Christian Leuz

Earnings Management and Investor Protection: An International Comparison

This paper examines systematic differences in earnings management across 31 countries. We propose an explanation for these differences based on the notion that insiders, in an attempt to protect their private control benefits, use earnings management to conceal firm performance from outsiders. Thus, earnings management is expected to decrease in investor protection because strong protection limits insiders’ ability to acquire private control benefits, which reduces their incentives to mask firm performance. Our findings are consistent with this prediction and suggest an endogenous link between corporate governance and the quality of reported earnings.

The Importance of Reporting Incentives: Earnings Management in European Private and Public Firms

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IAS Versus U.S. GAAP: Information Asymmetry-Based Evidence from Germany's New Market

Motivated by the debate about globally uniform accounting standards, this study investigates whether firms using U.S. generally accepted accounting principles (GAAP) vis-à-vis international accounting standards (IAS) exhibit differences in several proxies for information asymmetry. It exploits a unique setting in which the two sets of standards are put on a level playing field. Firms trading in Germany’s New Market must choose between IAS and U.S. GAAP for financial reporting, but face the same regulatory environment otherwise. Thus, institutional factors such as listing requirements, market microstructure, and standards enforcement are held constant. In this setting, differences in the bid-ask spread and share turnover between IAS and U.S. GAAP firms are statistically insignificant and economically small. Subsequent analyses of ∗University of Pennsylvania. I gratefully acknowledge helpful comments from Anne d’Arcy, George Benston, Phil Berger, Gus De Franco, Robert Holthausen, Peter Knutson, Christian Laux, S. P. Kothari, Claudia Röder, Robert Verrecchia, and especially Ray Ball and the anonymous referee. This paper has benefited from presentations at the American Enterprise Institute, University of California at Berkeley, Columbia University, Harvard University, J. W. Goethe Universität Frankfurt, MIT, University of Michigan, Stanford University, Tilburg University, the EAA Meetings (Munich) and the EFA Meetings (Barcelona). I would also like to thank Uwe Schweickert (Deutsche Börse), Peter Gomber (Deutsche Börse), Jörg Hueber (KPMG), Rainer Jäger (PWC), and IBES for generously providing data for this study, and Tobias Herwig for his excellent research assistance. I also gratefully acknowledge financial support by the Wharton Electronic Business Initiative (WeBI).

Adopting a Label: Heterogeneity in the Economic Consequences Around IAS/IFRS Adoptions

This study examines liquidity and cost of capital effects around voluntary and mandatory IAS/IFRS adoptions. In contrast to prior work, we focus on the firm-level heterogeneity in the economic consequences, recognizing that firms have considerable discretion in how they implement the new standards. Some firms may make very few changes and adopt IAS/IFRS more in name, while for others the change in standards could be part of a strategy to increase their commitment to transparency. To test these predictions, we classify firms into ‘label’ and ‘serious’ adopters using firm-level changes in reporting incentives, actual reporting behavior, and the external reporting environment around the switch to IAS/IFRS. We analyze whether capital-market effects are different across ‘serious’ and ‘label’ firms. While on average liquidity and costs of capital often do not change around voluntary IAS/IFRS adoptions, we find considerable heterogeneity: ‘Serious’ adoptions are associated with an increase in liquidity and a decline in cost of capital, whereas ‘label’ adoptions are not. We obtain similar results when classifying firms around mandatory IFRS adoption. Our findings imply that we have to exercise caution when interpreting capital-market effects around IAS/IFRS adoption as they also reflect changes in reporting incentives or broader changes in firms’ reporting strategies, and not just the standards.

Different Approaches to Corporate Reporting Regulation: How Jurisdictions Differ and Why

This paper discusses differences in countries’ approaches to reporting regulation and explores the reasons why they exist in the first place as well as why they are likely to persist. I first delineate various regulatory choices and discuss the tradeoffs associated with these choices. I also provide a framework that can explain differences in corporate reporting regulation. Next, I present descriptive and stylized evidence on regulatory and institutional differences across countries. There are robust institutional clusters around the world. I discuss that these clusters are likely to persist given the complementarities among countries’ institutions. An important implication of this finding is that reporting practices are unlikely to converge globally, despite efforts to harmonize reporting standards. Convergence of reporting practices is also unlikely due to persistent enforcement differences around the world. Given an ostensibly strong demand for convergence in reporting practices for globally operating firms, I propose a different way forward that does not require convergence of reporting regulation and enforcement across countries. The idea is to create a “Global Player Segment” (GPS), in which member firms play by the same reporting rules and face the same enforcement. Such a segment could be created and administered by a supra-national body like IOSCO.

