Knowledge that Transforms

We examine how disclosure delivery mode—oral versus written—influences investors' reactions to managers' tone language. We hypothesize that listening to disclosures, relative to reading them, causes managers' qualitative word choices to have a greater impact on investors' judgments. We theorize that this effect occurs because oral delivery mode promotes heuristic processing and qualitative tone language is an easy‐to‐process disclosure element. The results from an experiment in a conference call setting are consistent with our hypothesis and suggest a boundary condition. Specifically, the interaction of mode and tone language is significant in a setting where heuristic processing is likely (good earnings news) but not in a setting where investors are likely to scrutinize the disclosure (bad earnings news). Our results inform investors about the potential consequences of how they consume disclosures. Specifically, we show that investors are more susceptible to managers' tone language when listening to disclosures containing good news than when reading them.

We explore how securities litigation affects corporate reputation. Experts remain concerned that nonmeritorious securities class actions—those that will be dismissed or settled for nuisance amounts—cause reputational damage. Although several prior studies show reputational costs for nonmeritorious cases, they generally use indirect measures based on returns or total market losses, which are mechanically associated with securities litigation elements. In contrast, we use a relatively direct reputation measure from Fortune 's “Most Admired Companies” list. We find significant reputational damage after meritorious litigation, with the strongest cases having the largest effects. However, we find no evidence of reputational damage after nonmeritorious litigation. We also find that Fortune 's reputational damage measure is associated with more negative returns around the litigation filing date. We show possible mechanisms for our results, as initial legal filings contain information allowing market participants to assess case merits. Our results imply that reputational damage is primarily due to fraud, which securities litigation helps reveal to the market, rather than litigation itself. Thus, reputational damage is not an issue in over 70% of securities class actions due to the high frequency of nonmeritorious cases.

We investigate the impact of firm‐level political risk on loan contracting. We find that firm‐level political risk is positively associated with bank loan cost and that this effect is stronger for firms experiencing increased operational uncertainty and higher default risks. Firm‐level political risk also leads to more unfavorable non‐pricing loan terms. To alleviate endogeneity concerns, we use an instrumental variable approach and placebo tests. We further find that political connections and relationship‐based borrowing can attenuate the adverse effect of firm‐level political risk on loan contracting.

Stock prices often provide firm managers with new information that can be used in real decisions. Studies generally focus on the ex ante disclosure policy and show that the presence of market feedback crowds out firms' disclosure. We instead examine a manager's ex post biasing incentives and find that market feedback amplifies overreporting bias, but not necessarily underreporting bias, due to three interacting effects. First, the manager biases the report more with feedback since decreased information quality crowds in the speculator's private information acquisition and improves investment efficiency, regardless of the reporting scenario (the information rationing effect). Second, the manager biases more in the overreporting scenario and less in the underreporting scenario, because reporting more favorable information crowds in private information acquisition, as the speculator expects a higher subsequent investment and therefore higher trading profits (the investment scale effect). Third, market feedback influences reporting bias not only through the speculator's information acquisition but also directly through the market maker's pricing function. Specifically, the market maker decreases the price discount, as he expects that the manager may learn correct information from the price and may invest more efficiently. Expecting a lower price penalty in the presence of feedback, the manager biases more in the overreporting scenario and less in the underreporting scenario (the investment correction effect). Overall, our results suggest that granting firms reporting discretion could improve investment efficiency and firm value when managers can learn through price.

This paper investigates how banks utilize soft information to provide contractual flexibility in loan covenant enforcement. We find that relationship lenders are significantly less likely than non‐relationship lenders to enforce covenants for material violations when borrowers are potentially in breach of financial covenants. The mitigation of information asymmetry by relationship lending, as opposed to alternative explanations, serves as the underlying mechanism. Furthermore, relationship borrowers with potential covenant breaches are less likely to experience increases in loan interest rates after renegotiation, to adopt conservative financial or investment policies, or to file for bankruptcy. Following potential covenant breaches of borrowers, relationship banks are better able to preserve regulatory capital and secure future lending business. Our findings suggest that soft information accumulated during lending relationships is vital for banks to provide contractual flexibility.

The study provides large‐scale descriptive evidence on the timing and nature of corporate financial tweeting. Using an unsupervised machine learning approach to analyze 24 million tweets posted by S&P 1500 firms from 2012 to 2020, we find that firms are more likely to tweet financial information around significantly negative or positive news events, such as earnings announcements and the filing of financial statements. This convex U‐shaped relation between the likelihood of posting financial tweets and the materiality of accounting events becomes stronger over time. Whereas research based on early samples concludes that firms are less likely to disseminate financial information on Twitter when the news is bad and material, the symmetric dissemination behavior we find suggests that these conclusions should be revised. We also show that a machine learning algorithm (Twitter‐Latent Dirichlet Allocation) is superior to a dictionary approach in classifying short messages like tweets.

