We collect quantitative (true thresholds and realizations) and qualitative (compliance status) covenant information from SEC filings to examine the accuracy of compliance estimates derived using data from commercial databases. Estimated covenant slack frequently overestimates covenant violations, and only rarely understates them, with this asymmetry holding for both qualitative and quantitative disclosers. The non-random structure of this measurement error has implications for research that relies on estimated violations or on precise measurement of covenant realizations near a threshold. Across our two samples of disclosers, we find evidence consistent with the debt covenant hypothesis for debt-to-EBITDA covenants once measurement error is considered. We also show that the lender forbearance rate declines sharply after correcting estimated violations for measurement error, and that true violations, but not estimated violations, are associated with negative stock market reactions and loan renegotiations. Finally, we investigate practical approaches to reduce measurement error.
This study investigates whether auditors incorporate investor information demand when determining key audit matter (KAM) disclosures. We measure investor information demand using a unique dataset of investor inquiries submitted through investor interactive platforms (IIPs) established by China's major stock exchanges. At the topic level, we find that auditors are more likely to disclose a given topic as a KAM when investors raise more inquiries on that topic. At the aggregate level, a higher proportion of inquiries devoted to accounting issues is associated with both a greater number of KAMs and longer KAM disclosures. Importantly, following the introduction of KAM reporting, managers’ footnote disclosures become more aligned with heightened investor inquiries, reinforcing our interpretation that the documented effects reflect auditors’ responses to investor inquiries rather than merely mirroring managerial disclosure changes. Overall, our findings suggest that auditors incorporate investor information demand into KAM disclosures.
This paper investigates the relation between executive compensation and corporate tax policies, with a focus on the Tax Cuts and Jobs Act of 2017 (TCJA). Using a pay-performance sensitivity framework, we analyze the differing compensation rewards associated with domestic and foreign pre-tax incomes. Our findings reveal that, before the TCJA, executives received significantly higher rewards for foreign income, encouraging them to shift income abroad. The TCJA reduced this disparity, bringing rewards for domestic and foreign income into closer alignment. A cross-sectional analysis shows that firms assessing CEO performance based on after-tax income exhibit greater sensitivity to changes in tax policy, establishing the presence of a tax mechanism. Additional tests eliminate alternative nontax explanations related to protectionist trade policies and changes in foreign market growth opportunities. These results highlight the significant impact of executive incentives on corporate tax behavior and the effectiveness of tax policy reforms.
This paper examines the association between managers' failure to incorporate macroeconomic news and firm performance, focusing on the role of competitors. Measuring this failure using the extent to which management revenue forecast errors reflect U.S. consumer sentiment, we find an asymmetric association. When firms underestimate consumer demand and underproduce, failing to incorporate consumer sentiment news is associated with worse performance, but when they overestimate demand and overproduce, no association exists. These results are consistent with competitors reacting differently to underproduction and overproduction, worsening firm performance in the case of underproduction but not necessarily in overproduction. Cross-sectional analyses reveal that the negative association is mainly present when U.S. consumer sentiment is important and strategic interactions are stronger, such as in markets with higher product similarity. Overall, our findings suggest that the performance consequences of forecast errors due to failure to understand macroeconomic information are nuanced and depend on competitors’ strategic actions.
Pandey et al. (2026) examine whether the auditor independence provisions of Sarbanes-Oxley (SOX) impact accounting careers and human-capital development. I discuss how the paper shows that independence regulation affects not just the economic ties of auditors and clients, but also the organization of work through which auditors develop human capital. I interpret the evidence as identifying both intended and unintended consequences of independence rules on accountants’ learning, networks, and mobility. The paper adds an important labor-market cost dimension to the evaluation of SOX, but I argue it should be read as informing independence regulation rather than making a case against it. The broader implication is that auditor independence and human capital are complementary inputs into audit quality, which creates a regulatory design problem of protecting auditor objectivity while sustaining expertise.
Forecasts of future realized loan losses that deviate from rational expectations can impact banks’ loan loss provisions, lending procyclicality, and financial stability, especially under the forward-looking current expected credit losses (CECL) model. The behavioral finance literature suggests that bank forecasts are influenced by the representativeness heuristic, which posits that, in forming estimates of future events, forecasters overreact to current circumstances. Leveraging confidential supervisory data from FR Y-14A filings, we document the presence of such overreaction in banks’ forecasts of net loan charge-offs. We find that revisions of these forecasts (current forecast minus previous forecast) are negatively associated with the corresponding forecast errors (realized minus current forecast), and this pattern strengthens for longer-horizon forecasts. Successive forecasts of the same future net loan charge-offs exhibit negatively autocorrelated revisions and gradually converge to the realization, indicating the continued presence and gradual resolution of overreaction over time. The overreaction affects loan loss provision in the same direction as the forecast bias, especially for CECL adopters. This effect of overreaction under CECL is more pronounced for longer-horizon forecasts and banks with longer-maturity loans. Supporting the prevalence of this bias, we observe overreaction in banks’ forecasts across loan types and of regional macroeconomic conditions.
