Third-Party Source-Switching Decision: Objective Valuation or Fair Value Opinion Shopping?

56 Pages Posted: 27 Nov 2020 Last revised: 23 Dec 2020

See all articles by Minjae Koo

Minjae Koo

University of Houston - Department of Accountancy & Taxation

Shiva Sivaramakrishnan

Rice University

Yuping Zhao

University of Houston

Date Written: December 24, 2020

Abstract

The literature suggests that fair value (FV) estimates from external third-party sources are more reliable than those from managerial inputs. However, using a sample of private insurance companies, we provide evidence that even verifiable FV estimates derived from external third-party sources are not immune to managerial opportunism due to the discretion insurers have in switching sources. We posit that such source switches could either be driven by managerial incentive to faithfully report FV (objective valuation) or to inflate FV estimates to avoid other-than-temporary impairment (OTTI) (FV opinion shopping). Our results indicate FV opinion shopping is the more dominant motive and that source-switches yield less accurate and more upwardly biased FV estimates. Upward switches also reduce both the likelihood and magnitude of OTTI especially for high-impairment-risk securities. Overall, our evidence suggests that opportunism with respect to source-switching potentially compromises the disciplining role of independent third parties in the valuation of fair-valued assets.

Keywords: Fair value opinion shopping, objective valuation, fair value estimate, fair value inflation, external pricing sources, fixed income security, insurance companies

JEL Classification: G20, G22, G30, M41

Suggested Citation

Koo, Minjae and Sivaramakrishnan, Shiva and Zhao, Yuping, Third-Party Source-Switching Decision: Objective Valuation or Fair Value Opinion Shopping? (December 24, 2020). Available at SSRN: https://ssrn.com/abstract=3709893 or http://dx.doi.org/10.2139/ssrn.3709893

Minjae Koo (Contact Author)

University of Houston - Department of Accountancy & Taxation ( email )

Bauer College of Business
4800 Calhoun Road
Houston, TX 77204
United States

Shiva Sivaramakrishnan

Rice University ( email )

6100 South Main Street
Houston, TX 77005-1892
United States

Yuping Zhao

University of Houston ( email )

334 Melcher Hall
Houston, TX 77204
United States
713-743-2166 (Phone)
713-743-4828 (Fax)

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