Kathy R. Petroni

What Insiders Know About Future Earnings and How They Use it: Evidence from Insider Trades

This paper provides evidence that insiders possess, and trade upon, knowledge of specific and economically-significant forthcoming accounting disclosures as long as two years prior to the disclosure. Stock sales by insiders increase three to nine quarters prior to a break in a string of consecutive increases in quarterly earnings. Insider stock sales are greater for growth firms, before a longer period of declining earnings, and when the earnings decline at the break is greater. Consistent with avoiding an established legal jeopardy, there is little abnormal selling in the two quarters immediately prior to the break.

Optimistic reporting in the property- casualty insurance industry

Abstract This paper examines the response of managers of property-casualty insures to the differential costs and benefits of understanding the liability for outstanding claim losses. The primary hypothesis is that the incentive to underestimate the liability is a decreasing function of the insurers actual financial position. Empirical tests suggest that managers of financially weak insurers bias downward their estimates of claim loss reserves relative to other insurers after controlling for exogenous economic factors. Evidence also reveals that managers of insurers ‘close’ to receiving regulatory attention understate reserve estimates to an even larger degree.

Fair Values of Equity and Debt Securities and Share Prices of Property-Liability Insurers

This study analyzes the relation between fair values of equity and fixed maturity debt securities and share prices of property-liability insurers. We find that property- liability share prices can be explained by fair values of equity investments and U.S. Treasury investments, even after controlling for historical costs. Fair value disclosures for other types of investment securities (e.g., municipal and corporate bonds) do not explain share prices beyond historical costs. Our results suggest that the reliability of fair value estimates for different types of securities affects the value-relevance of related disclosures.

Errors in accounting estimates and their relation to audit firm type

We assess accuracy and bias in the accounting estimate of outstanding claim losses reported in the audited statutory financial statements of 197 property-casualty insurers during 1979-1983. Our analysis shows that claim loss estimation errors exceed materiality in over 90% of our sample. For errors that exceed materiality, the average absolute error, determined with the benefit of hindsight, is over 17 times materiality and over 8% of assets. Regression models generally do not support differences in estimate accuracy or bias across audit firm type, and therefore suggest that estimation error characteristics are not a basis for differentiating among auditors.

Discretionary and Non-Discretionary Revisions of Loss Reserves by Property-Casualty Insurers: Differential Implications for Future Profitability, Risk and Market Value

We develop and estimate a PC-industry specific model in which proxies for both discretion and non-discretion are used to partition loss reserve revisions into discretionary and non-discretionary components. The use of such proxies enables us to test directional hypotheses about the relations between the revision components and future profitability, risk and market value. We predict and find that discretionary revisions are negatively associated with future profitability, positively associated with firm risk, and negatively associated with market-to-book ratios. We predict and find that non-discretionary revisions are positively associated with future profitability and risk but are not associated with market-to-book ratios.

Taxation Regulation and the Organizational Structure of Property-Casualty Insurers

This study investigates the effects of state taxes and regulation on an organizational structure decision for expanding property-casualty insurers (subsidiary versus license). Tests are conducted of the relation between the organizational structure of 2335 property-casualty insurers and state tax and regulatory conditions in 1991. Evidence is provided that property-casualty insurers structure their cross-state expansion to mitigate both state tax and regulatory costs.

Governance Problems in Closely-Held Corporations

A major governance problem in closely held corporations is the majority shareholders’ expropriation of minority shareholders. As a solution, legal and finance research recommends that the main shareholder surrender some control to minority shareholders via ownership rights. We test this proposition on a large data set of closely held corporations. We find that shared-ownership firms report a substantially larger return on assets and lower expense-to-sales ratios. These findings are robust to institutionally motivated corrections for endogeneity of ownership structure. We provide evidence on the presence of governance problems and the effectiveness of shared ownership as a solution in settings characterized by illiquidity of ownership.

Accounting Estimation Disclosures and Firm Valuation in the Property-Casualty Insurance Industry

Accounting earnings are subject to estimation error. Under GAAP, corrections to estimates are included in current and future earnings, but characteristics of previous errors are not disclosed. An exception exists for property-casualty insurers. SEC mandated disclosures reveal errors in previous claim expense estimates as well as the correction for those errors in current earnings. An important issue is whether these detailed disclosures are value-relevant. We examine the information content of the SEC disclosures by testing their valuation implications. We investigate whether estimation errors in previous earnings influence the reflection of current earnings in price. Results suggest that investors use these disclosures in valuation decisions. Insurers with more variable estimation errors have smaller earnings response coefficients. Apparently investors assume that the precision of previous earnings is indicative of the precision in current earnings. We also find that stock returns are associated with revisions of previous estimations included in current earnings. Our research has implications for regulation, suggesting that similar disclosures should be considered for other estimates.

Managing Annual Accounting Reports to Avoid State Taxes: An Analysis of Property-Casualty Insurers

We hypothesize that, in their annual accounting reports, insurers allocate premiums and losses from multistate policies to reduce total state taxes. To test this prediction, we examine firm-level data, collected from the publicly-available statutory reports used to compute tax bases and filed with each state government. If insurers manage allocations to avoid taxes, we anticipate an inverse relation between the tax rate and the premium-to-loss ratio, which is the industrys standard measure of the price of a unit of coverage. Firm-specific prices are computed using premium and loss information from the annual regulatory reports filed with each state in which an insurer underwrites. Primary analysis is conducted on 12,573 insurer-state observations from 1993. We find the premium-to-loss ratio is decreasing in state tax rates, consistent with multistate insurers managing their annual accounting reports to shift premiums (losses) to more (less) favorably taxed states.

On Academic Rankings, Unacceptable Methods, and the Social Obligations of Business Schools

Inspired by recent discussions of the systematic costs that external rankings impose on academic institutions, and the undeniable shifts in the landscape of institutional data, a concerted and pragmatic re-evaluation of ranking efforts has begun. In this study, multiple administrators and researchers representing both public and private institutions across the United States weigh in on these issues. While reaffirming the social contract we hold with society, we argue that the fundamental methodological shortcomings of existing rankings, and ultimately any ordinal ranking system, limit the value of current rankings. These shortcomings emerge from the conceptualization and the architecture of comparisons, and are evident in survey designs, data collection methods, and data aggregation procedures. Our discussion continues by outlining the minimal requirements that a socially responsible, transparent, flexible, and highly representative rating (vs. ranking) approach should employ. Ultimately, we call on academic institutions and organizing bodies to take a collective stand against existing rankings and to embrace the strategic use of multidimensional alternatives that faithfully serve prospective students, parents, and other key stakeholders. We conclude with a number of suggestions and opportunities for practice-oriented research in the decision sciences aimed to support this fundamental shift in evaluative framing.