Knowledge that Transforms

Prior studies have documented the asymmetrical behavior of selling, general and administrative (SG&A) costs (i.e., SG&A costs increase more when activity rises than they decrease when activity falls), and have explained this phenomenon primarily with economic factors. Drawing on agency theory, we argue that SG&A cost asymmetry is driven not only by economic factors but also by the agency problem which causes a shift in SG&A cost asymmetry away from its optimal level. Using data for S&P 1500 firms over the period 1996–2005, we find that the degree of SG&A cost asymmetry is positively associated with managers’ empire building incentives due to the agency problem (measured by free cash flow and CEO horizon, tenure, and compensation structure), suggesting that the agency problem provides an additional explanation for SG&A cost asymmetry. Moreover, we find that strong corporate governance mitigates the positive association between the agency problem and the degree of SG&A cost asymmetry. In additional analyses, we also find that the agency problem influences cost stickiness to a greater extent in mature firms and in firms where SG&A costs create low future value.

Despite a recent focus on the ethics of earnings management, research has generally not examined the specific ethical dilemma that arises when a choice to engage in earnings management results in positive organizational consequences. This study focuses on the consequences of earnings management behavior in response to the question: Do the ends of positive organizational consequences justify the means of earnings management? We investigate manager evaluations of, and reactions to, a scenario in which a hypothetical employee makes a choice whether or not to engage in earnings management behavior, with consequences that are either favorable or unfavorable to the organization. Two hundred and sixty-four experienced managers provided responses to the scenario in a controlled experimental research design. The results indicate that managers may be motivated to discount the ethical impact of earnings management behavior when the consequence has a favorable impact on the organization—implying that the ends justify the means. This finding, in turn, suggests that incrementalism, or the ethical “slippery slope” of overlooking seemingly minor ethical breaches, can undermine efforts to establish a strong ethical tone throughout the organization. Implications of these findings for corporate governance and future research are discussed.

Utilizing a dataset on the client portfolios of the Big 4 audit partners in Sweden, this study examines auditor specialization and pricing at the individual partner level. Consistent with the view that there are returns on investing in specialization, the analysis of audit fees indicates that both audit partner industry specialization, and specialization in large public companies, are recognized and valued by financial statement users and/or by corporate insiders, resulting in higher fees within these engagements. The highest fees are earned by engagement partners who are both industry and public firm specialists. Collectively, the findings of this study indicate that part of an auditor’s deep expertise is not transferable across audit partners within an audit firm but is instead inseparably tied to the individual audit partner’s private human capital.

Abstract is not available in fulltext.

Based on interviews of U.S. public company compensation committee members, this study examines the compensation committee process, the specific action and thought processes that compensation committee members use to meet their oversight responsibilities. As the two quotes above suggest, compensation committee members who are asked to describe the process their committee uses often mention notions of “fairness” and “balance” in compensation. The first quote describes a fundamental tension between management and shareholders, and the committee’s efforts to be fair to both parties. The second quote focuses on balancing the interests of management and shareholders, as well as those of other stakeholders, and suggests the difficulty of making executive compensation decisions.