The absence of observable innovation data for a firm often leads us to exclude or classify these firms as non-innovators. We assess the reliability of six methods for dealing with unreported innovation using several different counterfactuals for firms without reported R&D or patents. These tests reveal that excluding firms without observable innovation or imputing them as zero innovators and including a dummy variable can lead to biased parameter estimates for observed innovation and other explanatory variables. Excluding firms without patents is especially problematic, leading to false-positive results in empirical tests. Our tests suggest using multiple imputation to handle unreported innovation.

We investigate whether managerial traits influence corporate decisions to provide mandatory financial disclosures. The results indicate that firms with confident chief executive officers CEOs are 24% more likely to report their research and development R&D expenditures relative to firms with cautious CEOs. Exploiting staggered, state-level regulatory shocks and changes in CEO type, we find substantial evidence that cautious CEO firms fail to report R&D expenditures. After a plausibly exogenous shock to managerial reporting liability, cautious CEO firms exhibit a 35% larger reduction in unreported R&D relative to confident CEO firms. Interestingly, confident CEO firms do not exhibit more innovation than their cautious CEO counterparts after taking into account their differing propensities to report corporate R&D. Overall, our analysis suggests that the precision or reliability of mandatory disclosures systematically varies with managerial characteristics.The Internet appendix is available at https://doi.org/10.1287/mnsc.2017.2809. This paper was accepted by Amit Seru, finance.

Research on corporate innovation often focuses on firms with positive US patent activity and reported R&D, thereby excluding over 90% of the firms in Compustat. By exploiting data from 30 global patent offices, we investigate the nature of missing innovation data in the US and around the world. Our central research question is how studies of innovation, or those that rely on measures of innovation as a control variable, should assess firms without reported R&D or patent activity. Our preliminary analyses indicate systematic and predictable patterns across firms and countries for missing patents and R&D. We then compare the empirical efficacy of excluding firms without US patents or without reported R&D to simple replacement methods, and to various econometric solutions for missing innovation data. We show how excluding or deleting firms without US patents or reported R&D, even in studies of just US firms, provides biased coefficient estimates and standard errors. We also demonstrate how the biases from simply excluding the missing observations lead to specific distortions in tests related to corporate growth and country level innovation capacity. We then discuss best practices and provide specific guidelines in handling missing R&D and patent data.

This study extends the literature on symbolic management by incorporating the role of stakeholder perceptions into the context of corporate philanthropy. In particular, we differentiate between the quantitative (generous giving) and qualitative (innovative giving) aspects of giving. We argue that although stakeholders may perceive both types of giving as being substantive rather than symbolic, innovative giving is likely to be perceived as more substantive than generous giving is and, thus, has a greater impact on firm value. Furthermore, stakeholder perceptions of corporate philanthropy as being more symbolic or substantive are influenced by firm characteristics—the type of products or services that a firm provides and the life-cycle stage that the firm is in—which provide stakeholders with a context to better assess the nature of a firm’s philanthropic actions and the substantiveness of its giving. We find support for our predictions using a sample covering U.S. firms’ philanthropic activities over a 19-year period.

We investigate whether missing R&D expenditures in financial statements indicates a lack of innovation activity. Patent records reveal that 10.5% of missing R&D firms file and receive patents, which is 14 times greater than zero R&D firms. Pseudo-Blank R&D firms (missing R&D firms with patent activity) demonstrate patent filings analogous to the bottom 90–95% of the positive R&D population. Multivariate difference-in-differences tests indicate that Pseudo-Blank R&D firms are more likely to report R&D after an exogenous auditor change. Finally, we provide simple Monte Carlo simulations to evaluate different methods to handle missing R&D in empirical research.

A large subset of firms (about 42% of public firms) fails to report any information about R&D in their accounting statements. A natural question arises as to whether missing or blank R&D indicates a lack of innovation and R&D activities. We investigate this issue using patent data, finding that non-reporting R&D firms file 14 times more patents than firms that report zero R&D. To gauge the materiality of R&D in these non-reporting R&D firms with patents (labeled as Pseudo-Blank firms) we examine patent characteristics. These tests reveal that the patents of Pseudo-Blank R&D firms, relative to positive R&D firms, declare broader contributions, exhibit greater citation breadth, and display lengthier competitor discovery periods. Further tests provide evidence to suggest that Pseudo-Blank R&D arises from both discretionary reporting choices and the structure of corporate activities. Multivariate differencein-differences tests, for instance, indicate that Pseudo-Blank R&D firms are more likely to report R&D after a forced auditor change. Finally, we provide simple Monte Carlo simulation results to evaluate different methods of dealing with missing R&D in empirical research.

