Analysts' earnings forecasts exclude other comprehensive income (OCI). However, OCI affects firm value on a dollar-for-dollar basis and can enhance investors' assessments of the riskiness of firms' equity capital. Focusing on financial firms and using analysts' book value per share (BVPS) forecasts as a proxy for forward-looking information about OCI, we examine whether analysts provide information about future OCI via BVPS forecasts, whether investors respond to BVPS innovations (which should include OCI innovations), and whether such innovations are more useful to investors in financial firms with difficult-to-value financial assets. We find evidence consistent with: 1) Analysts' BVPS forecasts generally conveying at least some information about future OCI; and, 2) The market responding to whether firms miss analysts' consensus BVPS expectations (which should include OCI expectations), with stronger evidence for firms with larger holdings of difficult-to-value financial assets. The evidence supports the intuition that analysts provide at least some information about future OCI in their BVPS forecasts.

In empirically estimating the relation between CEO compensation and accounting‐based firm and peer performance, researchers often define the performance variables net of CEO compensation expense. We analytically show that a researcher's use of CEO compensation as a regression's dependent variable and as an expense in defining a regression's independent variables representing accounting‐based firm and peer performance will bias the researcher's pay‐for‐performance (PPS) and relative performance evaluation (RPE) regression coefficients. In a panel estimation of CEO compensation, we document an attenuation bias in the coefficients on net firm and net peer performance. This evidence may partially explain inferences of weak CEO incentives and limited usage of RPE in prior work. Our results imply that in CEO compensation regressions, a researcher can remove biases in inferring CEO incentives and RPE usage by using gross rather than net accounting performance variables—that is, by adding back CEO compensation expense to net accounting measures. This article is protected by copyright. All rights reserved.

We examine the relation between CEO pay components and aggressive non-GAAP earnings disclosures using CEO pay components as proxies for managers' short- versus long-term focus. Specifically, we explore the extent to which short-term bonus plan payouts and long-term incentive plan payouts are associated with: (1) Managers' propensity to exclude expense items in excess of those excluded by equity analysts; and, (2) The magnitude of those incremental exclusions. We find that long-term incentive plan payouts are negatively associated with the likelihood and magnitude of aggressive non-GAAP exclusions. Our results are consistent with managers reporting non-GAAP information less aggressively when they are more focused on long-term, rather than short-term, value.

ABSTRACT International and U.S. accounting standards mandate a one-step quantitative impairment test for goodwill and other indefinite-lived intangibles, but U.S. standards allow an optional qualitative assessment before the quantitative test. This option is intended to reduce the complexity and costs of the quantitative test. We demonstrate that U.S. firms using this option have comparatively higher valuations and face higher expected costs for conducting quantitative tests. Using a difference-in-differences research design, we show that firms using this option have a marginally higher incidence of impairments, suggesting that the qualitative assessment does not systematically allow companies to avoid write-downs. Moreover, we do not find clear evidence that using this option decreases the timeliness of impairments or increases monitoring costs for auditors, regulators, and investors. Our study provides evidence about the consequences of a revised impairment approach and speaks to the broader issue of allowing unconditional options and qualitative judgments in financial reporting. Data Availability: Data are available from public sources identified in the text. Hand-collected data are available upon request. JEL Classifications: M41; M42; M48.

Insiders often disclose non-GAAP earnings metrics in addition to GAAP earnings and can trade using their non-GAAP earnings information advantage for personal benefit. We find that, compared to insiders at GAAP firms, insiders at non-GAAP firms exploit their non-GAAP earnings information advantage to sell their shares, with strong evidence for insiders at non-GAAP firms that are monitored less intensively and disclose non-GAAP earnings more aggressively. Moreover, we find greater insider selling following increased SEC non-GAAP disclosure guidance, but lower insider selling profitability. Our results could be used to better identify opportunistic non-GAAP earnings disclosure.

