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Abstract:
Some have recently called for expanded reporting of intangible asset values asserting that their limited recognition under U.S. GAAP has eroded the usefulness of financial statements. In response to this interest, accounting researchers have sought to provide empirical evidence on the role of intangibles in equity valuation. Aboody and Lev [1998] document that the software development cost assets which some firms elect to capitalize under SFAS 86 are positively related to share prices. Extending this research to other intangibles is difficult since U.S. GAAP takes a conservative view towards recognition of such assets. Consequently, other studies have examined off-balance sheet measures of intangible asset values (see Lev and Sougiannis [1996], Barth, et al. [1998], and Ittner and Larcker [1998]) or data from other countries where firms face less restrictive reporting rules (see Barth and Clinch [1998]).

We contribute to this literature by investigating the role of intangibles in equity valuation under a reporting regime where managers are allowed virtually unrestricted discretion to capitalize intangible assets. Our sample consists of firms with common equity traded on the New York Stock Exchange (NYSE) in the 1920's. These firms operated in a reporting environment which permitted managers broad discretion to initially capitalize intangibles, determine subsequent amortization and revaluation policies, and structure supplementary disclosures (if any). Consequently, pre-SEC industrials firms reported a broad range of intangibles with material carrying amounts on their balance sheets.

We investigate the value-relevance of intangible assets using valuation models where intangibles play two possible roles in equity valuation. The first is a direct role where intangibles can map positively into share price and the second is an interactive role where the level of intangibles conditions investor evaluation of reported earnings. If investors perceive capitalized intangibles to be legitimate assets, their carrying values will be positively related to share price. Alternatively, if investors view the capitalization of intangibles as a means for managers to overstate reported earnings, then the coefficient mapping earnings into price will decline as the level of capitalized intangibles increases.

The results from our primary tests indicate no significant positive relation between capitalized intangibles and share prices. We do find evidence that the coefficient relating earnings to share price decreases with the level of capitalized intangibles, consistent with a perception by investors that managers may overstate earnings by capitalizing intangibles. We also document that separate reporting for intangible assets strengthens the relation between price and summary balance sheet measures. Book value is not significantly related to share price but the coefficient mapping tangible book value into share price is positive and highly significant when intangibles are disaggregated from book value. Finally, earnings are a highly significant determinant of equity price suggesting that, at least for our sample, investors may identify the existence of economically relevant intangibles on the basis of reported earnings rather than carrying values for intangibles reported in the balance sheet.

Abstract:
We provide evidence on the relevance of earnings for valuation of NYSE common stocks from 1927-93. Based on a time series analysis of the explanatory power of yearly earnings-returns regressions, we investigate whether earnings relevance has increased following: (1) the empowerment of the Committee on Accounting Procedure (CAP) in 1939 as the first U.S. standard-setting body, and (2) subsequent reorganizations of the standard-setting process which led to the establishment of the Accounting Principles Board (APB, 1959-73) and the Financial Accounting Standards Board (FASB, 1973-Present).

Income measurement and disclosure has been a central focus of accounting policymakers throughout the period covered by our study. In the early 1930's, the American Institute of Accountants (forerunner of the AICPA) emphasized the "cardinal importance" of income as "explained by the fact that the value of a business is dependent mainly on its earning capacity" (see AIA [1934]). Over 40 years later, the FASB in Statement of Financial Accounting Concepts #1 adopted a similar view when it concluded that the primary focus of financial reporting is on earnings and its components.

Our analyses provide little evidence suggesting that the mean and median explanatory power (i.e., adjusted R2) of yearly returns-earnings regressions are significantly higher following empowerment of the CAP in 1939 and subsequent reorganizations leading to creation of the APB and FASB. We find weak evidence of a higher median during the CAP?s tenure (1939-59) compared to the Pre-CAP era (1927-38), but this result is not robust under alternate specifications of our primary tests where either yearly rank regressions are used, losses are excluded from the sample, or operating income is used in lieu of net income in the yearly regressions.

