Do the SEC Whistleblower Provisions of Dodd-Frank Deter Aggressive Financial Reporting?
49 Pages Posted: 6 Dec 2017 Last revised: 3 Oct 2018
Date Written: September 2018
The stated goal of the 2011 SEC Whistleblower (WB) Program introduced as part of the Dodd-Frank Act was to strengthen investor protection through greater deterrence of securities law violations and more effective regulatory enforcement. While the SEC has articulated the success of the program for detecting and prosecuting violations, there is no evidence on the effect of the program in deterring violations. In this paper, we consider the deterrent effect by examining the impact of the Program on aggressive financial reporting by U.S. firms. Despite ongoing challenges, including the high number of tips received and efforts by some managers to circumvent the new rules by muzzling whistleblowers, we document a significant reduction in abnormal accruals following the introduction of the regulation. In a difference-in-differences design, we also find that reductions in aggressive reporting are greater for U.S. firms than for Canadian firms. We also predict that firms with weaker internal compliance and reporting program quality are more likely to change their reporting behavior as employees of these firms are more likely to report irregularities directly to the SEC rather than internally. Using two different proxies for the quality of a firm’s internal compliance and reporting program – ratings of a firm’s program as described in its Code of Ethics, and estimated program quality based on disclosures of ineffective whistleblower program controls under Sarbanes Oxley – we find that reductions in aggressive reporting are greater for firms with weaker internal programs. Collectively, these findings provide important evidence of significant benefits of the SEC WB Program of Dodd-Frank Act for deterring financial reporting fraud.
Keywords: fraud, regulation, whistleblower
JEL Classification: M41, G38
Suggested Citation: Suggested Citation