We compare non-GAAP earnings per share (EPS) in firms’ annual earnings announcements and proxy statements using hand-collected data from U.S. Securities and Exchange Commission filings. We find that proxies for capital market incentives (contracting incentives) are more highly associated with firms’ disclosure of non-GAAP EPS in annual earnings announcements (proxy statements). However, we find systematic differences in the properties of firms’ non-GAAP earnings and exclusions depending on whether they disclose non-GAAP EPS in both the earnings announcement and the proxy statement. When firms disclose non-GAAP EPS in both documents, we find that non-GAAP EPS is more useful for assessing firm value. Specifically, these firms are more likely to: (1) exclude nonrecurring items, (2) exclude less persistent earnings components, and (3) provide less aggressive non-GAAP EPS. Our results suggest that non-GAAP EPS is higher in quality for investors when disclosed in both the annual earnings announcement and the proxy statement. We provide some of the first large-sample evidence consistent with the use of non-GAAP EPS metrics in both financial reporting and compensation contracting. This paper was accepted by Brian Bushee, accounting.

We examine whether investors' commitment to socially responsible investment principles influences the public disclosure of environmental, social, and governance (ESG) issues of their investee firms'. We find that following institutional investors' public commitment to the United Nations Principles for Responsible Investment (PRI), ESG disclosure in SEC Forms 10-K and 10-Q increases with the proportion of shares owned by institutional investors committed to PRI. Our finding is robust to considering: 1) other non-PRI institutional ownership, 2) current and past firm ESG performance, 3) simultaneous estimation of investment decision, ESG performance and ESG disclosure, and 4) shock to investor demand of environmental information. We also show that the improvement in firm ESG disclosure is driven primarily by PRI institutional investors from Europe. Our findings suggest that investors public commitment to social responsibility is a critical mechanism to improve firms' public disclosure of ESG activities.

Prior empirical compensation studies typically consider net performance (i.e., measured after deducting compensation) while related principal-agent theory is generally based on gross performance measures (i.e., before compensation). We analyze incentive rates in a principal-agent model based on net (and gross) performance. We analytically demonstrate that using gross performance in compensation regressions yields an unbiased estimate of total effort incentives irrespective of whether actual compensation is based on net or gross performance. In contrast, using net performance creates a bias in estimating total effort incentives and yields a non-zero benchmark in testing for the strong-form relative performance evaluation hypothesis. We provide empirical evidence of underestimated total effort incentives when using net performance in compensation regressions, suggesting a possible explanation for surprisingly weak CEO incentives interpreted in prior studies.

We examine the relation between regulatory attention and earnings management. We provide evidence that securities regulators provide most of their comment letters for new accounting standards in the first or second year of new standard effectiveness, consistent with regulators expending more regulatory resources on financial accounts altered by new accounting standards. We expect that firms anticipate where regulators spend regulatory resources and adjust financial reports accordingly to meet earnings expectations. We test this expectation surrounding a recent major accounting standard change for revenue recognition in the U.S. – ASU 2014-09. Consistent with this expectation, we find that firms that just meet or beat analysts’ consensus earnings expectations do so using expenses rather than revenues in the first years of the new revenue recognition standard’s effectiveness. We also find that discretionary revenue is lower for all sample firms and that research and development expenditure is lower for firms that just meet or beat analysts’ earnings expectations in sample years following ASU 2014-09. Finally, we find lower levels of discretionary spending for firms that just meet or beat analysts’ earnings expectations in the post-period vs. the pre-period, with strong evidence for firms that normally focus on revenue maximization. Our evidence suggests that firms understand regulatory resource constraints and manage their financial reports to achieve earnings objectives.

This paper examines whether issuing management earnings guidance motivates a firm to raise its level of performance. The failure of management to attain a forecast may reflect poorly on its industry understanding, knowledge of the firm, and management capability. Accordingly, we hypothesize and find that management, having issued guidance, are motivated to hone the firm’s production function to raise firm performance. We find that firms alter their operating activities to increase performance rather than manipulating their accruals. The enhancement in firm performance from using managerial earnings guidance as a commitment device is accomplished by reductions in operating leverage and is strongest among firms issuing moderately aggressive forecasts. Inconsistent with concerns that forecasting causes myopia, performance improvements persist for several years.

