Pradyot K. Sen

Countries often offer substantial financial incentives (subsidies) for attracting foreign investments as new ventures, often with mixed results. Discussion to support foreign investment seldom includes improvement of the reporting and disclosure environment. When financial markets get integrated, but the accounting institutions and disclosure environment significantly differ, investment in a market with a relatively lax disclosure requirement may be construed by the investors as an attempt to avoid the due scrutiny of the asset’s performance, leading to a lower valuation. If so, financial incentives would tend to offset such a disincentive in addition to providing other incentives. The results of this study show that an improvement in accuracy of the audit/disclosure regime reduces the demand for subsidy. Therefore, the countries may find it more economical to compete for foreign investments on the basis of a more detailed and rigorous audit/disclosure environment instead of only relying upon the levels of fiscal incentives. Uniform adoption of accounting standards, such as the International Financial Reporting Standards (IFRS), may help accomplish such an objective. Therefore, fiscal incentives, though important, should not be viewed in isolation. A more economical solution may include development of a strong financial disclosure and auditing environment besides offering of a fiscal subsidy.

We examine the role of earnings, book value, and dividends in examining the valuation of firms in select Asian countries. Besides the usual variables of earnings and book value, inclusion of dividends is motivated by prior use of the variable in the literature, as well as an adaptation of the Ohlson 2001 empirical specification of the valuation model. In our specification, absent credible analysts’ forecasts, as is typical in these markets, dividends together with earnings play the role of “other information” in explaining stock prices. In a large sample of Asian firms from seven Asian countries that lack an active analyst community, we document two key results. First, the model with earnings, book value, and dividends outperforms the earnings capitalization, book value, and a model with earnings and book value together, the traditional benchmarks used in the literature. This is in contrast to Ashbaugh and Olsson, 2002 who find that earnings capitalization is the best model for the international firms. Second, the ability of the model to explain stock valuations does not vary materially over time, thus indicating reasonable consistency across different accounting regimes in these countries that may include International Financial Reporting Standards (IFRS) adaptation at different paces. Our finding highlights the information role of earnings and dividends when other channels of information are blocked.

We show that the ability of a firm to enhance its performance through R & D and commercialization efforts is dependent on the alignment of R & D intensity of the firm's supply base with its own R & D intensity. We employ a multi‐industry dataset consisting of 163 focal firms and their supply bases, spanning the years 1976 to 2009. Focal firms that have higher R & D expenditure compared to their industry average, enjoy greater performance benefits from their own R & D and commercialization efforts, as compared to when they have a Low R & D‐intense supply base. On the other hand, focal firms with lower R & D expenditure compared to their industry average, benefit more from their own R & D and commercialization expenditure when they have a High R & D supply base. When levels of R & D expenditure are matched with respect to the supply base (Low–Low or High–High), focal firms tend to derive less marginal performance benefits from their own R & D and commercialization expenditures. This pattern of results constitutes a “polarity effects” phenomenon, i.e., unlike poles attract. Further, for the High R & D focal firm–Low R & D supply base combination (and vice versa), we show that although both R & D and commercialization efforts have a separate and positive effect on the focal firm's financial performance; taken together, they have a negative synergy. Through a response surface analysis, we are able to show that there is a commercialization threshold, below which the Low R & D focal firm–High R & D supply base derives lower total benefits as compared to a High R & D focal firm–Low R & D supply base combination.

Purpose: The purpose of this paper is to provide evidence that the quality of earnings of family run firms is superior to that of the other firms and that firms run by founding family members exhibit this trait even more prominently. Using insights from the fundamental accounting valuation model, this study also hypothesizes that financial markets place a higher weightage on earnings than book value for founding family-run firms in Thailand as these firms report a more reliable earnings number. Design/methodology/approach: This is an empirical archival research. Findings: The authors report evidence that financial markets place a higher weightage on earnings than book value for founding family-run firms. The evidence is consistent with the insight that current earnings of the founding family-run firms offer more information about future earnings and cash flow compared to book value than those for family (FAM) and non-family (NonCS) firms. The authors also provide evidence that earnings persistence and the accrual quality of the founding family firms are higher compared to the other firms. This evidence is contrary to the notion that family firms have more opaque disclosures, lower earnings quality and higher implied cost of equity capital. Research limitations/implications: The authors find support for the alignment hypothesis of the long-term family ownership of Thai firms. The authors consider these evidences consistent with the shareholder interest alignment hypothesis of the controlling shareholders as opposed to the entrenchment hypothesis. Practical implications: The study implies that earnings of the Thai firms run by founding family members are more reliable and can be relied on more for firm valuation. Additionally, the authors also offer a different methodology by appealing to the valuation properties of the reported accounting numbers besides looking at the quality of accruals and earnings persistence tests offered in the existing literature. Social implications: The society is better off if there are more opportunities to invest in Thai firms run by founding family members. The finding of the quality difference in governance by firms with founding family members is new. Therefore, the study points to the need of finer partition of the family firms while looking at their corporate governance practices. The fact that the FF firms offer a higher quality of earnings implies that they are less engaged in opportunistic manipulation of earnings and cash flow and, thus, are self-motivated to protect the longer term interest of the firms. Originality/value: This if the first time the accounting fundamental valuation theory has been used to provide evidence of higher earnings quality.

