Litigation Risk and Non-GAAP Reporting

55 Pages Posted: 7 Mar 2017

See all articles by Richard A. Cazier

Richard A. Cazier

University of Texas at El Paso - Department of Accounting

Theodore E. Christensen

University of Georgia - J.M. Tull School of Accounting; University of Georgia

Kenneth J. Merkley

Indiana University - Kelley School of Business - Department of Accounting

John Treu

West Virginia University - College of Business & Economics

Date Written: February 2017

Abstract

Non-GAAP earnings disclosures are widely used by investors and analysts. Yet, for nearly two decades, an ongoing debate in the financial press and the academic literature has centered on whether non-GAAP earnings metrics portray primarily informative or overly optimistic performance assessments. While researchers have attempted to understand the motives behind these non-standard performance metrics, more specific evidence on the influence of market monitoring mechanisms on non-GAAP reporting can help inform this discussion. We provide the first rigorous examination of the association between litigation risk and non-GAAP reporting. Specifically, we use a quasi-natural-experimental setting in which U.S. federal appeals court rulings result in significant changes in litigation risk and employ a difference-in-differences design to explore how these circuit-specific shocks influence firms’ propensity to provide non-GAAP performance metrics. We find that firms increase (decrease) their non-GAAP reporting activity when litigation risk decreases (increases). We also provide evidence that differences in non-GAAP reporting across circuits diminished after Reg G, suggesting that this regulation reduced litigation risk by creating a safe harbor for non-GAAP disclosure. We conclude by providing evidence regarding how our litigation risk shocks relate to other empirical litigation risk measures to inform future research examining or controlling for litigation risk.

Keywords: Non-GAAP Disclosure, Litigation Risk, Regulation

JEL Classification: M48, M41

Suggested Citation

Cazier, Richard A. and Christensen, Theodore E. and Merkley, Kenneth J. and Treu, John, Litigation Risk and Non-GAAP Reporting (February 2017). Available at SSRN: https://ssrn.com/abstract=2928260 or http://dx.doi.org/10.2139/ssrn.2928260

Richard A. Cazier (Contact Author)

University of Texas at El Paso - Department of Accounting ( email )

500 W University Ave
El Paso, TX 79902
United States
915-747-7755 (Phone)

Theodore E. Christensen

University of Georgia - J.M. Tull School of Accounting ( email )

Athens, GA 30602
United States

University of Georgia ( email )

Athens, GA
United States

Kenneth J. Merkley

Indiana University - Kelley School of Business - Department of Accounting ( email )

1309 E. 10th Street
Bloomington, IN 47405
United States

John Treu

West Virginia University - College of Business & Economics ( email )

P.O. Box 6025
Morgantown, WV 26506
United States

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