This paper advances the risk management perspective that superior social performance enhances firm value by serving as an ex ante valuable insurance mechanism. We posit that good social performance is more valuable as an insurance mechanism for firms with higher litigation risks. Moreover, value generation of corporate social performance (CSP) depends on whether a firm has gained pragmatic legitimacy (i.e., a firm's financial health) and moral legitimacy (i.e., whether or not a firm operates in a socially contested industry) among its stakeholders. We find that the value of CSP as insurance against litigation risk is practically significant, adding 2 to 4 percent to firm value. But CSP is less likely to create value if the firm is in financial distress or is operating in socially contested industries.

Recent theoretical work argues that information risk is a non-diversifiable risk factor that is priced in the capital market. Using accruals quality to proxy for information risk, Francis et al. (2005) provide empirical support for this argument using a sample of US firms. This paper re-examines the interplay of accruals quality, information risk and cost of capital in Australia, where a number of important institutional and regulatory differences are hypothesized to affect the relation between accruals quality and cost of capital. The results suggest that, while accruals quality impacts on the cost of capital for Australian firms, some salient differences exist. In contrast to findings for US firms, the costs of debt and equity for Australian firms are largely influenced by accruals quality arising from economic fundamentals (i.e., innate accrual quality) but not discretionary reporting choices (i.e., discretionary accrual quality). This finding is consistent with our predictions based on the Australian institutional and regulatory environment. In addition, using both the asset pricing tests in Francis et al. (2005) and Core et al. (2008), we provide evidence consistent with accruals quality being a priced risk factor.

We exploit a unique opportunity to examine whether goodwill impairment write-offs reflect firms' investment opportunities during the first years of the US goodwill impairment accounting regime. We find that impairment write-offs are negatively associated with firms' underlying investment opportunities. We also find associations between goodwill impairment write-offs and traditionally applied leverage, firm size and return on assets variables, although the leverage and firm size results are less robust. The results support the International Accounting Standards Board and Financial Accounting Standards Board contention that an impairment test regime can reflect firms' underlying economic attributes, while simultaneously indicating that managers use discretion to reduce contracting costs.

This paper classifies institutional investors into transient or long-term by their investment horizons to examine the association between institutional investor type and firms’ discretionary earnings management strategies in two mutually exclusive settings – firms that (do not) use accruals to meet/beat earnings targets. The results support the view that long-term institutional investors constrain accruals management among firms that manage earnings to meet/beat earnings benchmarks. This suggests long-term institutional investors can mitigate aggressive earnings management among these firms. Transient institutional ownership is not systematically associated with aggressive earnings management and is evident only among firms that manage earnings to meet/beat their earnings benchmarks. This indicates transient institution-associated managerial myopia may not be as prevalent as posited by critics. This study highlights the importance of explicitly considering the type of institutional investor and the specific setting when investigating the association between institutional ownership and corporate earnings management.

This study examines the role of corporate governance in employee stock option (ESO) disclosures following the revision of AASB 1028 Employee Benefits in 2001. We find that, while firms do not fully comply with AASB 1028 ESO disclosures, they voluntarily provide other ESO disclosures. In relation to corporate governance measures that have a role in the financial reporting process, we find two corporate governance measures dominate our results—the quality of auditor and duality of the role of CEO and Chair of the Board of Directors. We show that, in general, external auditor quality has positive incremental association with both mandatory and voluntary ESO disclosures while the dual role of CEO and chairperson of the board is associated with lower levels of mandatory disclosure.

We examine the twin roles of accountability and value enhancement of corporate governance in the context of financial reporting. We investigate the accountability role by examining the association between governance structures and abnormal accruals, and the value enhancement role by investigating the association between abnormal accruals explained by governance structures and future performance. We differentiate between governance mechanisms that have direct roles in the financial reporting process (audit related) from mechanisms that have indirect roles (board related). We find that independent and active audit committees and independent boards are important governance attributes for financial reporting. We show that both audit-related and board-related governance structures are value enhancing.

CEO compensation is topical and controversial and accordingly receiving considerable attention by various stakeholders. We investigate whether rent extraction or labour demand explains CEO compensation level in Australia. We do so by examining the determinants (economic, governance and ownership) of CEO compensation level and explore the relationship between predicted excess compensation and subsequent firm performance. Our results suggest that governance and ownership attributes, in addition to economic attributes, are significant determinants of CEO compensation. However, these attributes differentially determine the various components of CEO compensation. Our evidence is consistent with: a) the determination of fixed salary and share based compensation reflecting a firm's demand for a high quality CEO; and b) the CEO's ability to extract rent through bonus and options compensation, particularly for smaller firms or firms with above average performance. However, the rent extraction is not economically significant and does not persist beyond one year. This is in sharp contrast to the US evidence where rent extraction through CEO compensation is pervasive, economically significant and persistent (Core, Holthausen & Larcker, 1999).

