The Time Series Properties of Financial Ratios: Lev Revisited

This paper re‐evaluates the time series properties of financial ratios. It presents new empirical analysis which explicitly allows for the possibility that financial ratios can be characterized as non‐linear mean‐reverting processes. Financial ratios are widely employed as explanatory variables in accounting and finance research with applications ranging from the determinants of auditors' compensation to explaining firms' investment decisions. An implicit assumption in this empirical work is that the ratios are stationary so that the postulated models can be estimated by classical regression methods. However, recent empirical work on the time series properties of corporate financial ratios has reported that the level of the majority of ratios is described by non‐stationary, I (1), integrated processes and that the ratio differences are parsimoniously described by random walks. We hypothesize that financial ratios may follow a random walk near their target level, but that the more distant a ratio is from target, the more likely the firm is to take remedial action to bring it back towards target. This behavior will result in a significant size distortion of the conventional stationarity tests and lead to frequent non‐rejection of the null hypothesis of non‐stationarity, a finding which undermines the use of these ratios as reliable conditioning variables for the explanation of firms' decisions.     

Balance Sheet Management: The Case of Short-Term Obligations Reclassified as Long-Term Debt

We investigate potential management of balance sheet ratios by a sample of firms that reclassify short-term obligations to long-term debt and subsequently declassify that debt (return it to the current liability section). Although aggregate measures of liabilities and equity remain unchanged when firms reclassify (declassify), the practice does increase (decrease) reported measures of liquidity, such as the current ratio, and long-term leverage. Our results suggest that firms reclassify and declassify to smooth reported liquidity and leverage, relative to the prior year and to industry benchmarks. Our evidence is also consistent with firms working around restrictive debt covenants.     

The Recognition and Timing of Deferred Tax Liabilities

Abstract:   This paper examines the characteristics of firms that account for deferred tax liabilities related to government investment grants under an extended adoption timing period. Not only the recognition but also the timing decision is associated with changes in future performance and changes in the debt structure. Recognisers outperform non‐recognisers in the future, while early recognition is related to post recognition performance but only for those firms that currently perform well. Changes in the balance sheet structure are also related to both decisions. Firms with recent increases in the debt level tend to postpone recognition, while currently well‐performing firms that increase their future debt level are less likely to recognise deferred taxes.     

Bank Relationship and Firm Performance: Evidence From Thailand Before the Asian Financial Crisis

Abstract:   This study examines the relation between bank relations and market performance in Thailand, an economy in which commercial banks play a crucial role through lending relationship and, for a number of companies, equity ownership. Overall, bank relationships, both equity‐based and debt‐based, positively affect capital investment. However, there is a negative relation between lending relationships, both short‐term and long‐term, and market performance indicating that bank lending may not always be consistent with value maximization. There is also evidence of a positive marginal effect of bank monitoring through equity ownership on market performance. Further, the relation between bank equity ownership and market performance appears to be non‐linear with a concave function. Ownership by corporate insiders is also negatively related to bank equity ownership. Overall, the findings highlight the detrimental effects of excessive short‐term debt usage, one of the factors believed to contribute to the financial crisis in Thailand, and the marginal benefit of the equity‐based relationship on firm value.     

The Banking Exposure to International Lending: Regional Differences or Common Fundamentals?

The present study unveils the importance of regional characteristics of sovereign debt crises in Latin America and South East Asia. It proposes and empirically corroborates a refinement of the logit approach, for assessing sovereign risk, which draws upon a region‐specific parameterization—composite estimator. The analysis identifies some common features of debt crises that largely reflect domestic solvency, liquidity factors and, to a lesser extent, trade‐balance variables and external shocks. Nonetheless, heterogeneity effects and regional signals point towards the use of region‐specific models. Such approach depicts specific risk factors such as openness and debt burden for Latin America and reserves, output and government expenditure for Asia, thereby suggesting distinctive aspects to debt crises. Out‐of‐sample forecast comparisons further support the use of the composite estimator. The latter outperforms the simple pooled and random effects approach on the basis of various criteria, albeit slightly biased towards false non‐crises predictions.     

Capital structure with dividend restrictions

This paper develops a symmetric information model of a new firm which incorporates a constraint on dividend payments known as a balance sheet test. This test solves moral hazard problems that arise in credit markets where complete contracting over future actions is not possible. This constraint breaks down the traditional symmetric information result of separability between financial and real variables, and thus maximizing shareholder returns in this setting is not equivalent to maximizing total firm value. As a consequence, more profitable firms, those with a higher average product of capital, will have lower debt/equity ratios. Debt/equity ratios will be positively correlated with the firm's physical capital and negatively correlated with the firm's market power.     

