Examining the Examiners: SEC Effectiveness in Identifying Financial Reporting Errors
59 Pages Posted: 30 Nov 2017
Date Written: October 20, 2017
I examine the effectiveness of the SEC Division of Corporate Finance (DCF) comment letter process. In a sample of 17,624 financial statement reviews covering 2005 to 2014, the DCF identifies an error that results in a restatement in 6.3% of cases, and in 7.0% of cases fails to identify an error that results in a restatement. I use the ratio of errors identified (1,114 or 6.3%) to total errors (2,342 or 13.3%) as a measure of effectiveness (47.6%). The DCF is more (less) likely to detect severe errors and errors related to long-term assets and financial statement presentation (income taxes). Enforcement intensity increases the likelihood of detecting an error, while errors are more likely to be missed during periods of above average workload. The economic reward to a DCF examiner for identifying an error is less than $1,000 per error and individual examiners differ in their ability to detect errors.
Keywords: SEC, comment letter, restatement, enforcement
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