PCAOB Monitoring and the Information Uncertainty Associated with Fair Value Estimates

Strawser, William
Dee, Carol
Gunny, Katherine
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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.
PCAOB inspections, fair value estimates, SFAS No. 157 (ASC 820), information uncertainty
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