Essays on Financial Reporting Quality

Download or read book Essays on Financial Reporting Quality written by Yuequan Wang and published by . This book was released on 2012 with total page 264 pages. Available in PDF, EPUB and Kindle. Book excerpt: Because of the importance of financial reporting quality in capital market, I explore the determinants to financial reporting quality in my second essay, "Market power and accrual management". I examine whether a firm's competition status in product markets affects its financial reporting quality, measured as discretionary accrual. I argue that because firms with greater market power have a greater ability to set prices for their products, they have comparatively fewer incentives to manipulate earnings through accrual management. I use the Lerner index to measure product market power and asset-deflated absolute discretionary accruals to proxy the magnitude of accrual management. Using a large sample of firm-year observations from 1997 to 2007, I find that, as hypothesized, firms with greater market power tend to have lower levels of accrual management. The final essay, "Product market competition and audit fees", goes one-step further than the second. As noted in the second essay, product market competition affects a firm's financial reporting quality. However, financial reporting quality may not be the only factor auditors take into account when they decide what fees to charge a client. The last essay, therefore, empirically explores the inter- and intra- industry effect of product market competition on audit fees. Prior literature posits two contradictory predictions on the relation between product market competition and audit fees. On the one hand, firms in a competitive market are expected to face higher liquidity risk, distress risk, and liquidation risk, thus increasing auditors' assessments of a client's business risk. So, audit fees are expected to increase with industry competitiveness. On the other hand, it is often argued in prior literature that product market competition decreases information asymmetry and mitigates agency problems between shareholders and managers and increases the accuracy of financial reporting, thus decreasing auditors' assessments of a client's audit risk resulting in necessary audits. So auditors tend to charge lower fees on firms in a more competitive industry. The study, then, empirically tests the relation between product market competition and audit fees and finds that auditors charge higher fees on firms in a more competitive industry. It also finds that auditors charge lower fees on firms with greater market power within the same industry.