Stock Index‐linked Debt and Shareholder Value: Evidence from the Paris Bourse

French banks and non‐financial companies issue index‐linked debt whose value at maturity is indexed to the CAC 40 or to a basket of European indices. This paper examines stock announcement effects associated with these bonds on three dates: the date the issuer's General Assembly decides future capital needs, the publication in the journal of the COB (the stock market board), and the issue date. We find the issuance of index‐linked debt has significant positive announcement effects on the issue date, which we attribute to its market‐completion property. In order to examine further whether market completion is at play, we decompose the value of the bond at issue into its straight bond and option values. We determine that the bonds are overvalued again supporting market completion.     

The Distributional Properties of the Debt to Equity Ratio: Some Implications for Empirical Research

The purpose here is to assess empirically the quasi-supply side model of the firm developed in the paper by Ashton et al. (2004 ) by testing the prediction of the model that the evolution of a firm's debt to equity ratio will be compatible with a non-linear (target adjustment) process whose underlying probability density function possesses no convergent moments. Using a thirty-two-year history of the debt to equity ratio for each of ninety 'mature' United Kingdom firms, a non-parametric estimation procedure shows that the debt to equity ratio evolves in terms of a process which is largely consistent with the predictions of this model. In particular, the evolution of the debt to equity ratio is compatible with a 'long (fat) tailed' density function with no convergent moments. This has the important implication, supported by our empirical analysis, that the linear dynamic models which characterize empirical work in this area will be mis-specified and will return inconsistent and temporally unstable estimates of the target adjustment process as a consequence.     

The Actuarial Balance Sheet for Pay‐As‐You‐Go Finance: Solvency Indicators for Spain and Sweden*

This paper provides the first estimate of the actuarial balance of the Spanish contributory pension system for the old‐age contingency, based on official data. The main accounting entries are developed from the principles of double‐entry bookkeeping. The novel entry in the balance sheet, entitled the ‘contribution asset’ or ‘hidden asset’, is at the centre of the theoretical discussion. A comparison between the official balance sheet for the Swedish notional account system and our balance sheet for the Spanish contributory pension system is also provided. The main finding is that the Spanish pension system has an insolvency rate of 31.4 per cent. The policy implication is that unless current legislation is reformed, Spanish taxpayers (the plan sponsor) should count on making transfers to the pension system with a present discounted value of 31.4 per cent of current liabilities. Moreover, a comparison of the consecutive balance sheets for 2001‐06 shows that the degree of insolvency is growing over time, even though the cash‐flow outcome has improved over the same period. Taking steps to reverse this trend and restore solvency is in Spanish taxpayers' interest, and possibly also in the interest of those in the European Union who recognise that there is a chance that they may have to support the Spanish budget in the future.     

从净收益视角看公允价值和历史成本计量属性的作用

论文在决策有用性的会计目标框架下,以权益投资者的企业价值评估为视角,探讨了会计计量属性的选择和应用问题。在资产负债会计体系下,即便采用公允价值计量也无法反映企业的整体经济价值。企业价值需要借助金融模型估计,传统收入费用会计体系下的净收益指标是模型中的关键变量,但资产负债表中公允价值的引入使净收益的计量失去了逻辑一致性。这对权益估价模型的应用造成了干扰,从而损害了财务报告对投资者的有用性。论文认为对投资者提供公允价值信息的最佳方式是单独披露,而不是表内确认。最近FASB为应对金融危机对有关会计准则的修订反映了计量方法多样化的趋势,但计量方法的优势并不取决于该计量方法是否符合计量对象的具体特点,而是是否符合会计系统的整体目标。     

Firms' Off-Balance Sheet and Hybrid Debt Financing: Evidence from Their Book-Tax Reporting Differences