The purpose of our study is to further understand managerial incentives that affect the volatility of reported earnings. Prior research suggests that the volatility of fourth-quarter earnings may be affected by the integral approach to accounting (i.e., “settling up” of accrual estimation errors in the first three quarters of the fiscal year) or earnings management to meet certain reporting objectives (e.g., analyst forecasts). We suggest that another factor affecting fourth-quarter earnings is managers’ intentional smoothing of fiscal-year earnings. For each firm, we create pseudo-year earnings using four consecutive quarters other than the four quarters of the reported fiscal year. We then compare the earnings volatility of pseudo years to the earnings volatility of the firm’s own reported fiscal year. We find evidence consistent with fourth-quarter accruals reflecting managerial incentives to smooth fiscal-year earnings. This conclusion is validated by several cross-sectional tests, the pattern in quarterly cash flows and accruals, and several robustness tests. Overall, we contribute to the literature exploring alternative explanations for the differential volatility of fiscal-year and fourth-quarter earnings. This paper was accepted by Brian Bushee, accounting.

ABSTRACTWe use a novel data set to examine the across‐time consistency and across‐firm comparability of firms' non‐GAAP earnings disclosures. Given widespread concern about non‐GAAP reporting among regulators, standard setters, the investor community, and academics, our investigation provides timely evidence on how managers' deviations from their own non‐GAAP disclosure history, or the reporting of industry peers, affects how well earnings inform on firm performance. We begin by identifying firms that change their non‐GAAP earnings definition from one year to the next. These deviations are uncommon, but when managers change the items they exclude in calculating non‐GAAP earnings, the changes generally enhance the information in earnings about firms' core performance. We also examine whether non‐GAAP earnings are more comparable than GAAP earnings and find that firms' non‐GAAP adjustments result in greater earnings comparability. Finally, we examine instances in which firms deviate from common sector‐wide definitions of non‐GAAP earnings. We find that these deviations also result in earnings metrics that better represent firms' core operations. Overall, our results suggest that when managers vary their non‐GAAP calculations, either across time or across firms, the resulting non‐GAAP metrics generally enhance the information in earnings about firms' ongoing performance. Thus, our analysis helps mitigate concerns about why managers might vary their non‐GAAP reporting calculations.

This paper examines how changes in CEO risk-taking incentives are associated with changes in the use of relative performance evaluation (RPE) in CEO contracts. Using a shock to the accounting for executive stock options (FAS 123R), I confirm that risk-taking incentives and option grants declined following FAS 123R using a within-firm design, but not a within-CEO-firm design. Decreased risk-taking incentives lead executives to invest in projects with lower systematic risk and can result in reduced incentives to hedge exposure to systematic risk in CEO compensation contracts via RPE. However, CEO relative risk aversion increases with decreases in risk-taking incentives, potentially increasing incentives to protect CEO wealth from systematic performance via RPE. Testing these competing predictions, I find modest evidence consistent with reduced RPE surrounding FAS 123R, suggesting that when CEO risk-taking incentives are reduced, so are incentives to shield CEO pay from systematic performance.

We examine the effect of credit default swap (CDS) coverage on voluntary disclosure using firm provided non-GAAP earnings as a laboratory. For a large sample of U.S. firms, we find that for companies with CDS coverage, the persistence of non-GAAP exclusions is lower, implying higher disclosure quality. The effect manifests across a range of performance measures and measurement windows and is strongest among non-investment-grade firms, entities for which monitors are more likely to rely on public accounting reports. This improvement in quality comes as a counterpoint to a decrease in the frequency of non-GAAP disclosure among firms that experience CDS coverage initiation. Collectively, our findings suggest firms counteract the perceived negative externalities associated with CDS coverage with higher-quality voluntary disclosure.

We investigate the information content of analysts’ book value per share (BVPS) forecasts. We test whether analysts’ BVPS forecasts are informative about future realizations of other comprehensive income (OCI) and special items controlling for analysts’ EPS forecasts. Our results suggest that analysts’ BVPS forecasts generally incorporate upcoming realizations of OCI and special items, especially for financial firms. We also find evidence that BVPS forecasts provide expectations of non-EPS income, and that the market responds to BVPS innovations, especially BVPS forecasts misses. Finally, we find evidence that analysts provide more BVPS forecasts for financial firms that 1) have greater absolute levels of accumulated other comprehensive income (AOCI) from securities and derivatives, 2) report higher levels of OCI from securities, and 3) hold more opaque financial assets, and for non-financial firms with high absolute levels of pension-related AOCI.

