Knowledge that Transforms

We find that firms where women have more power in the top management team, measured by female executives’ plurality and pay slice, face fewer operations-related lawsuits. This effect is robust to several treatments of endogeneity and does not appear to be driven by female executives' greater willingness to settle the cases. Evidence from a simultaneous equations approach suggests that firms where women executives have more power avoid lawsuits partly by avoiding some risky but value-increasing firm policies, such as more aggressive R&D, intensive advertising, and policies inimical to other parties.

This study investigates the degree of concordance between fifteen measures of audit quality used in academia and two measures of audit process quality determined either by audit firms’ internal inspections or by Public Company Accounting Oversight Board inspections of individual engagements. Using two confidential datasets of these assessments of audit process quality, I find that three of the measures of audit quality used by academics have significant associations with both measures of audit process deficiencies used by auditors and regulators: (i) the propensity to restate financial statements, (ii) the propensity to meet or beat the zero earnings threshold, and (iii) audit fees. Seven academic proxies are significantly associated with only one audit process quality measure, and five have insignificant associations with both practitioner assessments. Overall, the significant associations indicate that practitioners and academics share common ground in identifying low-quality audits. These findings can provide guidance for future studies in selecting audit-quality proxies suitable for different research questions.

We examine the discretionary activities that CLO managers engage in to pass monthly overcollateralization (OC) tests. These tests require a CLO's loan portfolio value, scaled by the CLO notes’ principal balance, to be above a certain threshold. Using CLOs’ granular disclosures, we develop model-free estimates for discretionary loan fair valuation and transaction-based proxies for strategic loan trading. We find a positive association between these discretionary activities and the probability of avoiding an OC test violation. This association varies predictably with junior noteholders’ influence and CLO market conditions. Strategic trading—but not discretionary fair valuation—relates to worse future CLO performance.

We find that the directorial labor market's ability to align the incentives of managers and shareholders depends on investor protection in a country. For example, following a shareholder unfriendly signal in common law countries, directors lose 2.64 times more outside board seats and are 57% more likely to be turned over at their own firm than in civil law countries. Further, outside director appointments are value relevant only strong investor protection countries. Our findings suggest that the labor market as a mechanism to improve corporate governance is least effective in the countries where it is needed the most.

Credit `default swaps (CDS) represent a major innovation in debt markets, allowing lenders to transfer credit risk to a counterparty by paying a premium. Shan, Tang, and Winton (2019) explore whether the availability of CDS affects the monitoring incentives of lenders. Their paper finds that CDS leads to looser loan terms (less collateral and looser covenants), consistent with a reduction in monitoring incentives. I examine several aspects of their study, including whether loan provisions and CDS should serve the same purpose, and differences between CDS and non-CDS borrowers. In total, although the authors present empirical evidence consistent with their prediction, the sample selection and research design potentially limit the generalizability of the authors’ results.

I provide evidence that loan loss accounting affects procyclical lending through its impact on regulatory actions. Regulators are more likely to place banks with inadequate loan loss allowances under enforcement actions that restrict lending, leading these banks to lend less during downturns. Further, I find that banks with lower regulatory ratings lend less when they have more timely provisions, consistent with research theorizing that timely provisions increase transparency and inhibit regulatory forbearance. This regulatory action mechanism expands on prior research that has focused on the effect of loan loss recognition on regulatory capital adequacy during economic downturns.

The adoption of common accounting standards generates both a precision effect and a network effect. When firms use common standards, investors can leverage their knowledge about the standards to process more financial reports. Embedding both effects into the economic framework of Baiman and Verrecchia (1995, 1996), we study the adoption’s effects on reporting precision, firm value, and liquidity of both the switcher and the early adopter. The model helps address the identification challenge and reconcile some existing results in the empirical literature on IFRS adoption. It also generates implications for standardizing disclosure and accounting methods.

We explore whether cognitive constraints and behavioral biases impede the processing and interpretation of soft information in private lending. Using data from a credit union's internal reporting system, we delineate three constraints and biases likely to affect lending decisions: limited attention, task-specific human capital and common identity. We find that soft information leads to worse loan quality when loan officers are busy or before weekends and around national holidays; when they have prior sales experience; and when both the officers and borrowers are men. We provide evidence of non-agency-related costs in the use of soft information in lending decisions.

This study tests whether firms seek to mitigate the adverse effects of Financial Reporting Complexity (FRC) by investing in accounting expertise. We develop a measure of FRC based on the complexity of accounting standards that govern annual disclosures. We find that FRC is positively related to the accounting expertise on a firm’s board of directors and audit committee. We also find that accounting expertise mitigates the relation between FRC and negative reporting outcomes. Collectively, this study increases our understanding of the actions firms take to mitigate the negative consequences of FRC, and the role of accounting expertise in this setting.