We match large U.S. corporations' tax returns during 1989–2001 to their financial statements to construct a firm‐level proxy of firms' use of off‐balance sheet and hybrid debt financing. We find that firms with less favorable prior‐period Standard & Poor's (S&P) bond ratings or higher leverage ratios in comparison to their industry report greater amounts of interest expense on their tax returns than to investors and creditors on their financial statements. These between‐firm results are consistent with credit‐constrained firms using more structured financing arrangements. Our within‐firm tests also suggest that firms use more structured financing arrangements when they enter into contractual loan agreements that provide incentives to manage debt ratings. Specifically, we find that after controlling for S&P bond rating and industry‐adjusted leverage, our sample firms report greater amounts of interest expenses for tax than for financial statement purposes when they enter into performance pricing contracts that use senior debt rating covenants to set interest rates. Furthermore, we find that the greatest book‐tax reporting changes occur when firms become closer to violating these debt rating covenants. These latter findings are consistent with firms' contractual debt covenants influencing their use of off‐balance sheet and hybrid debt financing.     

‘Different from What Has Hitherto Appeared on this Subject’: John Clark,Writing Master and Accomptant, 1738

This paper argues the importance, for the study of accounting history, of collecting evidence of accounting's past and of questioning its conventional wisdoms. It is known that Cronhelm (1818) explained in algebraic terms the mathematical relationship between assets, liabilities and capital reported in a balance sheet. It is also known that the balance sheet equation Assets (A) – Liabilities (L) = Capital (C) became a foundation for teaching bookkeeping as the twentieth century progressed. Current knowledge suggests that, during the first half of the twentieth century, this mathematical approach to teaching accounting gained a foothold in the United States based on the writings of Sprague and Hatfield, and also in Continental Europe. This paper reveals that, in the 1730s in England, John Clark cogently demonstrated an algebraically rooted understanding of the inter‐relationship between double entry bookkeeping and the structure of the balance sheet as exemplified by the above equation. The paper proves that journal‐oriented learning was not the exclusive training method employed by bookkeeping instructors during the early eighteenth century and raises the possibility that other teachers of bookkeeping were providing a more thoughtful education for aspiring clerks, bookkeepers, managers and businessmen than has hitherto been thought the case. This study also shows that accounting technologies do not continuously evolve towards their current state of elaboration, and that it is important for researchers to remain aware of plurality in patterns of accounting change and to be willing to embrace the full range of methodological approaches available for studying accounting phenomena.     

Economic consequences of accounting standards: The lease disclosure rule change

We examine capital structure changes to investigate the impact of SFAS No. 13 on lessees. While this accounting standard essentially rearranged capital lease disclosures (from footnotes to the balance sheet), mandated capitalization substantially altered key accounting ratios. Our results document a systematic substitution from capital leases to operating leases and nonleases sources of financing. In addition, lessees appear to reduce book leverage by increasing equity and reducing conventional debt. The magnitudes of these responses are cross-sectionally related to preadoption levels of footnoted capital leases.     

The Stock Market and the Financing of Corporate Growth in Africa: The Case of Ghana

This paper examines corporate financing patterns in Ghana, in particular, whether listed Ghanaian corporations make considerable use of the stock market to finance their growth. The paper also examines econometrically the effect of stock market development on the importance of debt relative to external equity in the balance sheet of Ghanaian firms. The results show that the average listed Ghanaian firm finances its growth mainly from short-term debt. The stock market, however, is the most important source of longterm external finance. Stock market development tends to shift the financial structure of Ghanaian firms toward more equity and less debt. Overall, the evidence suggests that the stock market is a surprisingly important source of finance for funding corporate growth.     

Economic Benefits of Adopting IFRS or US‐GAAP – Have the Expected Cost of Equity Capital Really Decreased?

Abstract:   The question of whether the adoption of International Financial Reporting Standards (IFRS) results in measurable economic benefits is of special interest, particularly in light of the European Union's adoption of IFRS for listed companies. In this paper, I investigate the common conjecture that internationally recognised financial reporting standards (IAS/IFRS or US‐GAAP) reduce the cost of capital for adopting firms. Building on Leuz and Verrecchia (2000) , I use a set of German firms that have adopted such standards and investigate the potential economic benefits of this reporting strategy by analysing their cost of equity capital through the use and customisation of available implied estimation methods. Evidence from the 1993–2002 period fails to document lower expected cost of equity capital for firms applying IAS/IFRS or US‐GAAP. During the transition period I analyse, the expected cost of equity capital in fact appear to have rather increased under non‐local accounting standards.     

