This paper investigates whether changes in Generally Accepted Accounting Principles (GAAP) affect corporate investment decisions. Using a sample containing forty nine changes in GAAP, I find that changes in accounting rules affect investment decisions. I then examine two mechanisms through which changes in GAAP affect investment. First, I find that changes in GAAP affect investment, particularly R&D expenditures, when firms have financial covenants that are affected by changes in GAAP. Second, I find evidence suggesting that the process of complying with some changes in GAAP alters managers’ information sets and consequently changes their investment decisions, particularly their capital and R&D expenditures and, to a weaker extent, their acquistion expenditures. This paper contributes to the literature on the real effects of accounting by providing evidence that accounting rules affect investment decisions even when the rule change does not concern the measurement and reporting of investment, and by documenting specific mechanisms through which the relation manifests.

ABSTRACT This paper examines the effect of the Public Company Accounting Oversight Board (PCAOB) international inspection program on companies' financing and investing decisions. Difference-in-differences regression estimates suggest that companies respond to their auditor receiving a “deficiency-free” inspection report by issuing additional external capital amounting to 1.4 percent of assets and increasing investment by 0.5 percent of assets. These effects are larger for (1) financially constrained companies and (2) companies located in countries where there is no regulator or the regulator does not conduct inspections. Further, the effect on financing decisions is stronger in countries with (1) low corruption, (2) strong rule of law, and (3) high regulatory quality. Descriptive evidence suggests that inspections increase the use of financial covenants in debt contracts, which is likely one of the mechanisms through which inspections generate real effects. This paper documents the value of PCAOB inspections in mitigating financing frictions for non-U.S. companies. JEL Classifications: D8; D25; G15; G31; G38; M4; M41; M42. Data Availability: Data are available from the public sources cited in the text.

We survey 170 inspectors, representing 27% of the inspection staff, from auditor public oversight boards (POBs) in 20 countries to understand whether, how, and why auditors respond to POB oversight. We find that a large majority of inspectors believe that auditors frequently respond to their feedback by changing audit procedures and quality control systems. Inspectors perceive inspections to have broad effects on several aspects of auditing, ranging from documentation to the removal of partners. Some inspectors perceive that auditors place greater weight on keeping fees low than on increasing audit quality. Inspectors also believe that auditors on occasion ‘fix’ closed audit files before an inspection, and in rare instances obtain confidential information about upcoming inspections. Inspectors think that the primary reasons why auditors respond to POB feedback are (1) public disclosure, (2) enforcement capabilities, (3) POBs being perceived as authoritative, and (4) POBs having a culture for detecting auditing deficiencies.

We examine whether auditor regulatory oversight affects the value of financial statement audits. Using the PCAOB international inspection program as a setting to generate within country variation in regulatory oversight, we find that non-U.S. auditors inspected by the PCAOB gain 4% to 6% market share from competing auditors after PCAOB inspection reports are made public. When inspection findings reveal that an auditor has many engagement-level deficiencies, market share gains following inspection reports are significantly smaller. Our evidence suggests that regulatory scrutiny increases the assurance value of an audit and highlights the role of public regulatory oversight in the audit market.

This paper examines whether portfolio disclosure requirements for actively managed investment funds affect the investment decisions of the firms they own. We argue that mandatory portfolio disclosures reduce fund managers' incentive to collect and trade on private information, which reduces the stock price informativeness of their portfolio, and thus portfolio firm managers' ability to learn from their firms' stock prices. Using a difference-in-differences design around the May 2004 SEC regulation requiring more frequent fund disclosure, we find that investment sensitivity to stock price declines for firms with significant ownership held by actively managed funds affected by the regulation. The decline in investment-price sensitivity is concentrated among firms that are (i) owned by funds with larger expected proprietary costs and (ii) more likely to learn from price. Our results suggest that portfolio disclosure requirements have spillover effects on corporate investment by curtailing managers’ opportunities to learn from price.

We hypothesize that the choice to obtain a financial statement audit provides external financiers with incremental information about the firm, which helps reduce information asymmetry and financing frictions. Using a natural experiment, we show that when external financiers observe a firm׳s choice to voluntarily obtain an audit, the firms obtaining an audit significantly increase their debt, investment, and operating performance, and become more responsive to their investment opportunities. Further, we find that these effects are stronger for firms that are financially constrained and weaker for firms with other means to reduce financing frictions. Overall, our evidence suggests that the audit choice conveys information to capital providers, which reduces financing frictions and improves performance.

We survey companies and find that many use incorrect tax rate inputs into important corporate decisions. Specifically, many companies use an average tax rate (the GAAP effective tax rate, ETR) to evaluate incremental decisions, rather than using the theoretically correct marginal tax rate. We find evidence consistent with behavioral biases (heuristics, salience) and managers' educational backgrounds affecting these choices. We estimate the economic consequences of using the theoretically incorrect tax rate and find that using the ETR for capital structure decisions leads to suboptimal leverage choices and using the ETR in investment decisions makes firms less responsive to investment opportunities.

A fundamental question in accounting is whether and to what extent financial reporting facilitates the allocation of capital to the right investment projects. Over the last two decades, a large and growing body of literature has contributed to our understanding of whether and why financial reporting affects investment decision-making. We review the empirical literature on this topic, provide a framework to organize this literature, and highlight opportunities for future research.

This paper examines whether common ownership – i.e., instances where investors simultaneously own significant stakes in competing firms – affects voluntary disclosure. We argue that common ownership (i) reduces proprietary cost concerns of disclosure, and (ii) incentivizes firms to “internalize” the externality benefits of their disclosure for co-owned peer firms. Accordingly, we find a positive relation between common ownership and disclosure. Evidence from cross-sectional tests and a quasi-natural experiment based on financial institution mergers help mitigate concerns that our results are explained by an omitted variable bias or reverse causality. Finally, we find that common ownership is associated with increased market liquidity.

This paper examines whether and when the information environment of peer firms in an industry affects the cost of capital for other firms in the industry. We predict and find that the peer information environment is negatively associated with a firm's cost of capital when there is less publicly available firm-specific information and this negative association shrinks as the amount of firm-specific information increases. This paper provides evidence that information about peer-firms has externalities on the cost of capital for related firms and that these externalities are time-varying.