Adopting a Label: Heterogeneity in the Economic Consequences Around IAS/IFRS Adoptions: adopting a label

This study examines liquidity and cost of capital effects around voluntary and mandatory IAS/IFRS adoptions. In contrast to prior work, we focus on the firm‐level heterogeneity in the economic consequences, recognizing that firms have considerable discretion in how they implement the new standards. Some firms may make very few changes and adopt IAS/IFRS more in name, while for others the change in standards could be part of a strategy to increase their commitment to transparency. To test these predictions, we classify firms into “label” and “serious” adopters using firm‐level changes in reporting incentives, actual reporting behavior, and the external reporting environment around the switch to IAS/IFRS. We analyze whether capital‐market effects are different across “serious” and “label” firms. While on average liquidity and cost of capital often do not change around voluntary IAS/IFRS adoptions, we find considerable heterogeneity: “Serious” adoptions are associated with an increase in liquidity and a decline in cost of capital, whereas “label” adoptions are not. We obtain similar results when classifying firms around mandatory IFRS adoption. Our findings imply that we have to exercise caution when interpreting capital‐market effects around IAS/IFRS adoption as they also reflect changes in reporting incentives or in firms’ broader reporting strategies, and not just the standards.

An International Comparison of Accounting-Based Payout Restrictions in the United States, United Kingdom and Germany

Agency theory shows that payout constraints can play an important role in debt contracting and mitigating debt-related incentive problems. In this paper, we compare how, empirically, corporations in the UK, the US and Germany are restricted in their ability to pay dividends (and other forms of payouts) to shareholders. Our study is novel in two respects: First, although there is ample evidence on the use of accounting-based payout restrictions in US debt contracts, and some evidence in the UK, there are no comparable studies on accounting- based payout constraints in German debt contracts. Second, we include debt contracts as well as regulation on dividends in the comparison to highlight the interdependencies between mandated and contractual payout restrictions. Despite marked institutional differences between the US, the UK and Germany, our comparison demonstrates that corporations are restricted in a similar fashion in all three countries. This holds for the shape of the dividend restrictions based on accounting numbers as well as some key accounting principles determining net earnings and other accounting numbers used in payout restrictions. We find that differences mainly exist with regard to the origin of the restrictions. In Germany, dividend restrictions are predominantly mandated; in the UK, mandated restrictions are supplemented by debt covenants. In the US, dividend restrictions follow primarily from debt contracting. By integrating contractual provisions as well as regulation on dividends, our comparison provides additional insights into the debt contracting process and offers a more complete picture than previous studies.

Capital-Market Effects of Securities Regulation: Prior Conditions, Implementation, and Enforcement

We examine the capital-market effects of changes in securities regulation in the European Union (EU) aimed at reducing market abuse and increasing transparency. To estimate causal effects for the population of EU firms, we exploit that for plausibly exogenous reasons, like national legislative procedures, EU countries adopted these directives at different times. We find significant increases in market liquidity, but the effects are stronger in countries with stricter implementation and traditionally more stringent securities regulation. The findings suggest that countries with initially weaker regulation do not catch up with stronger countries, and that countries diverge more upon harmonizing regulation.

Proper Inferences or a Market for Excuses? The Capital-Market Effects of Mandatory IFRS Adoption

Barth and Israeli (2013) raise five serious concerns regarding the research design and interpretation of Christensen, Hail, and Leuz (2013). They claim: (i) the evidence stands in stark contrast to Daske, Hail, Leuz, and Verdi (2008) and fails to replicate its prior findings; (ii) the research design using fixed effects leaves out main effects and two-way interactions which likely biases the estimated liquidity effects around IFRS adoption and changes in enforcement; (iii) the vast majority of sample observations do not contribute to the identification which is misleading in terms of the scope and the conclusions that can be drawn from the study; (iv) the timing of IFRS adoption and enforcement changes is measured imprecisely leading to low power tests; and (v) the evidence from Japan is irrelevant to the study. In this note, we show that all five claims are incorrect or misleading. Our discussion also more broadly describes how to properly interpret the fixed-effect specifications in Christensen, Hail, and Leuz (2013). Since studies in accounting, finance, and economics make extensive use of fixed-effect models, a correct understanding of this research design is important to avoid interpretational mistakes. More generally, we discuss that proper empirical identification and inferences are important to international accounting and IFRS studies so that this area of research does not become a market for excuses.

The Twilight Zone: OTC Regulatory Regimes and Market Quality

Studying a comprehensive sample of stocks from the U.S. OTC market, we show that this market is a large and diverse trading environment with a rich set of regulatory and disclosure regimes, comprising venue rules and state laws beyond SEC regulation. We exploit this institutional richness to show that OTC firms subject to stricter regulatory regimes and disclosure requirements have higher market quality (higher liquidity and lower crash risk). Our analysis points to an important trade-off in regulating the OTC market and protecting investors: lowering regulatory requirements reduces the compliance burden for smaller firms, but it also reduces market quality. Received July 26, 2013; editorial decision July 8, 2017 by Editor Itay Goldstein.