We examine whether firms decrease tax reserves to meet analysts’ quarterly earnings forecasts in the period prior to FIN 48, and whether that behavior changed following FIN 48. We use analysts’ forecasts of pretax and after‐tax income to impute premanaged earnings, or earnings before any tax manipulation. Pre‐ FIN 48, we observe that firms reduce their tax reserves (i.e., increase income) when premanaged earnings are below analysts’ forecasts. Specifically, 78 percent of firm‐quarters that would have missed the analyst forecast if not for the tax reserve decrease, meet that target when the decrease is included. Furthermore, we find a significant positive association between the decrease in tax reserves and the deviation of premanaged earnings from analysts’ forecasts. In contrast, post‐ FIN 48, we find no evidence that firms use changes in tax reserves to manage earnings to meet analysts’ forecasts. Thus, our results suggest that FIN 48 has, at least initially, curtailed firms’ use of tax reserves to manage earnings.

Conventional measures of risk in earnings based on historical standard deviation require long time‐series data and are inadequate when the distribution of earnings deviates from normality. We introduce a methodology based on current fundamentals and quantile regression to forecast risk reflected in the shape of the distribution of future earnings. We derive measures of dispersion, asymmetry, and tail risk in future earnings using quantile forecasts as inputs. Our analysis shows that a parsimonious model based on accruals, cash flows, special items, and a loss indicator can predict the shape of the distribution of earnings with reasonable power. We provide evidence that out‐of‐sample quantile‐based risk forecasts explain incrementally analysts' equity and credit risk ratings, future return volatility, corporate bond spreads, and analyst‐based measures of future earnings uncertainty. Our study provides insights into the relations between earnings components and risk in future earnings. It also introduces risk measures that will be useful for participants in both the equity and credit markets.

We examine acquiring managers' opportunistic reporting behavior around stock‐for‐stock acquisitions. Using the timing of merger announcements and completions to infer managerial intent, we show that acquirers with the most inflated earnings tend to announce mergers on Fridays, and that they manage earnings several quarters before the merger announcement date. Friday announcers exhibit a stronger negative association between pre‐merger announcement abnormal accruals and post‐merger announcement market performance than non‐Friday announcers. This effect is driven mainly by mergers that are completed relatively quickly after they are announced. Overall, the evidence supports the notion that some acquiring managers inflate earnings prior to announcing the mergers, and time the merger announcements to exploit investor inattention.

Academic and anecdotal evidence indicates that incentive systems often provide short‐term payouts without regard for long‐term consequences. New detailed disclosures mandated by FIN No. 48, Accounting for Uncertainty in Income Taxes, enable us to use a tax setting to investigate whether boards adjust performance‐based pay for uncertainty. We find managers’ bonus payouts are positively associated with tax performance; however, bonus payouts are lower when measures of ex ante tax uncertainty are higher. Our results are robust to tests of alternative explanations including financial reporting aggressiveness, overall firm risk, and other forms of compensation. Further, we document that the relation between bonus compensation and tax performance has changed in the post‐ FIN No. 48 period. Specifically, we identify a significant association between bonus payout and GAAP ETR only in the pre‐ FIN No. 48 period and a significant association between bonus payout and cash ETR only in the post‐ FIN No. 48 period, suggesting that the relation between compensation and tax avoidance should be examined carefully with particular attention to the post‐ FIN No. 48 period.

I examine whether corporate tax avoidance is associated with internal control weaknesses ( ICW s) disclosed under the Sarbanes‐Oxley Act ( SOX ). ICW s disclosed under SOX are frequently related to a firm's tax function. When pervasive ICW s exist, the likelihood increases that these frequent tax‐related ICW s spill over from financial reporting issues to tax avoidance objectives. Thus, my research helps corporate stakeholders understand the implications of internal controls beyond simply financial reporting objectives. Results indicate that, on average, firms with a tax‐related ICW have a 4 percent higher three‐year cash effective tax rate relative to firms without any such weaknesses. Further estimates reveal that this negative relation stems from pervasive, company‐level tax ICW s. Analysis of remediation suggests a causal link. I find that after remediating tax‐related ICW s, firms report higher levels of tax avoidance in the future. Broadly, these findings support that internal control quality represents a proxy for internal governance, and thus the strength of alignment between managers and shareholders. Furthermore, tax‐related internal controls represent an important underlying determinant of tax avoidance with significant cash flow effects, and implications beyond financial reporting.