Purpose: The purpose of this study is to use implied volatilities from exchange traded options to examine the interaction between analysts’ forecast revisions and the market’s perception of uncertainty about firm value. Design/methodology/approach: The authors examine how characteristics of individual forecast revisions, e.g. news and changes in dispersion of forecasts, affect changes in implied volatilities, whether analysts use the observable changes in implied volatilities to inform their forecast revisions and whether changes in dispersion of forecasts are correlated with changes in implied volatilities. Findings: The authors find that good (bad) news forecast revisions reduce (increase) investors’ perception of uncertainty about firm value, analysts do not appear to use changes in implied volatilities to shade their forecast revisions to good/bad news and dispersion of forecasts are a reasonable proxy for uncertainty about firm value as indicated by their correlation with implied volatilities. Originality/value: Recent research on analysts’ forecast revisions and management forecasts has focused on risk perception rather than value. This paper extends this work with a risk metric based on market transactions in both a short and long window analysis, as well as univariate and multivariate analysis.

Nobel laureate François Jacob wrote often about evolution as “tinkering” in which parts and processes alone or together in cells and organisms were co‐opted for new functional purposes. Such behavior remains unexamined concerning how adaptive systems succeed in biology, supply networks, the economy, and beyond. In the presence of Unknown‐Unknown events (Unk‐Unks) that have no prior occurrences and are evident only in their realizations, the design of supply networks must allow for developing adaptive capabilities at the firm‐level. When performed right, such organic development in the supply network would mimic a biological phenomenon of tinkering and natural selection. We describe enabling such adaptive processes as jury rigging. We discuss how firms could design their supply networks and organize their supply network ex‐ante that enables the network members to respond to Unk‐Unks in an innovative way through jury rigging of their relationships. Development of such jury rigging capabilities requires integrative suppliers with deep embedded relationships, enabled through appropriate incentives that include incomplete contracts with the suppliers and sharing of unspecified decision rights.

Purpose: The purpose of this paper is to document at the firm-specific level whether firms manage earnings up or down to barely miss or meet/beat three common earnings threshold targets, namely, analysts’ forecasts (AFs), last year’s earnings and zero earnings, and whether the market rewards or punishes up versus down earnings management. Design/methodology/approach: The authors assign each firm to its most likely earnings target using an algorithm that reflects management’s economic incentives to manage earnings. The authors place reported (managed) earnings in standard width intervals surrounding the earnings target. Jacob and Jorgensen’s (2007) proxy for unmanaged earnings is also placed into the intervals. Thus, a firm with unmanaged earnings in the interval just below the target and reported earnings in the interval just above the target would be deemed to have managed earnings up. The authors also document whether the market rewarded or punished the earnings management strategy with three-day cumulative abnormal returns. Findings: The authors find that most firms which barely meet/beat their target did so by managing earnings up. The market rewarded this earnings management strategy. The market did not, however, reward firms that managed earnings down (i.e. created a cookie jar of reserves) to barely meet/beat their target. Thus, the meet/beat premium does not apply to all firms. The authors’ explanation is that most earnings targets are set by AFs; that these are usually the highest of the three targets; and that these are, therefore, considered to be “good” firms by the market because they have the ability to find that extra penny to meet/beat the target. Firms that were assigned to the last year’s earnings and/or zero earnings thresholds are not as “good” because they usually do not target the highest threshold and must manage earnings down, as they are more likely to have to reverse income-increasing accruals booked during interim quarters. Research limitations/implications: The primary limitation in this study is the algorithm used to assign firms to their threshold target. It is ad hoc in nature, but relies on reasonable assumptions about the management’s incentives to manage earnings. Practical implications: This study has practical implications because investors and regulators can adopt this methodology to identify potential candidates for earnings management that would allow further insight into accounting and reporting practices. This methodology may also be useful to the auditor who wants to understand the tendencies of a new client. It may also be a useful tool for framing auditing hypotheses in a way that would be appropriate for clients who manage earnings. Originality/value: This paper documents for the first time at the firm-specific level the market reaction to upward versus downward earnings management designed to barely meet/beat the earnings threshold. It also documents the frequency with which firms target the three earnings thresholds and the frequency with which firms miss or meet/beat their threshold.