Considerable research has documented the role of debt covenants and conservative financial accounting in addressing agency conflicts between lenders and borrowers. Beatty, A., Weber, J., and Yu, J. [2008. Conservatism and debt. Journal of Accounting and Economics, forthcoming] document interesting, but mixed, findings on the relation between debt covenants and conservative accounting, and the extent to which the two contracting mechanisms act as substitutes or complements. In this paper, I discuss the economic roles of financial reporting, debt covenants, and conservatism within the debt contracting environment, and attempt to fit BWY's findings within this context.

The appropriateness of financial reporting rules for derivative securities depends on corporations' reasons for using the instruments. Empirically, little is documented about how the instruments affect firms' risk exposures. This study examines derivatives' roles in firms initiating derivatives use. The results are consistent with firms using derivatives to hedge, and not to increase, entity risk. Firm risk (measured several ways) declines following derivatives use. Realized risk reductions and decisions to initiate derivatives programs vary across firms with the expected benefits from hedging. The findings emphasize the importance of hedge-accounting rules that incorporate the impact of derivatives and hedged items simultaneously.

To control risk-related incentive problems, equity holders are expected to manage both the convexity and slope of the relation between firm performance and managers’ wealth. I find stock options, but not common stockholdings, significantly increase the sensitivity of CEOs’ wealth to equity risk. Cross-sectionally, this sensitivity is positively related to firms’ investment opportunities. This result is consistent with managers receiving incentives to invest in risky projects when the potential loss from underinvestment in valuable risk-increasing projects is greatest. Firms’ stock-return volatility is positively related to the convexity provided to managers, suggesting convex incentive schemes influence investing and financing decisions.

We predict and find that firms use annual grants of options and restricted stock to CEOs to manage the optimal level of equity incentives. We model optimal equity incentive levels for CEOs, and use the residuals from this model to measure deviations between CEOs’ holdings of equity incentives and optimal levels. We find that grants of new incentives from options and restricted stock are negatively related to these deviations. Overall, our evidence suggests that firms set optimal equity incentive levels and grant new equity incentives in a manner that is consistent with economic theory.

The costs associated with compiling data on employee stock option portfolios is a substantial obstacle in investigating the impact of stock options on managerial incentives, accounting choice, financing decisions, and the valuation of equity. We present an accurate method of estimating option portfolio value and the sensitivities of option portfolio value to stock price and stock‐return volatility that is easily implemented using data from only the current year’s proxy statement or annual report. This method can be applied to either executive stock option portfolios or to firm‐wide option plans. In broad samples of actual and simulated CEO option portfolios, we show that these proxies capture more than 99% of the variation in option portfolio value and sensitivities. Sensitivity analysis indicates that the degree of bias in these proxies varies with option portfolio characteristics, and is most severe in samples of CEOs with a large proportion of out‐of‐the‐money options. However, the proxies’ explanatory power remains above 95% in all subsamples.

We examine the role of firms’ internal information quality (IIQ) in designing executive incentive contracts. We find that higher IIQ is associated with a greater number of performance metrics and increased dissimilarity from peer firms’ contracts, particularly along non-financial dimensions. These relations hold when we examine changes in IIQ that are likely induced by plausibly exogenous shifts in two financial accounting standards. We further find that incorporating more numerous and more dissimilar non-financial metrics is positively associated with future profitability, but only when IIQ is high. Our results are consistent with the hypothesis that the quality of a firm’s internal information is a friction in performance metric selection.

Although recent research documents a positive relation between corporate transparency and the proportion of independent directors, the direction of causality is unclear. We examine a regulatory shock that substantially increased board independence for some firms, and find that information asymmetry, and to some extent management disclosure and financial intermediation, changed at firms affected by this shock. We also examine whether these effects vary as a function of management entrenchment, information processing costs, and required changes to audit committee independence. Our results suggest that firms can alter their corporate transparency to suit the informational demands of a particular board structure.

ABSTRACT This paper investigates whether the business press serves as an information intermediary. The press potentially shapes firms' information environments by packaging and disseminating information, as well as by creating new information through journalism activities. We find that greater press coverage reduces information asymmetry (i.e., lower spreads and greater depth) around earnings announcements, with broad dissemination of information having a bigger impact than the quantity or quality of press‐generated information. These results are robust to controlling for firm‐initiated disclosures, market reactions to the announcement, and other information intermediaries. Our findings suggest that the press helps reduce information problems around earnings announcements.