This study investigates the practice of re-audits—where an incoming audit firm re-audits the prior year’s financial statements previously examined by a predecessor audit firm. We examine the costs and benefits of such re-audits. We find that re-audits are more likely when the risks of misstatement are high and when incoming auditors can expect to win more clients by identifying material misstatements overlooked by predecessor auditors. Our results show that incoming auditors who perform re-audits are more successful in winning new clients from predecessor auditors. Moreover, re-audits result in significantly more restatements. However, consistent with the resource-intensive nature of re-audits, we also find that they are associated with longer audit delays and higher audit fees. Overall, we conclude that re-audits have important consequences for financial statement users, incoming auditors, and predecessor auditors.
We review the empirical accounting literature on private firms. Recent advances in data gathering provide new openings to examine private firms which, despite driving half of private sector economic activity, have historically been challenging to study. We provide a conceptual framework to organize the literature, centering on information production, information verification, and information dissemination. Four key takeaways emerge from our review. First, private firm settings offer unique advantages for understanding the economic role of accounting. Because private firms face less regulation than public firms, their accounting choices can shed light on economic tradeoffs that public firm choices cannot. Second, there is limited descriptive evidence on many fundamental accounting choices, including the extent to which private firms follow US GAAP, obtain an audit, or use various management accounting practices. Third, studies jointly modeling private and public firms provide more complete, robust analyses of the economy, regulation in particular. Fourth, private and public firms differ on many central dimensions, which raises difficulties related to conducting empirical analysis and assessing generalizability.
On-the-job training is a key driver of human capital development (Becker, 1962). We argue that the Sarbanes-Oxley Act (SOX), aimed at strengthening auditor independence, changed the economics of public accounting and unintentionally reduced opportunities for accountants to invest in their human capital on the job. SOX barred public accounting firms from offering consulting services to audit clients and introduced barriers to accountants transitioning to client firms. This weakened opportunities for collaboration between audit and consulting, limited accountants’ exposure to addressing clients’ business problems, and reduced networking. This diminished opportunities for accountants to gain broad experience, develop skills, and grow professional networks, making the accounting profession less attractive, especially to top talent. Using individual-level data, we compare accountants (treated group) and consultants (benchmark group) before and after SOX, within the same public accounting firm, time, and location. After SOX, accountants were less likely to move into consulting roles or to clients of their audit firms, and their wages declined. Consistent with reduced career opportunities discouraging accounting education, we find a drop in the quality of students declaring accounting majors after SOX. Importantly, to more directly connect career opportunities to university accounting enrollments, we show that when university alumni transitions from public accounting to consulting decline, both the quantity and quality of subsequent accounting enrollments at their alma maters drop. We uncover a previously overlooked cost of regulations concerning the accounting profession.
We investigate the impact of the controversial 2022 amendment to Rule 10b5-1, which imposed a cooling-off period and restricted overlapping and single-trade plans on prearranged insider transactions. Our evidence is consistent with the amendment leading insiders to (i) execute stock sales under 10b5-1 plans with longer cooling-off periods; (ii) curtail opportunistic sales under 10b5-1 plans prior to stock price drops or earnings misses; (iii) limit the backdating of stock gifts; and (iv) decrease the granting of options around material information events. Further evidence suggests a reduction in opportunistic 10b5-1 trades rather than a migration toward non-10b5-1 sales. We find mixed evidence on the amendment's effect on price efficiency. Finally, terminations of 10b5-1 plans are associated with positive subsequent stock returns, suggesting that insiders avoid selling when they expect favorable news. Overall, our findings indicate that the amendment substantially curtailed the opportunistic use of 10b5-1 plans, its primary objective.
This study examines the role of the accounting quality of U.S. federal agencies, measured with audit opinions, in federal budget allocations to those agencies. We find that, when an agency receives a modified audit opinion, the president proposes and Congress enacts a lower budget for the agency, and the budgetary disagreement between them increases. These effects strengthen when the president and Congress have stronger incentives to demonstrate spending accountability to taxpayers. Exploiting the enactment of the Department of Homeland Security (DHS) Audit Requirement Target Act, which required the DHS to end its longstanding modified audit opinions, we find that following the act’s implementation, the president proposed higher budgets for the DHS and the budgetary disagreement over the DHS diminished. These findings suggest that high-quality federal agency accounting influences budgetary decisions by reducing agencies’ information asymmetry with politicians (the president and Congress) and taxpayers, facilitating the evaluation of agencies’ spending accountability.
This study investigates the importance of top executives for foreign tax planning in multinational corporations. Applying incremental R2 comparisons and Shapley Value decompositions, we find that executives account for meaningful variation in foreign tax planning and the number of foreign (tax haven) subsidiaries, but have limited influence on effective tax rates in nonhaven affiliates. We further provide initial evidence that executive influence declined following the Tax Cuts and Jobs Act of 2017 (TCJA), with the decrease being less pronounced for foreign effective tax rates than for domestic ones. Overall, our findings highlight how managers’ influence varies with their firms’ internal structures and external policy changes. Our results contribute to the literature on executive effects, multinational tax planning, and the behavioral implications of tax policy reforms.
