Knowledge that Transforms

This paper shows that the simulation-based rejection percentages for detecting abnormal log-transformed volume reported in Ajinkya and Jain [AJ] (1989) are sensitive to the method of inducing abnormal volume. We present an alternative inducement method that possesses desirable distributional properties. Under this method, for example, with fifty firm portfolios and one-day event periods a 20% volume increase is detected just over 40% of the time, while AJ suggest a detection rate of over 90%. Rejection percentages for abnormal volume at earnings announcement dates also are more consistent with our alternative method than with AJ's method.

This paper provides a model in which audited reports are valuable to entrepreneurs who have private information and seek to share risks with investors. A distinctive feature of the model is that the choice of auditor and the resulting audited report provide partial information about the entrepreneur's private information, and he resolves all remaining investor uncertainty by signalling with retained ownership. The value of an audit is increasing in audit quality and the firm-specific risk faced by the entrepreneur and is a nondecreasing function of the entrepreneur's expectations about the future value of the firm.

This paper provides evidence that repurchase tender offer announcements convey favorable information about the level and riskiness of future earnings. We show that analysts revise their forecasts of earnings per share upward following repurchase announcements. Repurchase announcement stock price reactions are positively correlated with revisions in short-term forecasts, but not correlated with revisions in long-term forecasts. Thus, the information is primarily about transitory changes in earnings. We also provide evidence that equity betas decline after repurchases. Our findings indicate that the equity beta decreases are due to decreases in the underlying riskiness of the firm's assets.

This research examines whether analysts' earnings forecasts incorporate information in price changes. Even if the forecasts do not explicitly depend upon price changes,there should nevertheless be a positive association between analysts' forecast revisions and prior price changes. Moreover, if analysts incorporate only their private information in formulating a forecast and ignore price changes, then the likelihood that their estimate is less than (greater than) the realization increases following price increases (decreases). Empirical results are consistent with these conjectures and indicate that analysts' forecasts do not fully reflect the information in prior price changes.

The voluntary use of regulatory accounting principles (RAP) by Savings and Loans (S&Ls) is predicted to be related to ownership structure, proximity to violation of net worth requirements, political factors, and prior use of RAP. We examine the decisions to both adopt and retain the use of several RAP: two ‘cosmetic’ RAP that are relatively independent of other economic decisions and two ‘noncosmetic’ RAP that directly interact with investment or financing decisions. S&Ls using RAP tend to: (a) be mutuals, (b) have low regulatory net worth, (c) be larger (for S&Ls adopting RAP), and (d) have used other RAP in the prior period.

This study examines the impact on equity prices of nine pronouncements related to the proposed accounting for nonpension postretirement benefits. Compared to a control group, the experiment firms exhibit significant negative abnormal returns around the issuance of the Exposure Draft on nonpension postretirement benefits. The negative abnormal returns are most pronounced for firms with few retirees relative to current employees, firms with high debt ratios, small firms, and firms currently reporting these benefits on the pay-as-you-go basis. These results are consistent with the contracting cost hypotheses.

This paper reports empirical tests of an hypothesized positive relation between audit quality and firm-specific risk that is predicted by Datar, Feltham, and Hughes' (1991) theoretical analysis of auditor choice when firms go public. Three types of proxies for ex ante firm-specific risk are used to test this relation: regression coefficients that theory relates to the firm-specific risk, ex ante proxies available from prospecti, and ex post variances in returns. Results from the first are moderately consistent with our hypothesis, while those from the latter two are either mixed or contrary.

This paper studies a firm's decision to replace its auditor when the replacement affects outsiders' perceptions of its financial condition and auditors' attestations. If the auditor and firm possess common information about the firm's financial condition, and this information can be communicated through financial statements, then, quite generally, the auditor is never replaced. If the firm possesses information superior to that of the auditor and financial reports reflect only the auditor's information, then the auditor is more likely to be replaced the more favorable the firm's information and less favorable the auditor's information. Low-balling is explained by its effect on auditors' attest behavior, rather than by the cost differences of initial and repeat engagements.

Announcements of stock repurchase tender offers are examined as a source of information about firms' future earnings prospects and market risk levels. We document positive earnings surprises and equity systematic risk reduction following tender offers. Announcement stock price reactions are positively correlated with earnings surprises over the concurrent and subsequent two years, and negatively correlated with changes in equity market risk. Finally, stock price reactions to quarterly earnings announcements are more strongly correlated with time-series based earnings surprises in the year prior to the tender offer than during the subsequent year, consistent with tender offer announcements conveying earnings information.

This paper examines the competitiveness of the financial markets with respect to taxes. A unique set of interest rates from leveraged ESOPs enables precise measures of the effect of a debt subsidy on prices. I find that the market shifts most of the tax benefits to borrowers, indicative of an elastic supply curve for lenders. Lenders are compensated for incremental costs, such as reductions in tax rates and barriers to entry. Evidence is also presented that ESOP lenders are high taxpaying banks, suggesting the existence of a tax clientele.