporate objectives. It is then the management’s job to meet the objectives by adopting appropriate strategies. However, the board can design compensation policies to encourage desired management strategy choices. This paper explores the extent to which management compensation policies are aligned with strategy choices for obtaining new technology. Firms obtain new technology either through internal R&D or through acquisitions, often labeled “make” and “buy” strategies, respectively. The “make” strategy is inherently more risky, with much of the high risk idiosyncratic. Furthermore, U.S. GAAP requires that R&D expenditures be expensed but allows capitalization of acquisition costs, thus a firm using the “make” as opposed to the “buy” strategy will experience a greater negative effect on accounting earnings. I hypothesize that these differences will lead risk-averse and utility-maximizing managers to implement the “buy” strategy if their compensation is heavily weighted on accounting-based performance measures. Conversely, managers with more stock-based compensation, especially stock options, are more likely to choose to develop new technology internally. Using data from U.S. high-tech industries and a simultaneous equations regression framework, I find evidence consistent with the above hypotheses.

Discussion of “The effects of multimedia-induced affective states on recall and decision making by individual investors”

Rose (this issue) presents the results of two experiments designed to examine the effects of information presentation characteristics, specifically the use of multimedia, on decision making. Recent advances in information technology make this is an important and timely topic. Rose's study provides useful insights and should stimulate additional research. As with any experiment, however, there are important limitations that should be addressed and corrected in future studies.     

The effects of trading rights and ownership structures on the informativeness of accounting earnings: Evidence from China’ split share structure reform

This paper examines how the removal of trading restrictions and ownership structures affect earnings informativeness by investigating the changes in the earnings-return relation around China’s split share structure reform. I find the reform has a negative impact on the relationship between controlling shareholders’ ownership and earnings informativeness, which is consistent with the idea that the removal of trading restrictions gives controlling shareholders incentives to influence the stock price through managing earnings. I also find that earnings informativeness decreases with the reduction in controlling shareholders’ ownership. This dilution effect is more significant for firms with non-state controlling shareholders or with controlling shareholders that are not monitored by other large shareholders. The results are consistent with the notion that controlling shareholders provide less informative earnings in response to the dilution of their ownership to avoid the constraints arising from the increased monitoring by outside investors.     

The Impact of Oil Price Shocks on the Returns in China’s Stock Market

The main goal of this paper is to study the relationship between oil price shocks and mainland China’s stock market. From empirical study, we have found that the impact of oil price shocks on stock prices in China has been mixed. In contrast to the conventional wisdom that higher oil prices may cause lower stock prices, positive shocks to oil-market-specific demand resulted in both higher real oil prices and higher stock prices, which helps explain the boom of the Chinese stock market as oil prices were increasing in 2007. However, global oil demand and supply shocks had no significant effects.     

The effects of performance report layout on managers’ subjective evaluation judgments

Managers tend to provide subjective performance evaluations that are relatively high (leniency) and not very dispersed (compression). This paper reports on an experiment that investigates whether the layout of performance reports affects the leniency and compression of managers’ subjective evaluations. Relying on psychology theory, we predict that subjective ratings will be higher and more compressed if performance reports contain alphabetically listed indicators rather than categorically listed indicators (as in a balanced scorecard). Moreover, we predict that ratings will be higher and more compressed if performance reports present indicator target and actual values in tables than when this information is presented in graphs. The results from the experiment provide support for the hypothesis that performance ratings are higher if measures are listed in alphabetical order as opposed to presented in a four-category balanced scorecard format. However, there is no support for the other hypotheses. We discuss the implications of the study for accounting research and practice.     

The effects of reputation and relationships on lead banks’ certification roles

We investigate the certification roles of lead bank retention in US syndicated loans with respect to interest rates, then explore how lead banks’ reputation and previous relationships with the borrower alter such certification effects. Our findings support the certification hypothesis. Loan spreads are found to decrease with a higher retention ratio, after controlling for the endogeneity of loan price and retention. The magnitude of certification effect is reduced when the lead bank is a more reputable lender and when there are prior bank–borrower relationships. Lead bank reputation and prior lending relationships can therefore substitute for the need to certify.     

