Knowledge that Transforms

Daily returns are used to investigate the effect of preferred stock rating change announcements on preferred and common stock prices. Announcements that are free of confounding events, ‘clean’ announcements, significantly affect preferred stock prices. However, the effect occurs after the day of announcement, mostly on event day +1. Conversely, there is no evidence ‘clean’ announcements affect common stock prices. Larger preferred stock abnormal returns are associated with announcements that are contaminated by confounding events, but the abnormal returns appear to be the result of the confounding events more than the rating change.

This paper investigates factors associated with audit firm positions on Auditing Standards Board issues during the three-year period ending during 1984. The major finding is that firms with relatively structured audit technologies tend to favor proposed statements while firms with relatively unstructured technologies do not. Audit firm size is not associated with firm position. Also, Big 8 firms favoring proposed statements have lower staff-to-partner ratios and concentrate less in auditing. The staff-to-partner ratio is negatively associated with technology. The results' implications for auditing profession organization studies and auditing and financial reporting research are investigated.

This paper investigates accounting for interest by Australian real estate developers. It argues that management's choice of accounting technique is the result of ex ante contracting to prevent management opportunistic behavior, rather than a manifestation of opportunistic behavior per se. The argument provides a richer description of accounting choice and explains why, in Australia, leverage and the accounting method choice are correlated in the absence of bond covenants. The argument also explains why, inconsistent with political cost arguments, larger firms are more likely to capitalize than expense interest.

Managers often release earnings forecasts in advance of actual earnings announcements. It would appear that managers should at best be indifferent to such release given that the actual earnings will be disclosed at a future date. However, if the manager's objective is to maximize his firm's market value and he has control of production decisions, he may be motivated to release an earnings forecast. The reason is that the forecast release gives investors a more favorable assessment of the manager's ability to anticipate economic environment changes and to adjust production plans accordingly. Forecast release can thereby translate into a higher firm market value.

This paper considers the role of an agent choosing among reporting alternatives when that choice is unobserved by the principal, and the agent's compensation contract is optimal. The agent is allowed to take post-outcome costly actions which lead to more precise reports of actual profits than would be yielded by less precise, but costless conventional translations of outcomes (e.g., GAAP). The extent to which the principal allows the agent this discretion depends upon the improvement in profits as an indicator of the agent's pre-outcome effort when post-outcome actions take place versus the attendant cost of these actions.

This paper contains evidence of a significant negative stock price reaction to media disclosures of ‘subject to’ qualified audit opinions. Disclosures of qualifications in the financial news media (the Wall Street Journal and the Broad Tape) are rare relative to the frequency of audit qualifications. Other studies do not detect an impact of qualified opinions on stock prices. None of the explanations for the difference in the results between this study and prior studies is consistent with the data. We are unable to draw strong inferences because we cannot identify the selection process that produces the sample of media disclosures.

The prevailing belief in the marketplace holds that the choices of auditor and investment banker affect the price of an initial public offering. This belief reflects the idea that the auditor and investment banker quality provides information about the firm's true value. This paper presents a model giving this belief theoretical support. Under plausible conditions, it is shown that an entrepreneur with favorable information about his firm's value chooses a higher-quality auditor and investment banker than an entrepreneur with less favorable information. As a result, firm value is an increasing function of auditor and investment banker quality.

This study examines factors that affected managements' choices in accounting for leases prior to the implementation of SFAS No. 13. Empirical evidence indicates that financial contracting and management bonus incentive variables help explain the choice. Empirical results do not support the political cost hypothesis; rather, tax return considerations also seem to influence managements' lease accounting choice.

In 1981 the FASB issued a new standard for accounting for foreign currency translation, SFAS 52. The standard provided a gradual transition period, allowing firms to select from several possible adoption dates. This study extends the research on the positive theory of accounting choice to examine the factors associated with a management's choice of adoption date. The comparison reveals that early adopters were smaller, typically decreased in pre-charge earnings the year before adoption, had less stock owned by directors and officers, and were more constrained on dividend payouts and interest coverage ratios than later adopters.

In this paper, an informational asymmetry exists between investors and the issuer of an initial public offering about the value of the security. To avoid market failure, a solution is proposed in which the issuer makes a disclosure about firm value that is verified by an investment banker. The investment banker enters into a contingent contract with investors which imposes a penalty if the ex post observable cash flow indicates fraudulent disclosure. A bivariate signalling model is formulated and solved, and testable implications are derived from comparative statics analysis.