Erik Peek

Creditors' and Shareholders' Reporting Demands in Public Versus Private Firms: Evidence from Europe

In this study we investigate whether the importance of accounting information in contracting and communication with shareholders and creditors affects earnings timeliness in publicly disclosed general-purpose financial statements. To operationalize the relationship between timeliness demands and the importance of accounting information to shareholders and creditors, we compare the (asymmetry in) earnings timeliness of public firms with that of private firms. We attribute public versus private firm differences in timeliness to shareholders’ demands when a country’s institutions provide strong investor protection. Similarly, we attribute these differences to creditors’ demands when the institutions provide strong creditor protection. Our analysis of public and private firms in 13 Western European countries suggests that creditors and shareholders have different timeliness demands. In particular, we find that the public versus private firm difference in asymmetric timeliness is not associated with a country’s degree of investor protection but positively associated with a country’s degree of creditor protection. The results further suggest that shareholders demand symmetric rather than asymmetric timeliness. An important implication of our study is that general-purpose financial statements are responsive to creditors’ reporting demands, which contrasts with the idea that these — primarily private — creditors would use special-purpose reports.

Investor Reactions to PCAOB Inspection Reports

This study examines whether PCAOB inspection reports succeed in providing a meaningful signal of audit quality. We find a statistically and economically significant market response to the issuances of 224 first-round and 134 second-round inspection reports between January 2005 and March 2010, indicating that inspection reports have information content. Moreover, the observed market response is systematically associated with cross-sectional variation in report-specific determinants of inspection report informativeness, indicating that the market response can be reliably attributed to the information in the inspection report. We also find that at least part of the market response to the publication of PCAOB inspection reports can be attributed to revisions in investors’ beliefs about accounting information quality. This paper takes a first step to assess the informative value of the PCAOB inspection reports to investors, who could be regarded the ultimate consumers of the audit. It also contributes to the literature on the value of the audit by providing evidence that a commonly available signal of audit quality has an economically significant value effect.

An Empirical Analysis of the Role of Risk Aversion in Executive Compensation Contracts

This paper empirically tests the principal-agent model prediction that the use of performance measures for incentive purposes is affected by the agent’s risk aversion. We find that the use of both accounting and market performance measures in executive compensation contracts decreases as the level of risk aversions increases. We further find that agent-specific characteristics, i.e., risk aversion, become more important in designing executive compensation contracts when performance measures are less useful due to measure-specific characteristics.

Discussion—An Empirical Analysis of CEO Risk Aversion and the Propensity to Smooth Earnings Volatility

In his study, Abdel-khalik (2007) examines the conceptual relationship between CEO risk aversion and performance volatility. In particular, the study predicts that the more risk averse a CEO is, the greater is her or his tendency to smooth firm performance. The author uses two operational variables for CEO risk aversion: CEO wealth and the percentage of CEO compensation that is “at risk” (estimated by instrumental variables). Under the assumption that these variables accurately measure CEO risk aversion, the empirical tests confirm that firms with more risk-averse CEOs have less volatile earnings and cash flows. The study contributes to the literature in a number of ways. First, it provides a new explanation for why firms smooth performance. Second, it sheds further light on how CEOs’ wealth and “risky” compensation affect their incentives for risk-taking. Third, it stimulates our thinking about how CEO wealth-and more specifically CEOs’ decreasing marginal utility over wealth-may affect the incentive effects of all monetary rewards, including cash bonuses and stock options. In this discussion, I focus on four issues. First, I show that in examining the relationship between CEO risk aversion and performance volatility, it may be more appropriate to think in terms of relative risk aversion rather than absolute risk aversion. Second, I argue that the author’s assumption about CEOs’ decreasing marginal utility over wealth is not sufficient to explain the hypothesized negative relationship between CEO wealth and performance volatility. Instead, it is also necessary to explicitly describe the costs of smoothing and how these relate to CEO wealth. I analyze whether the convexity of CEOs’ compensation contracts could create costs that, together with the assumption of decreasing marginal utility over wealth, explain the hypothesized relationship. Third, I question whether a strong causal link between CEO wealth and performance volatility is also logical in a world in which one important objective of CEO compensation contracts is to induce optimal risk-taking. Also, I describe one alternative