Khondkar E. Karim

The influence of self-interest and ethical considerations on managers' evaluation judgments

Abstract Recent empirical studies support self-interest as the sole basis for economic decisions (as predicted by agency theory). However, cognitive moral development (CMD) theory suggests that decision makers will allow ethical/moral considerations to constrain their economic behaviour. The purpose of this study is to resolve the essential conflict between the tenets of agency theory and CMD theory. The results of a laboratory experiment suggest that both moral reasoning level and adverse-selection conditions (self-interest) can have a significant effect on managers’ project evaluation decisions. Specifically, managers are likely to continue a project that is expected to be unprofitable only when adverse selection conditions are present and moral reasoning level is low. Thus, agency theory may not be generalizable to accounting-based economic performance.

An examination of financial integration for the group of seven (G7) industrialized countries using an I( ) cointegration model

This study investigates financial cointegration of G7 equity markets. The term ‘international stock market integration’ refers to an area of research in financial economics that covers many different aspects of the interrelationships across equity markets. The cointegration of order two model, I(2), that was developed by Johansen is used to specify potential cointegration structure. The empirical validity of this economic model is investigated by employing monthly stock indexes of the Group of Seven (G7) from March 1978 through December 1997 on Morgan Stanleys Capital International (MSCI) indices. This monthly time series data is used to estimate the vector error correction model of order two (VECM(2)). The joint cointegration tests show that (at p<0.05) there is one common I(2) trend and two I(1) trends in the financial equity market returns of G7 countries. Potential explanations of these results and implications for portfolio diversification strategies are discussed.

The Association between Firm Characteristics and the Level of Environmental Disclosure in Financial Statement Footnotes

This paper examines factors that are associated with the level of a firms environmental disclosure in the footnotes of its annual report financial statements and its 10-K report filed with the Securities and Exchange Commission (SEC). The levels of environmental disclosure are measured using the Wiseman scale (Wiseman, 1982). An N-chotomous probit analysis is utilized where the level of disclosure is the dependent variable, and the independent variables are firm characteristics including: (1) institutional blockholder stock ownership, (2) amount of foreign concentration, (3) earnings volatility, (4) profitability, (5) leverage, (6) future need for debt financing, (7) firm size, and (8) industry membership. The results indicate that higher foreign concentration, and to some extent, higher earnings volatility are associated with less environmental disclosure. These results provide evidence that firms with higher foreign concentration are more reluctant to disclose environmental information because they are under higher scrutiny from other countries and the international community. Additionally, it is probable that firms with a more volatile earnings process are less willing to disclose potential environmental costs and obligations because these additional expenditures can have an especially adverse effect during low-earnings periods.

A signal detection theory approach to analyzing the efficiency and effectiveness of auditing to detect management fraud

The purpose of this paper is to apply signal detection theory (SDT) to the problem of detecting management fraud. The use of SDT methodology significantly strengthens understanding of the relationships among audit technology, base rates of management fraud, costs of Type I and Type II errors, extensions of audit procedures, and risk assessments prior and during the audit. The analysis suggests that the auditor must accept disproportionate false alarm rates in order to maintain audit effectiveness in the presence of management fraud. This condition becomes even stronger as the costs of Type II errors increase compared to costs of Type I errors. The study also provides policy implications for auditor practice and standard‐setters.

The association between disclosure level and information quality: voluntary management earnings forecasts

This study investigates the empirical association between managers information advantages and disclosure quality choice in the context of management earnings forecasts (MEF). The main hypothesis is that the quality of information available to managers is associated with cross-sectional differences in firm characteristics, and that managers information advantages determine four classes of forecast pattern: no disclosure, qualitative disclosure (open-ended interval estimate or general impression), range (close-interval estimate) forecasts and point estimate. Prior works were extended through utilization of a multi-level forecast precision model, and through comparison of selected firm characteristics in forecast years with non-forecast years. The major findings of this study are as follows. First, the results support the notion that managers are likely to select low-level disclosure precision as the magnitude of earnings volatility increases. Second, the findings indicate that the proportion of outside ownership is significantly associated with high-level forecast precision. Lastly, the results indicate the dispersion of analysts forecasts (before the MEF) is larger in the year of the MEF than in a non-forecast year. A discussion of the implications of these results is provided.

