Reporting Misstatements as Revisions: An Evaluation of Managers’ Use of Materiality Discretion
54 Pages Posted: 18 Sep 2019
Date Written: August 29, 2019
In recent years, firms reporting revisions of prior financial statements outnumber firms reporting restatements. Material misstatements are required to be transparently disclosed as restatements, whereas immaterial errors/irregularities can be reported as revisions. Based on SEC guidance and widely used materiality benchmarks, I find that 45 percent of revisions meet at least one materiality criterion. These “material” revisions elicit a significant negative market response, suggesting that the market perceives these misstatements as consequential. I further find that managers are more likely to revise rather than restate these material misstatements when they have a strong incentive to avoid restatements, namely compensation clawback provisions. Moreover, the impact of clawback provisions is even stronger when the misstatement allows for more materiality discretion. Overall, my results suggest that materiality discretion is being used opportunistically to conceal material misstatements as revisions.
Keywords: materiality, restatements, revisions, materiality judgment, clawback provisions
JEL Classification: M41, M42
Suggested Citation: Suggested Citation