Two influential papers in the tax‐avoidance literature (Desai and Dharmapala ; Desai, Dyck, and Zingales ) argue that aggressive forms of tax avoidance employ technologies that complement managerial rent extraction, and provide supporting evidence from firms in Russia. Several papers rely on this theory to motivate and interpret tests in a U.S. setting, but these tests are open to multiple interpretations. This paper investigates the extent to which shareholders of U.S. companies are affected by any such rent extraction. The evidence is inconsistent with the tax‐avoidance technologies employed by U.S. firms allowing managers to extract sufficient rents to negatively affect future performance. Additional tests on poorly governed U.S. firms find no evidence that tax‐avoidance activities relate positively to either overinvestment or higher executive compensation, and no evidence that either complexity or the Sarbanes‐Oxley Act moderates the relation between future performance and tax avoidance. The evidence suggests that caution is warranted in interpreting evidence according to this theory in a U.S. setting

Contemporaneous studies generally find a negative relationship between audit partner busyness ( APB ), measured as the number of clients in an audit partner's portfolio, and audit quality. Their argument is that a busy partner does not devote sufficient time to properly audit his average client. Contrary to these studies, we argue that when busyness is optimally chosen by the partner, in equilibrium, there is no causal relationship between APB and audit quality. Using Australian data for the 1999–2010 period, we show that APB is not reliably linked to audit quality, consistent with this equilibrium theory. We argue that causality can be ascribed to the APB ‐audit quality relationship when accounting scandals exogenously shocked the Australian audit market during the 2002–04 period and APB likely deviated from optimum levels. Supporting this disequilibrium view, we find that higher APB reduces a partner's propensity to issue first‐time going‐concern opinions during this period. Our evidence highlights the importance of the equilibrium condition in testing empirical associations between audit outcomes and endogenous auditor attributes, and shows that the detrimental effect of APB on audit quality is not as pervasive as contemporaneous studies suggest.

Firms have increasingly adopted open work environments. Although openness is thought to have benefits, it could also expose firms to an unanticipated cost. An open (closed) internal reporting environment makes it more (less) likely that managers will observe a colleague's communications with senior executives. This increase in what one manager knows about another manager's communication to senior executives could facilitate employee collusion to extract resources from the firm. To test whether internal reporting openness results in more collusion, we conduct an experiment in which two managers each make separate reports to the firm about cost information they know in common but that remains unknown by the firm. Because both managers face the same truth‐inducing contract, conventional economic theory predicts that they will not collude to misreport costs regardless of reporting openness. However, using behavioral theory involving trust and reciprocity, we predict and find that managers honor their nonbinding collusive agreements and successfully collude more often in an open versus closed internal reporting environment, leading to lower firm welfare in the open environment. These results suggest that firms should consider how the cost of collusion compares to the benefits of openness

Organizations have often been criticized for reliance on a single item of accounting information (e.g., profit) in evaluating performance, because of its incompleteness. We provide theory‐based experimental evidence that under frequently occurring performance‐evaluation conditions (subjective performance evaluation, causal ambiguity, and individual differences in cognitive ability, knowledge, and/or motivation that lead to different interpretations of information), reliance on a single item of accounting information (profit), rather than profit plus additional (e.g., nonfinancial or external) information, can provide two potential benefits which offset the costs of information incompleteness. First, subordinates are more likely to make the management decisions that superiors will evaluate and reward highly—that is, there are fewer coordination failures in management decisions. Second, even after controlling for the presence or absence of coordination failures, subordinates experience less negative surprise about their performance evaluations.

The literature on shareholder voting has mostly focused on the influence of proxy advisors on shareholder votes. We exploit a unique empirical setting enabling us to provide a direct estimate of management's influence. Analyzing shareholder votes on the frequency of future say on pay (SOP) votes, we find that a management recommendation for a particular frequency is associated with a 26 percent increase in voting support for that frequency. Additional tests suggest that the documented association is likely to capture a causal effect. Management influence varies across firms and is smaller at firms where perceived management credibility is lower. Compared to firms adopting an annual frequency, firms following management's recommendation to adopt a triennial frequency are significantly less likely to change their compensation practices in response to an adverse SOP vote, consistent with the notion that a less frequent vote results in lower management accountability.