17 Financial: Fair value accounting
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ItemPCAOB Monitoring and the Information Uncertainty Associated with Fair Value Estimates( 2018-08-31)We study the role of the Public Company Accounting Oversight Board (PCAOB) as a monitor in mitigating uncertainty surrounding fair value estimates. Specifically, we examine whether the issuance of a PCAOB inspection report with fair value deficiencies (FV deficient inspection reports) is associated with a reduction of the information uncertainty associated with fair value estimates in clients’ financial statements. We find a reduction in the information uncertainty (as proxied by implied asset-specific betas related to fair value disclosures) after the issuance of a FV deficient inspection report. This result is driven by a subsample of issuer clients that face greater exposure to fair value assets. In sensitivity analysis, we find evidence of greater audit effort (increased audit fees, and decreased transfers into level three fair value assets) and increased disclosure in the fair value footnote (increased number of words and number of asset/liability categories) after a FV deficient report, suggesting that auditors increase effort and scrutiny directed at fair value holdings. Our findings are incremental to the effects produced by SEC comment letters that discuss fair value issues. Overall, our evidence suggests that the PCAOB inspection process plays a role in mitigating opacity issues related to fair value.
ItemPrivate Equity Valuation Before and After ASC 820( 2018-08-15)We examine the effect of ASC 820 (formerly known as SFAS 157) on the valuations reported by U.S. private equity funds to their investors. In 2008, the FASB implemented ASC 820 to achieve more consistent measurement and increased transparency in fair value reporting. This new standard clarified the most critical accounting policy for private equity funds, which typically include highly illiquid investments. Exploiting a setting where we can observe all cash flows over a fund’s lifetime, we show that the interim reported net asset valuations (NAVs) of liquidated private equity funds more accurately predict future net distributions to investors following ASC 820 adoption, particularly for venture funds. We supplement our findings with a difference-in-difference test and numerous robustness checks. Our findings shed light on financial reporting in an opaque industry and suggest that enhanced guidance for the implementation of fair value accounting in ASC 820 improved the information environment in a significant cross-section of the financial markets.