Board Share‐Ownership and Takeover Performance

Abstract:   We investigate the relation between takeover performance and board share‐ownership in the acquiring company for a sample of 363 UK takeovers completed in the period 1985–96. In investigating this relationship we pay particular attention to the composition of board shareholdings as well as their size. Thus, in addition to the analysis of total board holdings, we analyse the separate impact of CEO shareholdings and of the pattern of non‐executive and executive holdings within the board. In addition to our detailed examination of board holdings we assess the impact of non‐board holdings. Our analysis controls for a number of non‐shareholding constraints on discretionary director behaviour and for a variety of other influences on takeover outcomes including: the means of payment; acquirer size and market to book value; the relative size of the acquirer and the target; the nature of the bid in terms of hostility and industrial direction; and the pre‐takeover performance of the acquiring company. We assess performance in terms of announcement returns, long run share returns and a portfolio of accounting measures. We find evidence that overall board ownership has a strong positive impact on long run share returns and a weak positive impact on operating performance. However, much stronger effects are found when the overall board measure is split into CEO, executive, and non‐executive directors. We find strong evidence of a positive relation between takeover performance and CEO ownership, which holds for both long run returns and operating performance measures. This finding is robust to controlling for other factors that determine takeover performance and holds in a two stage least squares framework that controls for endogeneity effects. Shareholdings of other executive directors, non‐executive directors, and non‐board holdings are found to have no significant effect on takeover performance.     

Financial crises,bank risk exposure and government financial policy

A macroeconomic model with financial intermediation is developed in which the intermediaries (banks) can issue outside equity as well as short term debt. This makes bank risk exposure an endogenous choice. The goal is to have a model that can not only capture a crisis when banks are highly vulnerable to risk, but can also account for why banks adopt such a risky balance sheet in the first place. We use the model to assess quantitatively how perceptions of fundamental risk and of government credit policy in a crisis affect the vulnerability of the financial system ex ante. We also study the effects of macro-prudential policies designed to offset the incentives for risk-taking.     

Financial Modernization in US Banking Markets: A Local or Global Event?

Abstract:   We test the hypothesis that the passage of the Financial Services Modernization Act (FSMA) of 1999 has spillover effects cross‐nationally, using a sample of US, non‐US transactional (Australian, Canadian, and UK), and relationship (German, Japanese, Dutch, and Swiss) banks. Our results suggest that financial modernization in the US has limited cross‐national effects. We find strong evidence that US banks were affected favorably. Although we detect some evidence of significant reactions by banks in certain countries, a closer examination reveals that the reaction is most likely attributable to events in the respective countries during the event period. We do find, however, that non‐US transactional banks have been more likely to elect financial holding company status compared to relationship banks, suggesting they are positioning themselves to exploit the expanded opportunity set created by the FSMA. Nonetheless, the majority of elections have been made by US banks. In general, the results suggest that the respective banking markets are efficient in filtering events that are largely country‐specific with only limited implications for other international banks.     

The financial performance of the East African Development Bank: a retrospective analysis

This paper analyses retrospectively the financial performance of the East African Development Bank. Three methods of analysis, derived from a selective review of the literature, are applied, namely the standard financial ratios; statistical moments such as the mean, range and standard deviation of balance sheet and related accounts; and the Subsidy Dependence Index. The results show that the bank's historical performance has been disappointing. It is suggested that the bank should engage proactively in the identification, promotion and post-evaluation of projects. Further research is proposed in order to encompass analytically the financial, developmental and technological functions of the bank.     

The Interest Rate Risk Exposure of Financial Intermediaries: A Review of the Theory and Empirical Evidence

The paper surveys current and previous research on financial institutions' interest rate risk exposure. The implications of such exposure are discussed and motivating insights are emphasized. Various theoretical frameworks and models are presented. For each one an overview of the studies and any relationship to each other is provided. In a cross‐industry analysis, other idiosyncratic risk factors are considered and their importance is delineated. A number of empirical relations are established. More specifically, there is an inverse relationship between interest rate changes and common stock returns of financial institutions. The intermediaries' apparent yield sensitivity is mainly attributed to the duration gap inherent in their balance sheet structure. Furthermore, the aforesaid equity sensitivity due to other possible dynamics such as dividend yield, unanticipated inflation and regulatory lags is also considered. Changes in economic regimes have altered volatility in market yields with a subsequent effect, positive or negative, on financial intermediaries' equity returns. The issue of the risk‐return compensation is further analyzed, and findings suggest that the interest rate risk is priced by capital markets. Finally, a few other issues are identified as avenues for future research.