This study examines the rarely investigated association between institutional ownership and income smoothing. The results support the predicted positive association between institutional ownership and the likelihood of firms smoothing earnings towards their earnings trend in general. However, this association is not systematic across all firms. The positive association is most evident among profit firms with pre‐managed earnings above their earnings trend. No significant association is found for profit firms with pre‐managed earnings below their earnings trend and loss firms in general. This study also finds that, in Australia, while institutional ownership has a non‐linear association with income increasing earnings management (Koh, 2003), such association manifests itself within the income smoothing framework. The results of this study highlight the complexities in the association between institutional ownership and earnings management strategies, and future research can benefit by explicitly examining the trade‐offs between alternative earnings management incentives and the factors that affect the relative strength of these incentive trade‐offs.

Recent debates on the corporate governance role of institutional investors have centred around whether they monitor their portfolio firms (exercise voice) or vote with their feet (exit). We examine these competing views in the context of how institutions' voice vs exit role, proxied by institutional ownership levels, is associated with their portfolio firms' earnings management in multiple settings. We extend Koh (2003, The British Accounting Review, 35, 105-128) by examining the effect of both short-term and long-term oriented institutional ownership on the extent of earnings management by portfolios firms with different incentives for earnings management. Specifically, we expect that the non-linear relation between institutional ownership and earnings management found in Koh (2003) is more likely to be present for portfolio firms with stronger incentives to meet/beat earnings thresholds. Our results suggest that transient and long-term oriented institutions co-exist and have differential effects on portfolio firms' earnings management. Transient institutions are associated with upward accruals management, while long-term oriented institutions constrain such upward accruals management for portfolio firms that have strong incentives to do so (specifically, firms with non-discretionary earnings below prior year earnings). This suggests long-term oriented institutions can act as a corporate governance mechanism to mitigate aggressive earnings management. Overall, we find that the association between institutional ownership and earnings management is not systematic across all firms and is context dependent, suggesting complex associations between institutional ownership and earnings management strategies exist.

We examine the twin roles of accountability and value creation of corporate governance in the context of financial reporting. We investigate the accountability role by examining the association between governance structures and abnormal accruals, and the value creation role by investigating the association between abnormal accruals predicted by governance structures and future performance. We differentiate between governance mechanisms that have direct roles in the financial reporting process (audit related governance structures) from mechanisms that have indirect roles (non-audit related governance structures). Our evidence suggests governance attributes important to financial reporting are the existence of independent and active audit committee and board independence. Also, we show that both audit and non-audit related governance structures are value enhancing.

We examine the twin roles of accountability and value creation of corporate governance in the context of financial reporting. We investigate the accountability role by examining the association between governance structures and abnormal accruals. We differentiate governance mechanisms that have direct roles in the financial reporting process (audit related governance structures) from mechanisms that have indirect roles (non-audit related governance structures). We find that independence of non-audit related governance structures is negatively associated with absolute abnormal accruals whilst internal audit related governance structures have an incremental and negative association with income increasing abnormal accruals. Our evidence indicates that the governance-abnormal accruals association is not symmetrical between income increasing and income decreasing abnormal accruals. We examine the value creation role of governance mechanisms by investigating whether abnormal accruals predicted by governance structures are associated with future performance (future cash flows). We find that abnormal accruals predicted by audit related (non-audit related) governance structures are positively associated with one-year (two-year ahead) future cash flows. Our evidence is consistent with the independence of non-audit governance mechanisms and the internal audit function of audit committees being important attributes of governance in financial reporting. Also, the evidence is consistent with both audit and non-audit related governance mechanisms being value enhancing to firms.

Responding to demands for greater transparency of executive compensation, the Australian accounting and corporate regulators have enhanced the statutory disclosure requirements for option grants to directors and the five most highly remunerated executives in recent years. Some firms have taken the lack of definitiveness, guidance and enforcement of the disclosure requirements as an opportunity for non-disclosure of the value of options granted to such individuals. The development of the international accounting standard on valuing and expensing share-based payments provided the impetus for Australia's corporate regulator to reiterate the statutory requirement to disclose the value of unvested option grants to directors and executives in annual reports. This study investigates the security price reaction associated with the regulator's announcement of the stringent enforcement of option value disclosures in 2003 annual reports. We document that firms with option plans exhibit significant positive abnormal returns around the announcement date. Furthermore, cross sectional variation in firms' abnormal returns is related to the existence of executive option plans but not firms' option value disclosure policy or the extent of options usage. The results, consistent with the governance improvement proposition, suggest investors' favorably view efforts to enhance and enforce the transparency of executive option grants by firms. However, investors' reactions are not conditional on firms' preexisting disclosure policies.