We also estimate yearly models where stock price is regressed against earnings and book value similar to other recent longitudinal studies (e.g., Collins, Maydew, and Weiss [1997] and Francis and Schipper [1997]). Results of tests examining incremental earnings relevance in price regressions are consistent with results based on earnings-returns regressions: we find no evidence indicating that the valuation relevance of earnings has significantly increased since the initiation of U.S. standard-setting in 1939. Consistent with evidence in these other studies, we document a highly significant increase in the combined relevance of earnings and book value during the FASB?s tenure compared to the APB era. However, this result is largely the artifact of abnormally low relevance in the APB era. For instance, the combined relevance of earnings and book value is lowest during the APB?s tenure (1960-73), but the combined relevance of earnings and book value in the FASB era is similar to that observed during the Pre-CAP and CAP periods.

Abstract:
We consider accounting from an evolutionary perspective. Accounting encompasses the creation of transactional records, the summarization of records in t-accounts, and the preparation of audited financial statements. Accounting's history spans at least 10,000 years dating back to the first human settlements in ancient Mesopotamia. Our focus is on the study of accounting history in three ways: providing useful thoughts experiments valuable to researchers interested in the development of modern practices, the use of historical data to test formal hypotheses about the origins of accounting practices, and the development of theories and related empirical evidence that explain accounting based on evolution and ecological rationality. Within this third area, we describe the basis for hypotheses and empirical analyses concerning six issues: (1) the emergence of recordkeeping, (2) the effect of double-entry bookkeeping on the scale and scope of economic organization, (3) the spontaneous emergence of norms of practice in accounting, (4) the impact of law, regulation, and taxation on accounting, (5) the demand for broad principles in evaluating accounting method choices, and (6) the relation between economic crises and major discontinuities in accounting practice.

Accounting, Economic History, Economic Institutions

Abstract:
We investigate the extent and nature of income conservatism as reflected in the financial statement numbers of firms in the U.S. technology sector. Technology firms are predicted to have greater income conservatism than other U.S. firms because they are subject to both higher shareholder litigation risk and conservative accounting standards such as SFAS 2. In the absence of a generally accepted measure of conservatism, we examine several proxies including loss incidence and accounting rates of return, operating cash flow and non-operating accrual levels, and regression coefficients from the income timeliness models in Basu (1997). Relative to other companies, technology firms are characterized by higher (and intertemporally increasing) levels of income conservatism. These differences are both statistically and economically significant. Further analysis suggests that technology firms' higher conservatism results primarily from conservative accounting rules for R&D expensing rather than shareholder litigation risk.

Abstract:
We seek to characterize the evolutionary role played by the transactional record that forms the foundation of modern accounting. We hypothesize that formal recordkeeping institutionalizes memory, which along with law and other institutions (e.g., weights and measures and money) promotes the trust necessary to secure the gains from large-scale cooperation in human societies where complex exchange occurs between strangers over time. This hypothesis yields two predictions: (1) formal recordkeeping emerges as a mnemonic device when complex exchange between strangers over time becomes more common, and (2) formal recordkeeping and other exchange-supporting institutions co-evolve and feed back to facilitate extraction of further gains from exchange and the division of labor. Several aspects of ancient Mesopotamian recordkeeping are consistent with these predictions, which we believe suggests our hypothesis is plausible. We also identify opportunities for directly testing our predictions with experiments and ethnographies as well as other implications for the co-evolution of accounting, law, cognition, and language.

intertemporal trade, verifiable history, dispute resolution, cultural selection

Abstract:
We examine whether availability of higher quality financial information lessens investor losses during a period seen as a stock market crash. We focus on October 1929, which partly motivated sweeping financial reporting regulations in the 1930s. Using a sample of 540 common stocks traded on the New York Stock Exchange during October 1929, we find that the quality of firms' financial reporting increases with managers' incentives to supply higher quality financial information demanded by investors. Moreover, firms with higher quality financial reporting before October 1929 experienced smaller stock price declines during the market crash.