We examine the relation between compensation incentives and non-GAAP earnings disclosures. Specifically, we focus on the extent to which bonus plan incentives and long-term performance plan incentives are associated with the aggressiveness of non-GAAP reporting, controlling for CEO sensitivity to stock price. Using a large hand-collected sample of non-GAAP earnings disclosures, we find that long-term plan incentives are negatively associated with the likelihood and magnitude of aggressive non-GAAP reporting, suggesting that they act as a deterrent to potentially opportunistic behavior. For a sub-sample of firms for which compensation contracts in proxy filings explicitly state that managers will be evaluated based on non-GAAP metrics, we find less opportunistic non-GAAP reporting, consistent with boards defining adjusted performance metrics in compensation contracts in order to limit CEOs’ ability to define their own non-GAAP numbers. However, when boards of directors have discretion to use non-GAAP metrics when evaluating managers, we find more opportunistic non-GAAP earnings reporting, consistent with managers using the flexibility in contracts to influence their performance evaluations.

This paper examines whether and for how long managers’ initial assessments of employee ability influence promotion decisions. Using archival data from minor league professional baseball, we find that, controlling for performance, initial assessments are associated with promotion decisions for at least six years after the initial assessments were made. We also find that initial assessments are positively associated with future performance at the outset of a player’s career, but the association becomes insignificant after a player accumulates on-the-job experience. We show that the weight on initial assessments for promotion decisions declines as additional on-the-job performance signals are observed, reflecting the declining relative informativeness of initial assessments about future ability. We construct a proxy for relative informativeness based on coefficients from regressions of future performance on initial assessments and observed performance. When we compare the implied relative weight on initial assessments for promotion decisions to our proxy for relative informativeness, we find initial assessments receive greater relative weight than implied by informativeness overall and across experience and job-level partitions. Our results suggest managers update initial beliefs about worker ability slowly given available performance measures. This paper was accepted by Shiva Rajgopal, accounting.

This paper examines how changes in CEO risk-taking incentives are associated with changes in the use of relative performance evaluation (RPE) in CEO contracts. Using a shock to the accounting for executive stock options (FAS 123R), I confirm that risk-taking incentives and option grants declined following FAS 123R using a within-firm design, but not a within-CEO-firm design. Decreased risk-taking incentives lead executives to invest in projects with lower systematic risk and can result in reduced incentives to hedge exposure to systematic risk in CEO compensation contracts via RPE. However, CEO relative risk aversion increases with decreases in risk-taking incentives, potentially increasing incentives to protect CEO wealth from systematic performance via RPE. Testing these competing predictions, I find modest evidence consistent with reduced RPE surrounding FAS 123R, suggesting that when CEO risk-taking incentives are reduced, so are incentives to shield CEO pay from systematic performance.

Over the past two decades, the regulatory landscape for non-GAAP reporting has evolved significantly. Despite a temporary decline in the frequency of non-GAAP reporting following Regulation G, the incidence of non-GAAP disclosure has continued to increase steadily, leading to a current all-time high in reporting activity. This proliferation of non-GAAP disclosure has captured the attention of standard setters and regulators in recent years. This paper provides an academic perspective on policy implications for both regulation and standard setting. We contend that current Compliance and Disclosure Interpretations (C&DIs) of the SEC staff may perhaps have gone too far in restricting certain types of non-GAAP disclosures. As a result, we advocate a slight relaxation of the current enforcement of Regulation G. We agree with FASB proposals for greater disaggregation in the income statement to allow for more transparency in non-GAAP reporting. Finally, we believe the PCAOB should consider requiring auditors to take a more direct role with respect to non-GAAP disclosures.

The number of firms reporting earnings on a non-GAAP basis has increased dramatically over the last decade, and non-GAAP reporting is now commonplace in capital markets. This proliferation of non-GAAP reporting has renewed both regulators' and standard setters' interests in these alternative performance metrics. For example, the SEC, FASB, and IASB have all recently questioned what this increasing reporting trend means for IFRS- and US-GAAP-based reporting and whether these measures are misleading to investors. This increasing focus on non-GAAP metrics motivates us to synthesize the nearly two decades of research on non-GAAP reporting to provide insights on what academics have learned to date about this reporting practice. Then, we utilize a novel dataset of detailed non-GAAP disclosures to provide new descriptive evidence on current trends in non-GAAP reporting and its recent proliferation. Finally, we discuss important questions for future researchers to consider in moving the literature forward.