We examine the role of firms’ internal information quality (IIQ) in designing executive incentive contracts. We find that higher IIQ is associated with a greater number of performance metrics and increased dissimilarity from peer firms’ contracts, particularly along non-financial dimensions. These relations hold when we examine changes in IIQ that are likely induced by plausibly exogenous shifts in two financial accounting standards. We further find that incorporating more numerous and more dissimilar non-financial metrics is positively associated with future profitability, but only when IIQ is high. Our results are consistent with the hypothesis that the quality of a firm’s internal information is a friction in performance metric selection.

This paper assesses the importance of context—both observed and unobserved—in shaping a firm's governance choices. We show that observed context predicts significant variation in out-of-sample governance choices. However, the impact of context is highly nonlinear and incorporating nonlinearities substantially improves predictive accuracy. We also propose a method to obtain information about unobserved context and show that utilizing the information further increases predictive accuracy. Moreover, we construct a new measure of governance quality, context consistent governance (CCG), which outperforms unconditional governance indices and highlights the value of integrating context into the measurement of corporate governance.

We develop an algorithm that mimics the relative performance evaluation (“RPE”) peer selection process used for CEOs’ incentive plans. Our algorithm constructs the portfolio of peer firms that exhibits the highest in-sample stock performance correlation with the focal firm, which we then use as a counterfactual to better understand firms’ actual RPE choices. We find that most firms use RPE in a manner consistent with optimal risk-sharing; firms are more likely to use RPE when a viable peer group is available, and they construct peer groups that are about as effective as possible at shielding CEOs from outcome risk. However, some firms choose not to use RPE even when an effective peer group is available; non-reliance on RPE in these cases appears to be related to competitive sabotage concerns. Other firms choose to use RPE, but benchmark against a peer group that is not effective from a risk-sharing perspective; reliance on RPE in these cases appears to be related to rent-extraction. Collectively, our study improves the understanding of firms’ ex ante ability to construct an effective peer group, and thereby sheds new light on why firms do—and perhaps more importantly, why some firms do not—use relative performance evaluation in their CEOs’ incentive plans.

We use observed insider trading data to estimate the start and end points of quarterly open trading windows, and find that voluntary insider trading restrictions reflect concerns about information asymmetry, the strength of external monitoring, and executives' liquidity needs. We also identify the existence and determinants of event-specific "ad hoc blackout windows," where insiders are largely prohibited from trading when firms are engaged in material corporate events. Although these windows are associated with contemporaneously higher information asymmetry, they are followed by increased trading volume and higher stock returns, suggesting investors may not immediately incorporate information conveyed by these unscheduled restrictions.

This paper provides a framework for the joint design of board structure and executive compensation. The conventional view is that as a board monitors more intensely, high-powered equity incentives are less needed. However, to monitor effectively, the board requires information from the CEO, and without proper incentives, the CEO may not share the information. We formalize this intuition and show that CEO equity incentives are determined jointly with the monitoring level and advising expertise of the board. In equilibrium: board expertise and equity incentives are substitutes (complements) when the board has high (low) monitoring; equity incentives may be positively or negatively related to board monitoring, depending on the nature of board advice; and boards with greater monitoring also have higher expertise. Our analysis sheds light on the strong correlations between board structure and executive compensation observed in empirical studies and offers new testable predictions about the clustering of governance mechanisms.

We investigate whether aggressive tax planning firms have a less transparent information environment. Although tax planning provides expected tax savings, it can simultaneously increase the financial complexity of the organization. And to the extent that this greater financial complexity cannot be adequately clarified through communications with outside parties, such as investors and analysts, transparency problems can arise. Our investigation of the association between tax aggressiveness and information asymmetry, analysts' forecast errors, and earnings quality suggests that aggressive tax planning is associated with lower corporate transparency. We also find evidence that managers at tax-aggressive firms attempt to mitigate these transparency problems by increasing various tax-related disclosures. Overall, our results suggest that firms face a trade-off between tax benefits and financial transparency when choosing the aggressiveness of their tax planning.

Given CEOs’ substantial equity portfolios, much recent literature on CEO incentives regards cash-based bonus plans as largely irrelevant, begging the question of why nearly all CEO compensation plans include such bonuses. We develop a new measure of bonus plan incentives and show that performance sensitivities are much greater than prior estimates. We also test hypotheses regarding the role of bonuses in providing executives with individualized and team incentives. We find little evidence supporting the individualized incentives hypotheses but find consistent evidence that bonus plans appear to be used to encourage mutual monitoring and to facilitate coordination across the top management team as a whole.

