Springer Science and Business Media LLC

Machine learning offers empirical methods to sift through accounting datasets with a large number of variables and limited a priori knowledge about functional forms. In this study, we show that these methods help detect and interpret patterns present in ongoing accounting misstatements. We use a wide set of variables from accounting, capital markets, governance, and auditing datasets to detect material misstatements. A primary insight of our analysis is that accounting variables, while they do not detect misstatements well on their own, become important with suitable interactions with audit and market variables. We also analyze differences between misstatements and irregularities, compare algorithms, examine one-year- and two-year-ahead predictions and interpret groups at greater risk of misstatements.

Accounting regulations require firms to separately disclose the profits and losses from discontinued operations. These discontinued operations are typically excluded from the definition of income used by investors, analysts, and others. Barua, Lin, and Sbaraglia (2010) show that managers manipulate earnings by shifting core expenses into discontinued operations. In light of recent changes in the regulations pertaining to this item, we reexamine this finding. The new rules, which change the criteria for what can be considered discontinued and the associated disclosure requirements, substantially reduce any significant evidence of earnings management using discontinued operations. A decline in the manipulation of large negative discontinued operations drives this reduction. We also find that the new rules decrease the frequency and persistence of discontinued operations.

Our model, which is adapted from Feltham and Ohlson (Contemp Account Res 11:689–731, 1995) and Ohlson (Contemp Account Res 11:661–687, 1995) and extends Dechow and Dichev (Account Rev 77:35–59, 2002), characterizes the information about future cash flows reflected in accruals. It reveals investors can extract from accruals information about next period’s economic factor and the transitory part of one component of next period’s cash flow. The extent to which each accrual provides this information depends on whether the accrual aligns future or past cash flows and current period economics and whether it relates to the current or prior period. Thus each type of accrual has a different coefficient in valuation and forecasting cash flows or earnings. Each coefficient combines an information weight reflecting the information that accrual type provides and a multiple reflecting how that information is used in valuation and cash flow and earnings forecasting. The empirical evidence supports our main insight, namely that partitioning accruals based on their role in cash-flow alignment increases their ability to forecast future cash flows and earnings and explain firm value.

Using data from FTSE 350 firms, we examine factors influencing explicit relative performance evaluation (RPE) conditions in performance-vested equity grants. We provide exploratory evidence on whether the use or characteristics of RPE are associated with efforts to improve incentives by removing common risk, other economic factors discussed in the RPE literature, or external pressure to implement RPE. We find that many of these economic factors, including common risk reduction, are more closely related to specific relative performance conditions than to the firm-level decision to use RPE in some or all of their equity grants. We also find that greater external monitoring by institutional investors or others is associated with plans with tougher overall RPE conditions. The relative performance conditions are binding in most RPE plans, with nearly two-thirds of the grants vesting only partially or not vesting at all. Further, we find evidence that vesting percentages vary in RPE and non-RPE plans.

We document that stocks with the strongest prior 12-month returns experience a significant average market-adjusted return of 1.58% during the five trading days before their earnings announcements and a significant average market-adjusted return of −1.86% in the five trading days afterward. These returns remain significant even after accounting for transactions costs. We empirically test a limited attention explanation for these anomalous returns—that stocks with sharp run-ups tend to attract individual investors’ attention and investment dollars, particularly before their earnings announcements. Our analysis suggests that the trading decisions of individual investors are at least partly responsible for the return pattern that we observe.

We examine the effect of a change in the director election system—the switch from a plurality voting standard to a more stringent standard known as majority voting (MV). Using a regression discontinuity design, we document abnormal returns of 1.43–1.60 % around annual meeting dates where shareholder proposals to adopt MV are voted upon, suggesting that shareholders perceive the adoption of MV as value-enhancing. We document an increase in boards’ responsiveness to shareholders at MV firms. In particular, relative to a propensity score-matched control sample, firms adopting MV exhibit an increase in the rate of implementation of shareholder proposals supported by a majority vote and in the responsiveness to votes withheld from directors up for election. We do not find a relation between votes withheld and subsequent director turnover, regardless of the election standard. Overall, it appears that, rather than a channel to remove specific directors, director elections are viewed by shareholders as a means to obtain specific governance changes and that, in this respect, their ability to obtain such changes is stronger under a MV standard.

The 2002 enactment of Section 403(a) of the Sarbanes-Oxley Act (SOX403) made option backdating less viable for firms. I examine whether the loss of the benefits obtained from option backdating is associated with more fraud after the enactment of SOX403. For firms suspected of backdating options (suspect firms), I find an increase in fraudulent financial reporting after the enactment of SOX403. The increase in fraud is more prominent for suspect firms more affected by SOX403. I also find an increase in insider trading profits from fraud for individuals who formerly benefited from option backdating. My study highlights an unintended consequence of SOX403. The opportunistic timing of executive option compensation appears to be replaced with fraudulent activities that are likely more value-destroying.

We study two-stage, multi-division budgeting mechanisms that allocate scarce resources among divisions using capital charge rates. Each divisional manager observes private sequential project information and competes for scarce resources over two stages. The optimal capital charge rates in our two-stage setting can be quite different from those that arise in a single-stage setting. If the firm faces a resource constraint at only the second stage, a less severe constraint can imply more first-stage project initiation, which can lead to higher second-stage capital charge rates. If resources are constrained at both stages, a decrease in the severity of the constraint at just one stage decreases the capital charge rate at that stage but increases the capital charge rate at the other stage because each constraint affects the intensity of competition at both stages. This result holds regardless of whether the scarce resources are fungible or non-fungible across stages.

This paper examines the choice of asset valuation rules from a managerial control perspective. A manager creates value for a firm through his effort choices. To support its operating activities, the firm also engages in financing activities such as credit sales to its customers. Since such financing activities merely change the pattern of cash flows across periods, an optimal compensation scheme must shield the manager from the risk associated with the financing activities. We show that residual income combined with fair value accounting for receivables eliminates this risk and provides an optimal performance measure. In contrast, compensation schemes based only on realized cash flows can be optimal only under exceptional circumstances. We also consider a setting in which there is sufficiently disaggregated information about periodic cash flows so as to eliminate not only the risk associated with financing activities but also the risk associated with customer defaults. The principal then wants to depart from fair value accounting.