۱- Introduction

۲- Background and related literature

۳- Research design

۴- Data, sample selection, and descriptive statistics

۵- Empirical results

۶- Additional analyses and robustness tests

۷- Conclusions

References

Abstract

This study tests whether firms seek to mitigate the adverse effects of Financial Reporting Complexity (FRC) by investing in accounting expertise. We develop a measure of FRC based on the complexity of accounting standards that govern annual disclosures. We find that FRC is positively related to the accounting expertise on a firm’s board of directors and audit committee. We also find that accounting expertise mitigates the relation between FRC and negative reporting outcomes. Collectively, this study increases our understanding of the actions firms take to mitigate the negative consequences of FRC, and the role of accounting expertise in this setting.

Introduction

The U.S. Securities and Exchange Commission’s (SEC) Advisory Committee on Improvements to Financial Reporting defines financial reporting complexity (FRC) as: “the difficulty for…preparers to properly apply generally accepted accounting principles in the U.S. (U.S. GAAP) and communicate the economic substance of a transaction or event and the overall financial position and results of a company…” (SEC 2008, p. 18).1 Prior literature documents a growing trend in FRC (Dyer et al. 2017) and examines its consequences. Generally, firms with high FRC have a less favorable information environment (e.g., Li 2008; You and Zhang 2009; Lehavy et al. 2011; Peterson 2012) and increased financial misstatement risk (e.g., Filzen and Peterson 2015; Hoitash and Hoitash 2018) relative to firms with low FRC. Extant literature generally attributes these findings to high FRC levels reflecting the intentional choice of firm managers to obfuscate financial reports (e.g., Li 2008; Lo et al. 2017). Recently, some studies have argued that FRC primarily captures the complexity of firms’ business operations and accounting standards rather than the intention to obfuscate (Guay et al. 2016; Bushee et al. 2018; Dyer et al. 2017). If high FRC is not an intentional choice, one could expect firms to seek to diminish the adverse effects of FRC on their information environment and financial reporting risk. However, there is little evidence on whether and how companies mitigate the negative effects of FRC. One exception is a study by Guay et al. (2016) documenting that firms increase voluntary disclosure as financial reporting complexity increases. Their findings are consistent with firms balancing complex mandatory financial reporting and voluntary disclosure to achieve an optimal information environment.