The Interrelation between Audit Quality and Managerial Reporting Choices and Its Effects on Financial Reporting Quality

Two distinct lines of research have been dedicated to empirically testing how financial reporting quality (measured as the earnings response coefficient or ERC) is associated with management's choice of reporting bias and with audit quality. However, researchers have yet to consider how ERCs are affected by either the auditor's reaction to changes in the manager's reporting bias or the manager's reaction to changes in audit quality. Our study provides theoretical guidance on these interrelations and how changes in the manager's or the auditor's incentives affect both reporting bias and audit quality. Specifically, when the manager's cost (benefit) of reporting bias increases (decreases), we find that expected bias decreases, inducing the auditor to react by reducing audit quality. Because we also find that the association between expected audit quality and ERCs is always positive, changes in managerial incentives for biased reporting lead to a positive association between ERCs and expected reporting bias. When the cost of auditing decreases or the cost of auditor liability increases, we find that expected audit quality increases, inducing the manager to react by decreasing reporting bias. In this case, changes in the costs of audit quality lead to a negative association between ERCs and expected reporting bias. Finally, we demonstrate the impact of our theoretical findings by focusing on the empirical observations documented in the extant literature on managerial ownership and accounting expertise on the audit committee. In light of our framework, we provide new interpretations of these empirical observations and new predictions for future research

Banking competition and risk-taking when borrowers care about financial prudence : [Version: Mai 2009]

Corporate borrowers care about the overall riskiness of a bank’s operations as their continued access to credit may rely on the bank’s ability to roll over loans or to expand existing credit facilities. As we show, a key implication of this observation is that increasing competition among banks should have an asymmetric impact on banks’ incentives to take on risk: Banks that are already riskier will take on yet more risk, while their safer rivals will become even more prudent. Our results offer new guidance for bank supervision in an increasingly competitive environment and may help to explain existing, ambiguous findings on the relationship between competition and risk-taking in banking. Furthermore, our results stress the beneficial role that competition can have for financial stability as it turns a bank’s "prudence" into an important competitive advantage

Cross-selling lending and underwriting : scope economies and incentives

We highlight the implications of combining underwriting services and lending for the choice of underwriters and for competition in the underwriting business. We show that cross-selling can increase underwriters’ incentives, and we explain three phenomena: first, that cross-selling is important for universal banks to enter the investment banking business; second, that cross-selling is particularly attractive for highly leveraged borrowers; third, that less-than-market rates are no prerequisite for cross-selling to benefit a bank’s clients. In our model, cross-selling reduces rents in the underwriting business

Dynamic Forecasting Behavior by Analysts: Theory and Evidence

We examine the dynamic forecasting behavior of security analysts in response to their prior performance relative to their peers within a continuous time/multi-period framework. Our model predicts a U-shaped relationship between the boldness of an analyst's forecast, that is, the deviation of her forecast from the consensus and her prior relative performance. In other words, analysts who significantly out perform or under perform their peers issue bolder forecasts than intermediate performers. We then test these predictions of our model on observed analyst forecast data. Consistent with our theoretical predictions, we document an approximately U-shaped relationship between analysts' prior relative performance and the deviation of their forecasts from the consensus. Our theory examines the impact of both explicit incentives in the form of compensation structures and implicit incentives in the form of career concerns, on the dynamic forecasting behavior of analysts. Consistent with existing empirical evidence, our results imply that analysts who face greater employment risk (that is, the risk of being fired for poor performance) have greater incentives to herd, that is, issue forecasts that deviate less from the consensus. Our multi-period model allows us to examine the dynamic forecasting behavior of analysts in contrast with the extant two-period models that are static in nature. Moreover, the model also differs significantly from existing theoretical models in that it does not rely on any specific assumptions regarding the existence of asymmetric information and/or differential analyst abilities.Security analysts, herding, career concerns