An Analysis of Efficiency and Effectiveness of Auditing to Detect Management Fraud: A Signal Detection Theory Approach

The purpose of this paper is to apply Signal Detection Theory (SDT) to the problem of detecting management fraud. The use of SDT methodology significantly strengthens our understanding of the relationships among audit technology, base rates of management fraud, costs of Type I and Type II errors, extensions of audit procedures, and risk assessments prior to and during the audit. The analysis indicates that the auditor must accept disproportionate false alarm rates in order to maintain audit effectiveness in the presence of management fraud. This condition becomes even stronger as the costs of Type II errors increase compared to costs of Type I errors. The study provides policy implications for auditor practice and standard?setters.

An Examination of the Relationship between Corporate Social Responsibility and Financial Performance: The Case of Chinese State-Owned Enterprises

Research in the field of corporate social responsibility (CSR) has grown exponentially in the last few decades. Nevertheless, significant debate remains about the relationship between CSR performance and corporate financial performance (CFP). This is particularly true for the case of Chinese state-owned enterprises (SOEs). The purpose of the current study is to empirically test the relationship between CSR and CFP. We use data for 66 Chinese SOEs listed on the Shanghai and Shenzhen stock exchanges. The results are interesting in that they are not consistent with similar studies using US and other Western market data. We find a significant negative relationship between CSR performance and CFP. The results are discussed in light of the preferential government treatment afforded to Chinese SOEs, and social welfare requirements imposed on such entities. Implications for Chinese policy-makers are discussed.

Board Structure and Audit Committee Monitoring Effects of Audit Committee Monitoring Incentives and Board Entrenchment on Audit Fees

Our study addresses two research questions. First, are audit fees related to the presence of common members in audit and compensation committees (committee overlap)? Second, are audit fees related to whether board membership is protected by the use of a staggered voting system (board classification)? Using a treatment effects model to control for endogeneity, we find a negative relationship between audit fees and committee overlap, which is consistent with the argument that committee overlap is associated with weak corporate governance and that in an environment with weak governance, monitoring efforts by the audit committee are similarly weak. We find a positive relationship between audit fees and board classification, indicating that firms with classified boards seek greater monitoring, which is consistent with the prior literature which suggests that such firms seek the “quiet life” and wish to avoid reporting-related problems.

Do characteristics of audit committees and board of directors influence earnings management

Earnings management has attracted much attention in this globalised economic environment due to large accounting scandals such as Enron and WorldCom. National governments and other market-regulation institutions are taking measures to restrain earnings management in order to ensure the reliability and transparency of financial reporting. This study explores whether audit committees and boards of directors influence earnings management using the literary review method. The findings show that both discretionary accruals and abnormal accruals are mostly used as dependent variables to detect earnings manipulation estimated by the Jones and modified Jones models. For the most part, evidence from previous literature indicates that the more independent the members of the audit committee and board, the higher the quality of earnings in financial reporting. However, some opposite findings exist.

A Study of the Relationship between Renminbi Exchange Rates and Chinese Stock Prices

Abstract This study examines the relationship between Chinese renminbi (RMB) exchange rates and Chinese stock prices over the full study period of 20 July 2001 to 21 July 2011. The study also investigates the relationship between the exchange rate and ten industry-specific indices. Also examined is the effect of two specific events on the ‘exchange rate/stock price’ relationship: (1) the easing of exchange rate controls, and (2) the 2008 start of the global financial crisis. A long-run cointegration relationship is found during the full study period between exchange rates and the Shanghai A-share prices, and for nine of ten industry indices. Granger causality in one direction (i.e., from exchange rates to stock prices, or vice versa) or both directions is found for four of the industry-specific indices. Interestingly, both a long-run cointegration relationship and Granger causality are only found during the most volatile period of managed exchanged rates before the global financial crisis. Implications for Chinese monetary policy makers and global investors are provided.