Jeffrey J. Burks

Competition and Voluntary Disclosure: Evidence from Deregulation in the Banking Industry

We exploit the relaxation of interstate bank branching restrictions in the 1990s to examine how the threat of new entrants aects incumbents’ voluntary disclosure choices. The Interstate Banking and Branching Eciency Act relaxed interstate banking and branching restrictions, thereby increasing competitive entry threats. The Act was implemented over several years and to varying degrees by dierent states, allowing us to identify the eect of changes in potential entry on the voluntary disclosure decisions of both public and private banks. Controlling for changes in actual entry and changes in state-level economies, we find that increases in the threat of new entrants are associated with increases in the level of voluntary disclosure as measured by press releases. Our results are consistent with theoretical predictions that higher levels of entry threats lead to higher levels of disclosure.We use the relaxation of interstate branching restrictions under the Interstate Banking and Branching Efficiency Act (IBBEA) to examine how increases in competition affect incumbents’ voluntary disclosure choices. States implemented the IBBEA over several years and to varying degrees, allowing us to identify the effect of increased competition on the voluntary disclosure decisions of both public and private banks. We find that increases in competition are associated with an increase in press releases. Overall, press releases become more negative in tone as entry barriers decrease. However, disclosures by public banks and by banks issuing equity become incrementally positive in tone when entry barriers decrease. Thus, the increase in disclosure is consistent with a dominant incentive to deter entry via negative information, which is mitigated by an incentive to communicate positive information to investors.

The Market Pricing of Other-Than-Temporary Impairments

____________________________________________________________________________ Abstract: When the fair value of an investment security falls below amortized cost and there is significant doubt that the firm can hold the security until the fair value recovers, managers must recognize an other-than-temporary impairment (OTTI) in net income. Thus, OTTIs represent managers’ attempts to distinguish more certain from less certain losses. We find that the distinctions between more and less certain losses made by commercial bank managers during the financial crisis were informative to investors. Investors were unable to fully anticipate quarterly OTTI charges, and priced OTTIs incrementally to reported fair value gains/losses. We also find that the recent OTTI bifurcation rule isolated a useful component of OTTIs for investors. Our results suggest that investors do not assign the same valuation multiple to all types of unrealized security losses, even though unrealized losses are commonly thought of as transitory items. The results inform recent standard-setting initiatives to expand disclosure about the reasons for changes in fair value.

The Materiality of Accounting Errors: Evidence from SEC Comment Letters: The Materiality of Accounting Errors: Evidence from SEC Comment Letters

To gain unique insights into the materiality judgments of financial statement preparers, we examine firms’ responses to SEC comment letters that inquire about accounting error materiality. We document that preparers typically use multiple quantitative benchmarks in their materiality analyses and frequently acknowledge departures from the traditional “5 percent of earnings” rule of thumb when deeming errors immaterial. These departures are explained by asserting that the benchmark hurdle is abnormally low and/or that the error does not consistently exceed the hurdle across affected periods. We also document substantial variation in the extent to which qualitative factors are mentioned as considerations. Leveraging these comment letter insights, we propose and test a parsimonious model of materiality judgments that uses data commonly available to researchers. Our tests affirm that a materiality benchmark based on the three-year average of earnings predicts actual materiality judgments better than quantitative proxies used in prior research. Further, we find that including both a control for financial statement misclassification errors and the existence of multiple errors dramatically improves model explanatory power. Our findings shed new light on firms’ complex and nuanced materiality evaluations and help to improve the materiality proxies used in empirical archival research.

Auditor Dismissals: Opaque Disclosures and the Light of Timing

Motivated by the ambiguity of auditor dismissals and dismissal disclosures, this study informs about an alternative signal – the timing of the dismissal – for inferring the causes and implications of dismissals. Dividing the reporting year into four periods when dismissals can occur, we find that the probabilities of future restatements and material weaknesses generally increase across the four dismissal periods. Analyses suggest that the timing patterns are caused by burgeoning but undisclosed conflicts between the client and the outgoing auditor, rather than by transition difficulties involving the new auditor. We find that the most common time of year to dismiss an auditor is in the 30 days following the 10-K filing date. Dismissals that occur even shortly after this period significantly increase the probability that the firm will later reveal a material weakness in internal controls; dismissals occurring after the second fiscal quarter significantly increase the probability that the firm will later reveal a restatement; and dismissals that occur during the fourth quarter or year-end audit fieldwork period increase the likelihood of future delistings. This predictive ability of dismissal timing is incremental to information in the dismissal disclosure and other predictors. Furthermore, we find that the negative circumstances discussed in dismissal disclosures have no incremental predictive power for future restatements and delistings, suggesting that dismissal timing represents a more reliable signal about the motivation behind the dismissal than does the dismissal disclosure itself.