Edward J. Riedl

Mandatory IFRS Adoption and Financial Statement Comparability

This study examines whether mandatory adoption of International Financial Reporting Standards (IFRS) leads to capital market benefits through enhanced financial statement comparability. UK domestic standards are considered very similar to IFRS (Bae et al. 2008), suggesting any capital market benefits observed for UK-domiciled firms are more likely attributable to improvements in comparability (i.e., better precision of across-firm information) than to changes in information quality specific to the firm (i.e., core information quality). If IFRS adoption improves financial statement comparability, we predict this should reduce insiders’ ability to benefit from private information. Consistent with these expectations, we find that abnormal returns to insider purchases ― used to proxy for private information ― are reduced following IFRS adoption. Similar results obtain across numerous subsamples and proxies used to isolate IFRS effects attributable to comparability. Together, the findings are consistent with mandatory IFRS adoption improving comparability and thus leading to capital market benefits by reducing insiders’ ability to exploit private information.

Market Reaction to Mandatory Nonfinancial Disclosure

This paper examines the equity market reaction to events associated with the passage of a directive in the European Union (EU) mandating increased nonfinancial disclosure, which affected firms listed on EU exchanges or having significant operations in the EU. The mandated disclosures relate to firms’ environmental, social, and governance performance. Using a cross-country sample, we first document an on average negative market reaction to events increasing the likelihood of passage for this regulation, consistent with equity investors anticipating net costs with the directive’s passage for most firms. Exploiting cross-sectional variation, we then predict and document a more negative market reaction for firms having: (i) low pre-directive nonfinancial disclosure levels, consistent with investors anticipating these future disclosures to reveal worse-than-expected news; (ii) weaker performance on nonfinancial issues, consistent with expectations for these firms to incur future costs to internalize current externalities; and (iii) lower ownership by institutional asset owners, consistent with such investors demanding further disclosures than mandated by the directive. The average market reaction for firms with superior nonfinancial performance and disclosure in our sample is positive, suggesting that investors expect net benefits from the passage of the directive for these firms.

Discussion of “Regulatory Incentives for Earnings Management through Asset Impairment Reversals in China”

Shimin Chen, Yuetang Wang, and Ziye Zhao (2009) examine motivations for managers of Chinese-listed firms to report asset impairment reversals. The study documents that the reporting of such reversals reflects incentives to avoid delisting from Chinese stock exchanges and that stronger monitoring mechanisms attenuate this opportunistic reporting. The study exploits a unique feature of financial reporting within China, which allows large sample investigation of impairment reversals. I discuss the studys strengths, note some limitations on the analyses and inferences, and suggest recommendations for future research.

Sentiment, Loss Firms, and Investor Expectations of Future Earnings

This study investigates the mispricing of market-wide investor sentiment by exploring the relation between sentiment and investor expectations of future earnings. Prior research argues that sentiment-driven mispricing should be most pronounced for hard-to-value firms, such as those reporting losses (Baker and Wurgler 2006). Using investor expectations of future earnings, we provide empirical results consistent with this behavioral finance theory. In particular, we predict and find that investors perceive losses to be more (less) persistent during periods of low (high) sentiment; that investors perceive profit persistence to be lower (higher) during periods of low (high) sentiment; and that the effects appear stronger for loss firms relative to profit firms. In addition, we document predictable cross-sectional variation within losses, with the mispricing mitigated for losses associated with activities expected to generate future benefits: R&D, growth, large negative special items, and severe financial distress. Overall, our results document a new and important channel—investor expectations of future earnings—to explain sentiment-driven mispricing, particularly for loss firms.

Do Boards Exercise Discretion to Reduce Costly Ex Post Settling Up

This paper examines whether boards exercise discretion to reduce costly ex post settling up of having to recover CEO cash compensation for unrealized gains that fail to materialize. We predict and support three empirical findings. First, we document greater cash pay-performance sensitivity for firms exhibiting unrealized losses (proxied via negative stock returns) relative to firms with unrealized gains (proxied via positive stock returns). We use a sample of firms selected to maximize their likelihood of falling within the incentive zone; this research design addresses concerns in the literature regarding possible attribution of findings to mechanical application of bonus formula. Second, we find that future salary revisions are more sensitive to unrealized losses than to unrealized gains, consistent with Fama’s (1980) notion of ex post settling up occurring via salary revisions. Finally, we provide cross-sectional evidence that this asymmetric sensitivity is greater for firms with stronger corporate governance, less timely accounting earnings, and a larger proportion of total pay in the form of cash compensation.