Prior research has examined the firm-level performance implications of “busy” boards. Firm-level analysis, however, masks important heterogeneity in the time constraints and expertise of individual busy directors. We develop and validate shareholder voting as a proxy for shareholders’ satisfaction. Our director-specific tests provide compelling evidence that the potential costs of busy directors outweigh their benefits. At the same time, we uncover new sources of heterogeneity among busy directors. For example, the downsides are more pronounced for directors who sit on boards where fiscal year-ends cluster in the same month. Our analysis highlights the role of shareholder voting in board composition research.

ABSTRACT We analyze a model of voluntary disclosure where investors impose a discount for uncertainty about firm value. We find that a commitment to conservative reporting, defined as a requirement that firms disclose bad realizations of economic events, results in firm prices being higher, on average. Intuitively, in the absence of mandatory disclosure requirements, managers have incentives to disclose voluntarily information about good realizations and withhold information about bad realizations. Thus, a financial reporting system that requires timely reporting of low realizations results in lower uncertainty and higher firm value. Importantly, we interpret a commitment to conservative reporting to include not only reported earnings, but, more broadly, any mechanism that commits managers to disclose, such as required footnotes and explanations in corporate filings. Beyond a capital market setting, our model also applies to other adverse selection settings, including governance, litigation, and debt contracting, where timely disclosure of bad news improves efficiency. JEL Classifications: M4.

Christensen et al. (2017) provide evidence that the dissemination of mine safety information in SEC filings has real effects on mine safety. We discuss the extent to which Christensen et al.’s results generalize to a research question that we consider of broader interest to accounting researchers, specifically where and when mandated disclosure in SEC filings can increase the dissemination of information. We also discuss identification of causal effects and generalizability concerns more broadly in the context of large sample studies and quasi-natural experiments, as well as potential ways authors might address these concerns in accounting research.

Given the substantial stock and option portfolios held by most CEOs, much recent literature on CEO incentives regards cash-based bonus plans as largely irrelevant. This begs the question of why nearly all CEO compensation plans include such bonuses. We re-examine the financial incentives provided by bonuses and their role in executive compensation packages. Using detailed data on bonus-plan performance measures, we document that the pay-performance sensitivity of CEO cash compensation is much greater than prior estimates and that cash-based pay provides a substantial portion of many CEOs’ total financial incentives early in their tenure. However, we find little evidence that boards adjust bonus plans over time in response to CEO-specific characteristics, such as the evolution of CEO equity holdings or liquidity needs. This “stickiness” results in growing disparity between the magnitudes of cash- and equity portfolio-based incentives over a typical CEO’s tenure. At the same time, we find evidence that bonus plans appear to consider liquidity and incentive issues for lower-level executives, leading us to conclude that cash-based plans are designed mainly for the overall management team, as well as perhaps new CEOs.

The authors review recent literature on the role of corporate financial reporting and transparency in reducing governance-related agency conflicts between managers, directors, shareholders, and other stakeholders — most notably financial regulators — and suggest some avenues for future research. Key themes include the endogenous nature of governance mechanisms with respect to information asymmetry between contracting parties, the heterogeneous nature of the informational demands of contracting parties, and the corresponding heterogeneity of the associated governance mechanisms. The authors also emphasize the role of credible commitment to financial reporting transparency in facilitating informal multiperiod contracts among managers, directors, shareholders, and other stakeholders. Finally, they discuss the importance of regulatory supervision and oversight as a class of governance mechanisms that is particularly important for banks and financial institutions.