The real effect of banking crises: Finance or asset allocation effects? Some international evidence

This paper analyzes whether the decline in economic growth that follows a banking crisis occurs because of a reduction in the amount of credit available (finance effect) or a worsening in the allocation of investable resources (asset allocation effect). We use a sample of more than 2500 industrial firms in 18 developed and developing countries that experienced 19 systemic banking crises between 1989 and 2007. The results indicate that banking crises negatively affect firms’ intangible investments, which intensifies the economic downturn. The negative growth effect produced by the worsening of the investment allocation is stronger in countries with highly developed financial systems and institutions.     

Public’s perceived overcrowding risk and their adoption of precautionary actions: a study of holiday travel in China

The importance of travel risk has been recognized, but only a limited number of studies have been conducted on this risk and the precautionary actions the public may take to manage it during holidays. This study applied the protective action decision model and the protection motivation theory to examine the public’s intent to take precautionary actions during holiday times to handle the risk of overcrowding in China. Our survey showed that efficacy-related attributes of precautionary actions were positively correlated, whereas resource-related attributes were negatively correlated, with the intention to take precautionary measures. Risk perception also significantly influenced the adoption intention, but the amount of variance in the intention to adopt precautionary actions that was motivated by risk perception was lower than that related to efficacy-related attributes. In addition, we found that risk perception mediated the influence of past overcrowding experiences on people’s intention to adopt precautionary measures. Travel frequency, length of time spent away for the holiday, and the number of underage family members involved were significantly correlated with the intention to adopt precautionary actions. Finally, this paper discussed suggestions and implications for travelers, tourist departments, and related stakeholders.     

Performance effects of appointing other firms’ executive directors to corporate boards: an analysis of UK firms

This paper studies the effect on company performance of appointing non-executive directors that are also executive directors in other firms. The analysis is based on a new panel dataset of UK companies over 2002–2008. Our findings suggest a positive relation between the presence of these non-executive directors and the accounting performance of the appointing companies. The effect is stronger if these directors are executive directors in firms that are performing well. We also find a positive effect when these non-executive directors are members of the audit committee. Overall, our results are broadly consistent with the view that non-executive directors that are executives in other firms contribute to both the monitoring and advisory functions of corporate boards.     

The effect of major customer concentration on firm profitability: competitive or collaborative?

We test two potential hypotheses regarding the effects of major customer concentration on firm profitability. Under the collaboration hypothesis, customer power facilitates collaboration, and both the supplier firm and its major customers obtain benefits. Under the competition hypothesis, customer power results in rent extraction, and the major customers benefit at the expense of the supplier firm. We document that major customer concentration is negatively associated with the supplier firm’s profitability but positively associated with the major customers’ profitability. We demonstrate that these effects weaken as the supplier firm’s own power grows over its relationship with major customers, supporting the competition hypothesis. We carefully reconcile our results with prior studies’ findings that focus only on the supplier firm’s profitability and identify their research design and interpretation problems. We obtain similar inferences in a setting of major customers’ horizontal mergers and when we use an alternative measure of major customer power.

     

The effects of analysts’ tax expense forecast accuracy on corporate tax avoidance: An international analysis

A spotlight has recently been cast on the role of analysts as monitors of corporate tax planning, but investigations beyond the US are rare. After extension to the international setting, I investigate whether the strength of investor protection impacts the relationship between analysts’ tax expense forecast accuracy and tax avoidance. Using a sample from 24 countries, I find that firms with high analysts’ tax expense forecast accuracy engage in lower levels of tax avoidance than firms with low forecast accuracy; this relationship is greater for firms in countries with weaker investor protection. These findings suggest that the extent of country-level investor protection substitutes for firm-level governance in constraining managerial incentives for tax avoidance.