Investor protection, Voluntary disclosure, Financial reporting quality, Financial reporting regulation, Stock market crashes

Abstract:
Prior analytical research suggests that competitive firms within an industry may not voluntarily share their private market information through a trade association. Given legal restrictions which preclude trade associations from compelling participation or accurate reporting by firms or revealing their proprietary data, it is uncertain whether trade associations can design and implement systems to collect and transmit useful market information. This paper documents significant stock price movements on release dates of aggregate industry data on new orders and shipments by the Semiconductor Industry Association (SIA) each month which are positively associated with changes in the numbers disclosed. The industry information released is positively correlated with earnings changes in the subsequent quarterly earnings announcements of firms within the industry. Additional tests indicate that semiconductor firms? stock prices respond significantly to their quarterly earnings announcements, and that the prior disclosure of aggregate industry information does not materially reduce the valuation relevance of earnings reports of semiconductor firms . Overall, these findings support the hypothesis that trade associations are able to obtain reliable data from firms, aggregate it into statistics that do not reveal a specific company?s information, and then distribute aggregate statistics back to participating firms in a timely manner. Our analysis further suggests that while the aggregate industry data are informative for investors in high-tech stocks, they do not reduce the valuation impact of semiconductor firms? quarterly earnings.

Abstract:
We investigate the extent to which income measurement by major early 20th century U.S. railroads shows evidence of reduced income smoothing and increased conservatism following new fixed asset accounting rules issued by the Interstate Commerce Commission (ICC) in 1907 and 1908 and concurrent rate regulation regime shifts. Accounting rules promulgated by the ICC after the Hepburn Act of 1906 are the first accounting rules in U.S. history where regulators could enforce such rules under federal law through penalties of fine and imprisonment to insure compliance. Our sample-wide results are more consistent with increased conservatism rather than income smoothing. Additional tests indicate these effects are more pronounced for firms subject to more intense rate regulation by the ICC, which suggests that the tie-in between accounting regulation and product/service market regulation influences the nature of economic effects associated with accounting regulation.

railroads, income measurement, accounting rules, regulation, conservatism, income smoothing, early 20th century financial reporting

Abstract:
Intangibles are ideas or knowledge about the natural (physical and biological) and socio-cultural worlds that enable people to better accomplish their goals, both in primitive societies and in modern economies. Intangibles include basic research and technology improvements as well as knowledge to better organize exchange and production, and over time become inextricably embedded in improved tangible assets. Accounting intangibles are legally excludable subsets of economic intangibles, which in turn are the subsets of cultural intangibles that can be used to create tradable goods or services. Because economic intangibles are cumulative, synergistic, and frequently inseparable from other tangible assets and/or economic intangibles not owned by any single entity, it is usually futile to estimate a separate accounting value for individual intangibles. However, the income that intangibles together generate provides useful inputs for equity valuation, and voluntary non-financial disclosures could be informative for this purpose.

Moka, gift exchange, patent, trademark, fair value

Abstract:
We develop the hypothesis that culturally evolved accounting principles (e.g., Objectivity) have their roots in how the biologically evolved human brain evaluates the desirability of reciprocal exchange. Our analysis is communicated in two related parts. In this first essay, Part I, we provide background on the structure and evolution of the brain, the measurement of brain activity during economic decision-making using neuroscientific methods, and the brain's central role in building economic institutions. In the second essay, Part II, we describe the emergence of modern accounting principles and review the neuroscientific evidence suggesting a mapping from brain function to the principles of modern accounting. Our analysis of NeuroAccounting is important because it extends Basu and Waymire (2006) to provide a new way to scientifically view accounting, which can prove useful for evaluating the desirability of implementing new policies that run contrary to long-established accounting principles.