1. INTRODUCTION We review the recent corporate governance literature that examines the role of financial reporting in resolving agency conflicts among a firm's managers, directors, and capital providers. We view governance as the set of contracts that help align managers' interests with those of shareholders, and we focus on the central role of information asymmetry in agency conflicts between these parties. In terms of the firm-specific information hierarchy, the literature typically views management as the most informed, followed by outside directors, then shareholders. We discuss research that examines the role of financial reporting in alleviating these information asymmetries and the role that financial reporting plays in the design and structure of incentive and monitoring mechanisms to improve the credibility and transparency of information. Most of this research is large-sample and does not pay particular attention to industry-specific characteristics that may influence a firm's governance structure. For example, the firm-specific governance structure and financial reporting systems of financial institutions and other regulated industries are expected to be endogenously designed. The design is also expected to be conditional on (in other words, take into account) the existence of certain external monitoring mechanisms (for example, regulatory oversight and constraints), which may either substitute for or complement internal mechanisms, such as the board. Similarly, the rationale for regulation in certain industries (for example, the existence of natural monopolies) is also expected to influence firms' governance structures. These and other differences between firms in different industries suggest that inferences drawn from studies spanning multiple industries may not necessarily hold for specific industries or research settings. (2) The same point can also be made about extrapolating inferences drawn from U.S. firms to their international counterparts. Different countries have their own (often unique) laws, regulations, and institutions that influence the design, operation, and efficacy of a firm's governance mechanisms as well as the output of its financial reporting system. We also highlight the distinction between formal and informal contracting relationships, and discuss how both play an important role in shaping a firm's overall governance structure and information environment. Formal contracts, such as written employment agreements, are often quite narrow in scope and are typically relatively straightforward to analyze. Informal contracts, govern implicit multiperiod relationships that allow contracting parties to engage in a broad set of activities for which a formal contract is either impractical or infeasible. For example, the complexity of the responsibilities and obligations of a firm's chief executive officer make it difficult to draft a complete state-contingent contract with the board that specifies appropriate actions under every possible scenario the firm could face. Consequently, although some CEOs have formal employment contracts, these contracts are necessarily incomplete and relatively narrow in scope. As a result, the board and the CEO develop informal rules and understandings that guide their behavior over time. Much of the governance literature emphasizes informal contracting based on signaling, reputation, and certain incentive structures. The general conclusion in this literature is that financial reporting is valuable because contracts can be more efficient when the parties commit themselves to a more transparent information environment. Another key theme of this article is that a firm's governance structure and its information environment evolve together over time to resolve agency conflicts. That is, certain governance mechanisms and financial reporting attributes work more efficiently within certain operating environments. Consequently, one should not necessarily expect to see every firm converge to a single dominant type of corporate governance structure or compensation contract, or to adopt a similar financial reporting system. …

Shareholder approval, as an ultimate mechanism of corporate governance, is often perceived as either perfunctory or beneficial. We provide evidence of a more nuanced view that emphasizes certain costs of shareholder approval, as well as managers’ attempts to circumvent these costs. Firms listed in major U.S. stock exchanges are subject to shareholder approval if they issue new shares of more than 20% of their existing shares outstanding. We examine the financing of acquisitions and find that a disproportionally large number of acquirers construct deals to issue new stock that is slightly less than 20%, thereby avoiding shareholder approval. This behavior suggests that managers do not perceive shareholder approval as perfunctory. Moreover, we find that acquirer announcement returns are greater for deals that avoid shareholder approval, suggesting that the circumvention of shareholder approval does not stem from managerial agency conflicts. Rather, managers may act in good faith to avoid the potential costs of shareholder approval. Our evidence suggests that managers structure deal financing to avoid shareholder approval when there is greater information asymmetry between managers and shareholders about the merits of the acquisition, as well as to reduce the duration and transaction costs associated with negotiating the deal. Our findings highlight the potential costs associated with shareholder empowerment and suggest a more balanced view of direct shareholder governance.

A growing literature documents that complex financial statements negatively affect the information environment. In this paper, we examine whether managers use voluntary disclosure to mitigate these negative effects. Employing cross-sectional and within-firm designs, we find a robust positive relation between financial statement complexity and voluntary disclosure. This relation is stronger when liquidity decreases around the filing of the financial statements, is stronger when firms have more outside monitors, and is weaker when firms have poor performance and greater earnings management. We also examine the relation between financial statement complexity and voluntary disclosure using two quasi-natural experiments. Employing a generalized difference-in-differences design, we find firms affected by the adoption of complex accounting standards (e.g., SFAS 133 and SFAS 157) increase their voluntary disclosure to a greater extent than unaffected firms. Collectively, these findings suggest managers use voluntary disclosure to mitigate the negative effects of complex financial statements on the information environment.

We review recent literature on the role of corporate financial reporting and transparency in reducing governance-related agency conflicts between managers, directors, shareholders, and other stakeholders — most notably regulators — and suggest some avenues for future research. Key themes include the endogenous nature of governance mechanisms with respect to information asymmetry between contracting parties, the heterogeneous nature of the informational demands of contracting parties, and the corresponding heterogeneity of the associated governance mechanisms. We also emphasize the role of credible commitment to financial reporting transparency in facilitating informal multi-period contracts among managers, directors, and shareholders. Finally, we discuss the importance of regulatory supervision and oversight as a class of governance mechanisms that are particularly important for banks and financial services firms.