Lucy Huajing Chen

Accounting Conservatism, Earnings Persistence, and Pricing Multiples on Earnings

We examine the effect of accounting conservatism on earnings persistence and the stock market’s valuation of earnings. Using a sample of U.S. companies during the period of 1988-2010, we find that firms with more conservative accounting generate less persistent earnings than firms with less conservative accounting. We also document that the pricing multiple on more conservative earnings is smaller than pricing multiples on less conservative earnings. Finally, we show that conditionally conservative earnings are less persistent than unconditionally conservative earnings and the pricing multiple on earnings is smaller for conditionally conservative earnings than for unconditionally conservative earnings. Our results improve our understanding of the characteristics of conservatively-reported earnings.

Merger Abnormal Returns and the Use of Independent Fairness Opinions

Using hand-collected data on fairness opinions from corporate filings, I show that acquirers that purchase independent fairness opinions outperform acquirers that purchase nonindependent opinions around merger announcements. Moreover, the amount of contingent fees that acquirers pay to investment bankers who provide fairness opinions is negatively associated with the same abnormal returns. Furthermore, acquirers with independent fairness opinions perform better in the stock markets until eighteen months after the announcement. Finally, contingent fees that acquirers pay are negatively associated with long-term operating performance. However, no evidence is found for targets except for long-term operating performance, possibly because both shareholders and investment bankers for targets share the same incentive for a higher price.

The SEC's Elimination of 20-F Reconciliation and the Cost of Debt

The SEC adopted a rule in December 2007 to eliminate the 20-F reconciliation requirement for foreign private issuers preparing financial statements under IFRS as issued by the IASB. We examine whether the SEC’s elimination of the 20-F reconciliation affects the cost of debt for such foreign issuers during the 2005-2008 period. On one hand, the reconciliation can provide debt holders useful information to assess firm default risk, and hence eliminating the reconciliation leads to information loss, which is associated with increased cost of debt. On the other hand, significant cost savings from not reconciling earnings and book value can enhance firm value, which decreases cost of debt. We find evidence that the interest expense ratio decreases after such firms discontinue the 20-F reconciliation. Moreover, the cost of debt reduction is driven by firms with higher pre-rule reconciliation magnitude or larger pre-rule number of reconciling items, which is consistent with cost savings dominating the information loss. Lastly, we find evidence of the information loss for firms with higher market uncertainty and limited evidence of information loss for firms with lower bank monitoring incentive. Taken together, our paper provides insight into the SEC’s decision to eliminate the 20-F reconciliation and the SEC’s consideration to adopt IFRS for U.S. domestic firms.