Knowledge that Transforms

ABSTRACT Teamwork and team incentives are increasingly prevalent in modern organizations. Performance measures used to evaluate individuals' contributions to teamwork are often non-verifiable. We study a principal-multi-agent model of relational (self-enforcing) contracts in which the optimal contract resembles a bonus pool. It specifies a minimum joint bonus floor the principal is required to pay out to the agents, and gives the principal discretion to use non-verifiable performance measures to both increase the size of the pool and to allocate the pool to the agents. The joint bonus floor is useful because of its role in motivating the agents to mutually monitor each other by facilitating a strategic complementarity in their payoffs. In an extension section, we introduce a verifiable team performance measure that is a noisy version of the individual non-verifiable measures, and show that the verifiable measure is either ignored or used to create a conditional bonus floor.

ABSTRACT While current audit standards explicitly state engagement partner tenure requirements, firms have flexibility in managing the rotation process. We conduct semi-structured interviews with 20 U.S. audit firm partners who share their experiences on topics including how they identify appropriate candidate partners and what efforts they undertake to manage relationships with clients post-rotation. We investigate firms' motivation to manage the auditor-client relationship through the lens of Social Exchange Theory (SET), and we consider how likely outcomes of this rotation process map onto regulators' intent that a newly rotated partner provides a fresh perspective to the audit. Our study informs regulators and investors about the process by which engagement partners are selected for rotation, documenting that partner assignment is typically not random. Further, our finding that partner rotation is an extended process (rather than a single discrete event) has implications for audit researchers investigating the effects of partner rotation.

ABSTRACT We model an information mosaic in which multiple signals—one gathered by an informed trader and the other publicly disclosed by the manager of the firm—are combined to estimate firm value. Under testable conditions, voluntary disclosures lead to higher ex ante information asymmetry and expected profits for the informed trader by allowing him to refine his trading strategy and complete his information mosaic. The informed trader's ability to combine information and enhance his advantage is more prevalent when there is more uncertainty about whether the news is favorable or unfavorable, the manager is more likely to be informed, and the manager's information is precise (i.e., disclosure quality is high). JEL Classifications: G14; D82; M48.

ABSTRACT We examine the prevalence and determinants of CEOs' use of tax-advantaged trusts prior to their firm's IPO. Twenty-three percent of CEOs use tax-advantaged pre-IPO trusts, and share transfers into tax-advantaged trusts are positively associated with CEO equity wealth, estate taxes, and dynastic preferences. We project that pre-IPO trust use increases CEOs' dynastic wealth by approximately $830,000, on average. We next examine a simple model's prediction that trust use will be positively related to IPO-period stock price appreciation. We find that trust use is associated with 12 percent higher one-year post-IPO returns, but is not significantly related to the IPO's valuation, filing price revision, or underpricing. This evidence is consistent with CEOs' personal finance decisions prior to the IPO containing value-relevant information that is not immediately incorporated into market prices. JEL Classifications: D14; G12; G32; M21; M41. Data Availability: Data are available from the public sources cited in the text.

ABSTRACT This study examines whether investor-level preferences for director characteristics influence portfolio choices, using data on the U.S. holdings of non-U.S. funds. Consistent with bias-based preferences influencing portfolio allocations, funds from countries with greater gender inequality invest less and hold smaller stakes in firms with more female directors. Since variation in funds' home country gender biases are plausibly unrelated to the selection and performance of female directors in U.S. firms, the empirical strategy mitigates endogeneity concerns arising from estimates based on associations between market performance and gender demographics. The study contributes by linking investments to measured gender biases and by providing evidence, through additional analysis, of potential channels through which gender bias may affect portfolio choice. JEL Classifications: G11; J16; M10.

ABSTRACT The effects of tax rate changes on corporate profitability are not fully understood. Implicit tax theory predicts a positive relation between country-level tax rates and firm-level pretax returns. Conversely, income shifting should make reported pretax returns inversely related to tax rates. Among single-country European firms, we find robust evidence of corporate implicit taxes following tax rate changes, concentrated in firms that rely less on intangible assets and firms in closed economies (non-EU countries). Among multinational firm affiliates, we find the effects of income shifting outweigh the effects of implicit taxes for firms with high intangibles and in countries with open borders. Our results imply income shifting estimated using only reported profits is less biased by implicit taxes in settings with open economies and firms with unique inputs or products. Our evidence also helps explain prior evidence of decreasing corporate implicit tax effects over time, particularly for multinationals.

ABSTRACT We examine whether information technology expertise on audit committees impacts the reliability and timeliness of financial reporting. We find a reduction in the likelihood of material restatement, a reduction in the likelihood of information technology-related material weaknesses (which account for 55 percent of all reported material weaknesses), and more timely earnings announcements at firms with audit committee information technology expertise. These findings are robust to controlling for a firm's other information technology attributes, as well as when using entropy balanced samples, and we mitigate endogeneity concerns with evidence that our findings hold in a subsample of firms that all possess overall high-quality information technology. Finally, a difference-in-differences analysis, inclusion of firm fixed effects, and a falsification test largely support our assertion that the quality of financial reporting is significantly improved by the presence of an audit committee information technology expert. JEL Classifications: M41; M15. Data Availability: All data used in the study are publicly available.