This paper investigates how firms manage supplier disclosures to project a greener supply chain. We show that firms selectively reveal relationships with high-ESG suppliers while withholding ties to low-ESG ones. A shift in the supplier’s environmental score from the 10th to the 90th percentile increases disclosure probability by 4.4% relative to the mean disclosure rate. Our analysis suggests this selective disclosure reflects greenwashing rather than genuine communication of supply-chain ESG improvements. In a U.S. subsample, firms are more likely to disclose green suppliers in the 10-K Business section and ESG reports, while low-ESG suppliers appear more frequently in the 10-K Risk Factors section. Strategic disclosure declines as environmental transparency regulations tighten. Finally, firms that strategically disclose green suppliers experience higher short-term stock returns, though these effects diminish over time. Our results highlight the importance of supply chain environmental disclosure and its potential to reduce capital misallocation.
This paper examines whether corporate tax cuts alter product-market competition by differentially affecting firms with high versus low tax burdens. Tax cuts increase after-tax cash flows for profitable firms but provide little immediate benefit to loss-making firms. We study the 1986 Tax Reform Act, which reduced the top corporate tax rate by 12 percentage points and examine route-level price and quantity data from the U.S. airline industry. We find that, in response to the Act, profitable airlines reduce ticket prices by 4.2% relative to their loss-making rivals and gain 3.3 percentage points in market share. These effects are concentrated in routes where loss-making competitors are financially constrained and are accompanied by increased entry by profitable airlines and exit by loss-making airlines. The evidence suggests that taxes can affect competitive outcomes, specifically in our paper by enabling high-tax firms to compete more aggressively with low-tax rivals after tax cuts.
Building on economic theories of cultural transmission, we examine how audit partners’ cultural trust influences audit outcomes. Based on the “presumptive doubt” perspective of professional skepticism, we propose that audit partners from trusting cultures are more likely to rely on management’s assertions, while still exercising a high degree of caution and not naively trusting management. Consistent with our prediction, we find that audit partners from trusting cultures commit fewer Type I errors when issuing going concern opinions, without significantly increasing Type II errors. The reduction in Type I errors is primarily found when audit partners normally tend to be more conservative, and it is attenuated when management is less trustworthy. At the same time, audit partners from trusting cultures are also associated with more within-GAAP earnings management, suggesting that increased trust entails a cost. Collectively, our findings offer new insights into how cultural trust affects the assurance of accounting information.
Audit design invokes a tradeoff between a monitor’s local knowledge and their independence from influence. We study this tradeoff in the context of a pilot program in six Chinese provinces in 2016, in which provincial governments were given control over budgeting and personnel decisions for city audits. Using a difference-in-differences framework we show that, compared to non-pilot provinces, centralization increases detection of suspicious expenditures by over 50%. These improvements occur also in cities with auditors appointed pre-2016, suggesting that stronger incentives and greater resources rather than auditor selection explain the improvements. Consistent with this interpretation, we find that financial (but not human) resources devoted to city audits increase with centralization. Further results show that centralization’s benefits are strongest in provinces that centralized audit office financing as part of the reform – particularly in poorer cities – suggesting a role for resources in improved performance.
This essay explores the economics of contracting in firms and the role accounting plays in it. It views firms as specialist contracting intermediaries, obtaining scale economies from repetitive contracting with owners of factors of production and consumers. It builds on the Coase (1937) insight that firms exist due to contracting-cost advantages over markets and proposes that common accounting methods are a source of that advantage: that they are "contracting-useful." This perspective provides economic rationales for accrual accounting, cost-based accounting depreciation, cost allocation, standard costing and accountants taking a transactional rather than holistic view of firms. Decision-usefulness theory - the thesis that the function of financial reporting is to assist investors and lenders in deciding among alternative actions - fails to explain these methods, even though it is the sole objective of reporting expressed in the FASB/IASB Conceptual Framework. Financial reporting contributes much more to aggregate economic welfare than that objective implies.
We analyse how capital management motives and accounting discretion have affected euro area banks’ provisioning behaviour since the adoption of expected credit loss accounting (IFRS 9). Using granular loan-level data, we investigate provisioning dynamics around firm-level credit events and the macroeconomic shock induced by the COVID-19 pandemic. We find that capital management motives have a strong impact on provisioning under IFRS 9, with less capitalised banks generally provisioning less than their better capitalised peers. Moreover, the bulk of provisioning under IFRS 9 continues to occur at the time of default, in contrast with the expected functioning of the approach. Overall, our findings suggest that IFRS 9 allows for substantial heterogeneity in provisioning across banks, while aggregate provisioning patterns have not been fundamentally altered by the new approach.
