Examining the Examiners: SEC Error Detection Rates and Human Capital Allocation
58 Pages Posted: 30 Nov 2017 Last revised: 18 Oct 2018
Date Written: October 20, 2017
I apply Becker’s (1968) economic theory of crime, which shows that detection rates are an important determinant of enforcement outcomes, to analyze the SEC’s effectiveness in detecting financial reporting errors. I derive a measure of error detection rates using information from SEC comment letter reviews. In a sample of 13,504 reviews covering 2005 to 2014, I find the SEC’s Division of Corporate Finance (DCF) identifies an error that results in a restatement in 4.7% of cases, while firms ultimately restate 13.8% of periods under SEC review. Using the ratio of errors the DCF directly identified (4.7%) to total errors (13.8%) to measure error detection rates (34.0%), I document a positive association between the human capital allocated to a review and detection rates, and heterogeneity among examiners. DCF review teams without an accountant are less likely to detect errors. I find little association between examiner performance and economic or career incentives.
Keywords: SEC, comment letter, restatement, enforcement
Suggested Citation: Suggested Citation