Distributed, rather than co‐located, teams increasingly perform audit work, raising regulator concerns that distributed team communication issues may affect audit quality. We investigate upward communication (i.e., raising issues to supervisors), a key communication dimension related to audit quality. In Study 1, we survey 69 senior auditors to establish that distributed team upward communication suffers. Furthermore, distributed team auditors identify less with their teams and struggle to know when and how to speak up. Because both are linked to inhibited upward communication, we next experimentally test firm practices with the potential to attenuate these problems. Study 2, an experiment with 128 staff auditors and interns, reveals that making auditors' professional identities salient improves upward communication on co‐located teams with strong team identities but not on distributed teams with weak team identities. Study 3, an experiment with 58 staff auditors, replicates a key Study 2 finding with a design that makes no reference to team identity strength. Specifically, in the presence of a salient professional identity, upward communication is significantly higher for co‐located relative to distributed team auditors. Study 4, an experiment with 69 staff auditors, focuses solely on distributed teams. It indicates that several distributed team management practices, including one‐on‐one and standing daily meetings, encourage upward communication. Finally, Study 5, informal interviews with eight audit seniors, corroborates key survey and experimental findings. Combined, our results provide insights into why distributed team communication suffers, refine audit voice theory, and provide regulators, practitioners, and researchers with multiple paths to improve audit quality.

Previous research on calculative intermediaries shows how these effectively challenge, distort, and disrupt accounting practices in ways that policy‐makers might not anticipate. The promises of surveillance capitalism—with its attendant data architectures, datafication processes, and technological sophistication—are different, supposing more accurate ways of reading individuals and greater calculative certainty overall. Yet there is little empirical research to explore how surveillance capitalism manifests itself at the organizational level, either conceptually or operationally. As a result, it remains uncertain whether such specters of omniscience are as haunting in reality as they appear in theory. We explore these themes by way of an ethnographic study into credit scoring in China, showing how intermediary organizations developed a multiplicity of credit scoring models based on machine learning and big data that differed both from original expectations and from each other. These different “renditions” of credit scoring suggest that the data architectures of surveillance capitalism are just as much subject to challenge and adaptation by intermediary organizations as calculative practices, such as accounting, are in more analog environments.

Regulators have raised concerns about the quality of component auditors' work. Of particular concern is that component auditors often do not adequately perform procedures and gather enough quality evidence. This failure is likely caused by component auditors' different interpretations of lead auditor instructions and by their lack of responsibility. Our interview findings suggest that component auditors tend to interpret lead auditor instructions concretely because they often receive detailed instructions from lead auditors. We propose that a responsibility prompt reminding component auditors to be aware of their obligations to the group audit engagement can improve their evidence collection. In two experiments, we find that our proposed responsibility prompt can effectively improve component auditors' evidence collection decisions and that this finding holds across different cultural settings. Our third experiment provides evidence that a responsibility prompt improves component auditors' evidence collection when provided to auditors who receive instructions that prime low‐level (but not high‐level) construals. Overall, our findings suggest that prompting component auditors to internalize the responsibility of a group audit engagement is a viable way to improve the quality of group audits.

Given that tax‐related critical audit matters (tax CAMs) were prevalent among accelerated filers (18.5% of observations) during the initial year of CAM disclosures, we examine whether an auditor's disclosure of tax CAMs is associated with variation in tax‐related financial reporting quality, tax avoidance, and tax‐related earnings management. Finding an association between tax CAMs and one of these tax outcomes would indicate that the new auditor reporting standard has indirectly affected investors. Examining the first year of CAM disclosures, we do not find that tax CAMs are associated with broad proxies of tax‐related audit or financial reporting quality (e.g., restatements, internal control weaknesses, comment letters) or tax avoidance (e.g., effective tax rates or book‐to‐tax differences). We do find that tax CAMs are associated with a modest increase in tax accrual quality, an increase in the reserve for unrecognized tax benefits, and a reduction in the likelihood of tax‐related earnings management. However, we do not find these tax CAM effects persist into the second year of CAM reporting. Our evidence is consistent with tax CAM disclosures having a modest but short‐lived effect on companies' reporting of tax accounts. Our findings should inform the PCAOB as they conduct their post‐implementation review of the new audit reporting standard.