SUMMARY
This paper investigates the overall impact of and the information made available by the recent audit partner disclosure requirement in the U.S. After a contentious comment period, the PCAOB ...released Rule 3211, which requires registered public accounting firms to disclose the name of the audit partner for every audit report it issues. In the first year of adoption, we find a significant increase in audit quality and audit fees and a significant decrease in audit delay. We collect information on partner gender, busyness, education, and social connections to explore whether these newly observable characteristics are associated with audit outcomes. We find that several of these characteristics are associated with variations in audit fees and audit delay, but no evidence of an association with audit quality. Overall, our findings suggest that the disclosure of partner name in Form AP enhances the audit information environment, which supports PCAOB motivation for Rule 3211.
We examine the relation between accounting reporting complexity and analysts’ performance and whether analysts’ qualifications, experience, and expertise in specific financial domains help them more ...effectively process complex information. We document an inverse relation between complexity and analysts’ performance. Further, we show that analysts’ firm-specific experience, industry focus, and CFA certification alleviate some of the adverse effects of complexity, whereas analysts’ general experience does not appear to do so. Using an XBRL-based approach, we also develop new measures of analysts’ expertise and find that expertise in the areas of fair value, derivatives and pension are more valuable than other analyst characteristics in attenuating the negative effects of complexity arising from transactions and events in these areas. Overall, this study underscores the importance of analyst characteristics and the need to simplify the complex disclosures in the notes to the financial statements.
We propose a new measure of accounting reporting complexity (ARC) based on the count of accounting items (XBRL tags) disclosed in 10-K filings. The preparation and disclosure of more accounting items ...is complicated because it requires greater knowledge of authoritative accounting standards. This aspect of complexity can increase the likelihood of mistakes, incorrect application of GAAP, and can ultimately lead to less credible financial reports. Consistently, we find that ARC is associated with a greater likelihood of misstatements and material weakness disclosures, longer audit delay, and higher audit fees. In comparison to commonly used measures of operating and linguistic complexity, the associations between ARC and these outcomes are more consistent, exhibit greater explanatory power, and have stronger economic significance. These and additional validation and robustness tests suggest that ARC more completely reflects accounting complexity. In addition, ARC exhibits several advantageous properties, including across- and within-firm variation, availability for the universe of SEC filers, and a direct connection to accounting, inherent in its derivation from detailed accounting disclosures. Finally, because it relies on a comprehensive set of detailed accounting data, ARC broadly captures accounting complexity, while, at the same time, it can be disaggregated into account-specific measures of complexity.
The monitoring effectiveness of outside directors is curtailed by information asymmetry between boards and management. Connections between outside directors and executives who do not serve on the ...board (internal ties) may help overcome this challenge by facilitating information sharing between the connected parties. Internal ties can also empower connected executives to withstand pressure from CEOs to take actions that might endanger their reputation in the long term. Alternatively, internal ties may entrench executives by insulating connected executives from adverse outcomes. Consistent with the former, we find that earnings restatements, class-action litigations, and real earnings management decrease when directors are connected with executives responsible for these areas. Connected boards also make better decisions related to CEO turnover, CEO succession and acquisitions. Overall, our results show that internal ties are associated with improved internal governance, thereby suggesting that boards may benefit from forging stronger relationships with non-director executives.
•Social ties between outside directors and non-board members executives (internal ties) may facilitate information sharing between the parties, assuaging boards' information asymmetry problem.•Internal ties can empower connected executives to withstand pressure from the CEO to take actions that endanger their reputation.•Boards with internal ties are better monitors of the financial reporting process and make better decisions related to CEO turnover, CEO succession, and acquisition.•Internal ties are associated with improved internal governance.
The costs of intense board monitoring Faleye, Olubunmi; Hoitash, Rani; Hoitash, Udi
Journal of financial economics,
07/2011, Volume:
101, Issue:
1
Journal Article
Peer reviewed
We study the effects of the intensity of board monitoring on directors' effectiveness in performing their monitoring and advising duties. We find that monitoring quality improves when a majority of ...independent directors serve on at least two of the three principal monitoring committees. These firms exhibit greater sensitivity of CEO turnover to firm performance, lower excess executive compensation, and reduced earnings management. The improvement in monitoring quality comes at the significant cost of weaker strategic advising and greater managerial myopia. Firms with boards that monitor intensely exhibit worse acquisition performance and diminished corporate innovation. Firm value results suggest that the negative advising effects outweigh the benefits of improved monitoring, especially when acquisitions or corporate innovation are significant value drivers or the firm's operations are complex.
