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An International Meeting of American Accounting
Association
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Mandated disclosures under section 404: Too little and too late? |
Aloke Ghosh
Baruch College The City University of New York
Martien Lubberink
University of Lancaster
Abstract: Some claim that the new mandated disclosures on internal controls enhance investors’ confidence in financial reporting through “timely” identification and “remediation” of the firms’ control problems. We provide evidence on the timeliness and remediation arguments by examining whether market participants anticipated internal control problems before the new disclosures and imposed a penalty on firms with control weaknesses. We find that firms reporting internal control weaknesses had (1) lower earnings response coefficients, (2) less favorable common stock rankings and debt ratings, (3) lower cost of debt, and (4) larger analysts’ earnings forecasts errors in 2001 and 2002 (the pre-mandated disclosure period) relative to those without such weaknesses. Inconsistent with the timeliness argument, our results suggest that market participants anticipated internal control problems and that they imposed a penalty on such firms. We find little evidence supporting the remediation argument.