Financial Reporting: A Look At Different Settings

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Felix, Robert
Cheng, Dr. Shijun
The first of two essays examines whether financial reporting is influenced when a firm shares a director with a "central" firm. Central firms are those which are well-connected within the network of firms formed by shared board of directors. Centrality is a driver of influence and since social networks are a channel to spread information, central firms could transmit reporting practices. However, because financial reporting style is presumably firm specific, the central firm's reporting may not be effective for a focal firm. I examine the effect of central firm conservatism and discretionary accruals on the same focal firm attributes. The results show that focal firm conservatism is influenced by that of the central firm after the two firms become interlocked and that influence is concentrated in the first year. However, a firm adopted central firm discretionary accruals over a longer time horizon. The finding was robust to a variety of alternate explanations. Overall, the findings shed light on how financial reporting spreads through a network and adds to our understanding of how influence occurs between two interlocked firms. The second essay examines municipal reporting manipulation. Municipalities use fund accounting to separately track each activity in self-balancing set of accounts. I focus on the general fund, the largest fund, which uses governmental accounting, and the enterprise fund, which accounts for business-like operations and uses corporate-like accounting. Municipalities have a different organizational objective than corporations and could desire to report a small increase in the general fund bottom line to avoid taxpayer's backlash or they could wish to build up their fund balance to for future use. The enterprise fund incentives are also unclear. I find that operating transfers between funds (discretionary accruals) are used in the general (enterprise), but not the enterprise (general), fund to systematically manipulate its bottom line downward. Accordingly, each fund is manipulated downwards using a method that is in line with its accounting system. Further analysis shows that the general fund results are more pronounced in municipalities with heavy citizen involvement. The findings also highlight that institutional factors do not impact both funds in the same manner.