This paper examines whether independent directors who have social ties to management (inside directors) can effectively perform their fiduciary duty to monitor management on behalf of shareholders. ...Ex ante, it is not clear whether social ties will enhance or obstruct the quality of board performance. Theory suggests that directors who are socially tied to management are ineffective and would make decisions favoring management. However, social ties can increase trust and information sharing between management and independent directors, improving directors' ability and effectiveness in governing the company (Westphal, J. D.: 1999, The Academy of Management Journal 42(1), 7-24). To examine these contradicting predictions I use social network analysis and construct proxies for social ties between management and independent board members. Using these proxies, I first demonstrate that social ties are associated with higher managerial compensation. Further analyses reveal that these results are driven by social ties that include members of the compensation committee. Conversely, I demonstrate that financial reporting quality is improved when social ties exist. Specifically, I find that the likelihood of material weaknesses in internal controls and the likelihood of financial restatements are lower in companies with social ties. I further observe that this improved quality of financial reporting holds only when social ties include members of the audit committee. I conclude that ethically, socially tied independent directors should disqualify themselves from serving on compensation committees where social independence is essential. However, in tasks where collaboration with management is essential, directors with social links to each other can be of added value to shareholders.
This paper explores an increasingly prevalent element of board-level commitment to sustainability. We propose a theoretical framework under which the existence and associated actions of board-level ...sustainability committees are motivated by shared value creation, where the interests of a diverse group of stakeholders are satisfied and sufficient profit is achieved. Using hand-collected data, we find that sustainability committees are heterogeneous in focus and vary in their effectiveness. Specifically, we disaggregate the sustainability committee construct based on stakeholder group focus (i.e., community, employee, environment, and consumer/supplier) and find that associations between sustainability committees and performance outcomes are stronger when committees focused on a specific stakeholder group are paired with relevant performance outcomes. We generally find that sustainability committees are effective at impacting relevant strengths, but do not mitigate relevant concerns. These results are consistent with the shared value framework, where committees both generate value by pursuing sustainability-related opportunities and protect value by monitoring, but not necessarily mitigating sustainability-related risks. Univariate tests suggest that effective committees are also larger, more independent, and meet more frequently. Finally, we propose a new method to classify industries based on their sensitivity to certain stakeholder groups and find that the effectiveness of committees focused on specific stakeholders is more pronounced in industries that are sensitive to these stakeholders.
ABSTRACT
PCAOB inspections repeatedly indicate deficiencies in audits of fair-value (FV) estimates, prompting regulators to improve the related auditing standards. We predict that auditor ...task-specific FV expertise, gained from work experience during the audit of FV measurements, can contribute to higher audit quality. Utilizing FV-related restatements and comment letters, we find that expertise in auditing Level 3 FV estimates at the office level is associated with greater FV audit quality. Level 2 FV expertise or national level FV expertise is not associated with higher FV audit quality. Following the receipt of a comment letter, we further find that auditor FV expertise is associated with lower comment letter remediation costs and higher FV disclosure quality. Finally, we find that the value relevance of Level 3 FV disclosures increases with the extent of auditor FV expertise. Collectively, our results highlight that auditor fair value expertise contributes to the credibility and usefulness of FV disclosures.
Industry expertise on corporate boards Faleye, Olubunmi; Hoitash, Rani; Hoitash, Udi
Review of quantitative finance and accounting,
02/2018, Volume:
50, Issue:
2
Journal Article
Peer reviewed
Recent surveys indicate that industry expertise is the most sought-after director qualification. Yet evidence on the value of such expertise is limited. This paper shows that firms that are difficult ...for non-experts to monitor and advise are more likely to appoint industry expert directors. Such appointments also depend on the supply of industry-experienced candidates in the local director labor market. Board industry expertise reduces R&D-based real earnings management and increases R&D investments. The increase in R&D spending is value-enhancing: firms with industry expert directors receive more patents for the same level of R&D, their R&D spending is associated with lower volatility of future earnings, and their value is higher. Finally, industry expertise is associated with CEO termination and pay incentives that encourage R&D investments.
ABSTRACT
We propose that firm complexity is best measured with accounting disclosures. Accounting is the “language of business,” and accounting disclosures of most business activities are mandated. ...Therefore, relying on accounting disclosures is the best approach for consistently capturing a wide range of firm activities for a large cross-section of firms. Measuring firm complexity is important for many applications in research and practice. However, firm complexity is multifaceted, making it difficult to measure. We review past research on complexity and motivate the use of Accounting Reporting Complexity (ARC), proposed by R. Hoitash and U. Hoitash (2018), to measure firm complexity. In so doing, we discuss the advantages of ARC over other measures. We then review studies that use ARC and provide a detailed description and code to construct ARC (and related measures) based on publicly available data. The complete ARC dataset is also available for download at: https://www.xbrlresearch.com/.
Data Availability: Data are publicly available from sources identified in the paper. ARC is based on XBRL filings downloaded directly from the Securities and Exchange Commission and is available for download at: https://www.xbrlresearch.com/.
JEL Classifications: B40; D20; C10; G10; L25; M40.
