We document that property-casualty insurers with small positive earnings understate loss reserves relative to insurers with small negative earnings. Furthermore, loss reserves are managed across the entire distribution of earnings, with the most income-increasing reserve accruals reported by small profit firms, and the most income-decreasing reserve accruals reported by firms with the highest earnings. We analyze this pattern separately for public, private, and mutual companies, and find that public companies and mutuals manage loss reserves to avoid losses, but that private companies do not. We also find evidence of reserve management to avoid losses by financially healthy and distressed firms.

This paper explains that value relevance research assesses how well accounting amounts reflect information used by equity investors, and provides insights into questions of interest to standard setters. A primary focus of financial statements is equity investment. Other uses of financial statement information, such as contracting, do not diminish the importance of value relevance research. Value relevance questions can be addressed using extant valuation models. Value relevance studies address econometric issues that otherwise could limit inferences, and can accommodate and be used to study the implications of accounting conservatism.

This study tests predictions that pricing multiples on and incremental explanatory power of equity book value (net income) increase (decrease) as financial health decreases. Tests using a sample of 396 bankrupt firms and tests using a larger, pooled sample both yield inferences consistent with predictions. Findings are robust to inclusion of controls for industry, size, return-on-equity, and volatility of equity returns. Equity book value and net income multiples and incremental explanatory power vary predictably across three illustrative industries, selected based on the likely extent of unrecognized intangible assets.

This paper examines whether market participants implicitly assign different coefficients to pension cost components when determining security prices. The major findings are: (1) The pension cost components' coefficients generally differ from one another. As predicted, the transition asset amortization coefficient is lower than other pension coefficients, and is insignificantly different from zero. (2) Consistent with the market viewing pension-related income streams as less risky, the pension coefficients are generally larger than the nonpension coefficients. Additional specification tests permitting nonpension coefficients to vary with risk, tax-payer status, and industry membership, generally support the basic findings, although the significance levels are generally higher.

The study explores the incremental explanatory power of replacement cost earnings variables (derived from ASR 190 data) with respect to explaining cross sectional differences in security returns. As such, the study is a natural extension of previous research, including analyses of the effect of security returns of ASR 190 data at the time of disclosure, investigations of cross sectional relationships between security returns and historical cost earnings, and studies of multiple signals. The basic finding is that pre-holding gain net income provides no incremental explanatory powerm given knowledge of historical cost earnings. However, the converse does not hold. Taken together, the findings are consistent with the contention that pre-holding gain net income is a garbled version of historical cost earnings. The basic finding is robust under several extensions of the initial research design. The research design incorporates a two-stage approach which permits a determination of the incremental explanatory power of collinear variables. The findings are in contrast to those of a previous study by Easman et al. (1979). The nature of the difference in research design inducing the difference is identified. Potential reasons for the difference in findings are provided.

William H. Beaver, Roger Clarke, William F. Wright, The Association between Unsystematic Security Returns and the Magnitude of Earnings Forecast Errors, Journal of Accounting Research, Vol. 17, No. 2 (Autumn, 1979), pp. 316-340

We examine bankruptcy within business groups. Groups have incentives to support financially distressed subsidiaries, as the bankruptcy of a subsidiary may impose severe costs on the group as a whole. This is in part because, in several countries, bankruptcy courts often “pierce the corporate veil” and hold groups liable for their distressed subsidiaries’ obligations as if they were their own. Using a large cross-country sample of group-affiliated firms, we show that, by reallocating resources within the corporate structure, business groups actively manage intra-group credit risk to prevent costly within-group insolvencies. Moreover, we document that recent regulatory changes in the approval and disclosure of related party transactions are costly for business groups in that they constrain their ability to shield their subsidiaries from credit-risk shocks. Our study informs the current regulatory debate on related party transactions by highlighting an important cost of anti-self-dealing regulation.