Archive for the ‘Accounting & Audit’ Category

Governance, Incentives, and Tax Avoidance (SSRN) 

Authors: Chris Armstrong, University of Pennsylvania – Accounting Department; Jennifer L. Blouin, University of Pennsylvania – Accounting Department; Alan D. Jagolinzer, University of Colorado – Leeds School of Business; David F. Larcker; Stanford University – Graduate School of Business
Paper Date: April 17, 2013
Rock Center for Corporate Governance at Stanford University Working Paper No. 136 

Abstract:      

This paper examines the link between corporate governance, managerial incentives, and tax avoidance. Similar to other investment opportunities, unresolved agency problems may cause managers to over- or under-invest in tax avoidance relative to the preferences of shareholders. Using quantile regression, we find that the impact of corporate governance on tax avoidance is most pronounced in the upper and lower tails of the tax avoidance distribution, but not at the mean or median of this distribution.

Specifically, we find a positive relation between the financial sophistication and independence of boards and tax avoidance in the upper tail of the tax avoidance distribution, but a negative relation in the lower tail of the tax avoidance distribution. However, we find no relation between corporate governance and tax avoidance and either the conditional mean or median of the tax avoidance distribution. These results suggest that corporate governance tends to decrease extremely high levels of tax avoidance and increase extremely low levels of tax avoidance, which may be symptomatic of over- and under-investment, respectively, by managers. Our results also suggest that inferences about these relations that are drawn from the conditional mean and median and unlikely to be representative across the entire tax avoidance distribution.

Identifying Peer Firms: Evidence from EDGAR Search Traffic (SSRN)
Auhors:  Charles M.C. Lee, Stanford University – Graduate School of Business; Paul Ma, Stanford University – Department of Economics; Charles C. Y. Wang, Harvard Business School
Date: November 21, 2012; Harvard Business School Accounting & Management Unit Working Paper No. 13-048,  Rock Center for Corporate Governance at Stanford University Working Paper No. 128

Abstract: 
Using Internet traffic patterns from the Securities and Exchange Commission Electronic Data-Gathering, Analysis, and Retrieval (EDGAR) website, we show that firms appearing in chronologically adjacent searches by the same individual are fundamentally similar on multiple dimensions. In fact, traffic-based peer firms identified by our algorithm significantly outperform peer firms based on six-digit Global Industry Classification Standard (GICS) groupings in explaining cross-sectional variations in base firms’ stock returns, valuation multiples, forecasted and realized growth rates, research and development expenditures, and various other key financial ratios. Our results highlight the usefulness of EDGAR data, as well as the latent intelligence in search traffic patterns.

Keywords: peer firms, EDGAR search traffic, revealed preference

The Relation between Equity Incentives and Misreporting: The Role of Risk-Taking Incentives
Authors: Chris Armstrong, University of Pennsylvania – Accounting Department;  David F. Larcker, Stanford University – Graduate School of Business;  Gaizka Ormazabal, IESE Business School of the University of Navarra; Daniel J. Taylor, University of Pennsylvania – The Wharton School.
Dated: August 25, 2012
Journal of Financial Economics (JFE), Forthcoming

Abstract: 
Prior research argues that a manager whose wealth is more sensitive to changes in the firm’s stock price has a greater incentive to misreport. However, if the manager is risk-averse and misreporting increases both equity values and equity risk, the sensitivity of the manager’s wealth to changes in stock price (portfolio delta) will have two countervailing incentive effects: a positive “reward effect” and a negative “risk effect.” In contrast, the sensitivity of the manager’s wealth to changes in risk (portfolio vega) will have an unambiguously positive incentive effect. We show that jointly considering the incentive effects of both portfolio delta and portfolio vega substantially alters inferences reported in prior literature. Using both regression and matching designs, and measuring misreporting using discretionary accruals, restatements, and SEC Accounting and Auditing Enforcement Releases, we find strong evidence of a positive relation between vega and misreporting and that the incentives provided by vega subsume those of delta. Collectively, our results suggest that equity portfolios provide managers with incentives to misreport when they make managers less averse to equity risk.

Keywords: Equity Incentives, Executive Compensation, Misreporting, Earnings Management, Restatements, SEC Enforcement Actions

Glossary

The following glossary of terms are frequently used in discussions of corporate governance. Link the Stanford Corporate Governance Research Program glossary of terms to your website:  http://www.gsb.stanford.edu/cgrp/research/glossary

Contacts

• Financial Reporting and External Audit (Powerpoint Presentation)

• Accurate financial reporting is critical for the efficiency of capital markets and the proper valuation of securities.
• It allows the board and investors to make an informed evaluation of strategy, business model, and risk.
• It also allows the board to structure compensation packages appropriately and award performance-based compensation knowing that predetermined targets were met.
• It is the role of the audit committee to help to ensure the accuracy of reports:1.Sets parameters for quality, transparency, and controls. 2.Hires external auditor to test for misstatement.

For more read see the entire presentation in the above link.

Corporate Governance Matters:
A Closer Look at Organizational Choices and Their Consequences By David Larcker, Brian Tayan

Available from FT Press-Pearson Prentice Hall

Read Chapter 1 of the book

Executives’ Words Contain Clues to Deception
Stanford Business Magazine, Winter 2010-2011

Language may be a better predictor of a company’s health than accounting reports, according to Prof. David Larcker.

by Robert D. Hof

Just days after Bear Stearns collapsed and was sold for a pittance to J.P. Morgan Chase, rival Lehman Brothers was weathering the economic downturn pretty well, to hear chief financial officer Erin Callan tell it. In a quarterly conference call on March 18, 2008, she assured financial analysts that the company’s businesses remained “strong.” In fact, Callan used that word 24 times during the call, added “great” 14 times, and piled on “incredibly” 8 times. She used “challenging” 6 times and “tough” just once. “Well, that wasn’t too bad,” a Wall Street Journal writer blogged at the close of the call. Yet by September, after it became obvious that risky investments masked by accounting gimmicks might sink the company, Lehman had plunged into the largest bankruptcy in U.S. history…

♦Think you can spot a CEO bluffing? Take the quiz!