Accounting principles, economic exchange, neuroeconomics, primate brain

Abstract:
We develop the hypothesis that culturally evolved accounting principles are ultimately explained by their consilience with how the human brain has biologically evolved to evaluate opportunities for exchange. The primary function of accounting in evaluating exchange is providing information on the net benefits of past exchanges. Accounting's comparative advantage arises because it provides information based on reliable quantified data that is well suited to multi-period settings where reputation and trust are of first-order importance. We review evidence documented by neuroscientists that is consistent with the hypothesis that longstanding accounting principles such as Revenue Realization, Expense Matching, Objectivity, Historical Cost, Going Concern and Conservatism have distinct parallels in brain behaviors. We conclude that NeuroAccounting has important implications for how we think about accounting principles and the ultimate forces behind their emergence and persistence.

Accounting principles, economic exchange, neuroeconomics, primate brain

Abstract:
Adam Smith hypothesized that impersonal exchange was necessary for a society to develop specialized division of labor and create wealth. Douglass North and Vernon Smith argue that successful developed economies are the result of institutions. We hypothesize and provide evidence from ethnographic data that the basic accounting technology of recording transactions is associated with more extensive impersonal exchange and increased specialization in the division of labor. Our intuition is that extensive impersonal exchange requires reliable memory of trading partners’ past behavior to sustain trust and encourage reciprocity when a group expands beyond the size of traditional hunter-gatherer groups. Our findings are consistent with the hypothesis that transaction records are necessary for the emergence of complex economies as suggested by the archaeological evidence of recordkeeping in Mesopotamian societies 10,000 years ago.

Recordkeeping, accounting history, economic development and institutions

Abstract:
We experimentally demonstrate a causal link between recordkeeping and reciprocal exchange. Recordkeeping improves memory of past interactions in a complex exchange environment, which promotes reputation formation and decision coordination. Economies with recordkeeping exhibit a beneficially altered economic history where the risks of exchanging with strangers are substantially lessened. Our findings are consistent with prior assertions that complex and extensive reciprocity requires sophisticated memory to store information on past transactions. We offer fresh insights on this research by scientifically demonstrating that reciprocity can be facilitated by information storage external to the brain. This is consistent with the archaeological record, which suggests that pre-historic transaction records and the invention of writing for recordkeeping were linked to increased complexity in human interaction.

accounting, economic institutions, trust, memory, image score

Abstract:
We experimentally demonstrate a causal link between recordkeeping and reciprocal exchange. Recordkeeping improves memory of past interactions in a complex exchange environment, which promotes reputation formation and decision coordination. Economies with recordkeeping exhibit a beneficially altered economic history where the risks of exchanging with strangers are substantially lessened. Our findings are consistent with prior assertions that complex and extensive reciprocity requires sophisticated memory to store information on past transactions. We offer fresh insights on this research because we scientifically demonstrate that reciprocity can be extended by information storage external to the brain. This is consistent with the hypothesis suggested by the archaeological record that pre-historic transaction records and the invention of writing for recordkeeping facilitated increased scale and complexity in human interaction.

Reciprocity, accounting, recordkeeping

Abstract:
We examine the extent to which financial statement ratios in the pre-SEC era were associated with Moody's securities ratings. A lack of association in this unregulated era would be consistent with subsequent accounting regulation improving the informativeness of financial reporting, whereas significant associations in predicted directions would indicate a need to quantify the incremental benefit, if any, of accounting and securities regulation. Because Moody's reported ratings components in addition to the overall ratings during our time period, we are also able to explore the structure underlying overall ratings. In particular, we examine the weights given to the components in the overall rating, as well as the accounting, contractual and market variables that determine each component. Our analysis indicates that bond ratings exhibit a significant positive association between income statement (ROE) and balance sheet (Current Ratio) ratios and overall Moody's bond ratings. Additional findings suggest that income statement and balance sheet ratios link structurally to the overall rating through differing components, as predicted. ROE is positively related to Moody's bond Safety rating (a measure of fixed charge coverage) while the Current Ratio links to Moody's bond Security rating (a measure of asset backing). Moody's third bond rating component, Salability, reflects the ease with which the bond can be readily sold. As predicted, we document that accounting ratios exert less influence over Salability compared to Safety and Security. However, unlike for Safety and Security, we document a significant positive between Salability and a measure of the extent of disclosure by the firm. Several of these findings extend to Moody's ratings of preferred and common stocks.