This study investigates the impact of the debt-contracting value (DCV) of borrowers' accounting information on the likelihood of private debt renegotiation and the implication of renegotiation for borrowing firms' investment efficiency. Accounting numbers, as contractible signals, are broadly used in formal debt contracting. DCV captures the inherent ability of firms' accounting numbers to predict future credit quality. Building on incomplete contract theory, I hypothesize that a lower DCV of a borrower's accounting numbers creates ex post incentives for both parties to renegotiate the terms of the initial contract, leading to a higher probability of renegotiation. During the renegotiation, the lenders can extract partial gains from the borrowers' investment according to their relative bargaining power. Anticipating the high-probability of renegotiation reduces the ex ante investment incentives of borrowers, inducing underinvestment. Using a sample of 3,720 private debt contracts, I find that 76% of the contracts are renegotiated before maturity, and 75% of renegotiation cases are related to the changes of accounting-based contractual terms. I further find that firms with a higher DCV have a lower probability of renegotiation and less underinvestment. Moreover, the impact of DCV on investment increases with lenders' relative bargaining power.

This study investigates the impact of the debt-contracting value (DCV) of borrowers' accounting information on the likelihood of private debt renegotiation and the implication of renegotiation for borrowing firms' investment efficiency. Accounting numbers, as contractible signals, are broadly used in formal debt contracting. DCV captures the inherent ability of firms' accounting numbers to predict future credit quality. Building on incomplete contract theory, I hypothesize that a lower DCV of a borrower's accounting numbers creates ex post incentives for both parties to renegotiate the terms of the initial contract, leading to a higher probability of renegotiation. During the renegotiation, the lenders can extract partial gains from the borrowers' investment according to their relative bargaining power. Anticipating the high-probability of renegotiation reduces the ex ante investment incentives of borrowers, inducing underinvestment. Using a sample of 3,720 private debt contracts, I find that 76% of the contracts are renegotiated before maturity, and 75% of renegotiation cases are related to the changes of accounting-based contractual terms. I further find that firms with a higher DCV have a lower probability of renegotiation and less underinvestment. Moreover, the impact of DCV on investment increases with lenders' relative bargaining power.

This paper investigates whether changes in internal control weakness (ICW) disclosure regulation affect the reliability of a firm’s disclosed ICW in a unique Canadian setting. In Canada, public firms have been required to provide internal control weakness disclosures since 2006. However, the credibility enhancement mechanisms (i.e., the implementation of effectiveness evaluation and CEO/CFO certification) were not adopted until 2008. Taking advantage of such an evolutionary process of regulations and inferring the reliability of the disclosed ICW from the magnitude of the negative association between disclosed ICW and investment efficiency, I first document that in the pre-adoption period, the association between Canadian firms’ disclosed ICW and their investment efficiency is insignificant; however, in the post-adoption period, the disclosed ICW negatively affects firms’ investment efficiency. This finding suggests that the credibility enhancement mechanisms improve the reliability of disclosed ICW in Canada. In addition, using the U.S. sample as a benchmark, I find that in the post-adoption period, the association is weaker between Canadian firms’ disclosed ICW and their investment efficiency, which is consistent with my prediction that the external audit requirement increases the reliability of the disclosed ICW. Overall, the study implies that changes in disclosure regulation lead to efficient resource allocation by improving the reliability of the information disclosed.

This paper investigates whether changes in internal control weakness (ICW) disclosure regulation affect the reliability of a firm’s disclosed ICW in a unique Canadian setting. In Canada, public firms have been required to provide internal control weakness disclosures since 2006. However, the credibility enhancement mechanisms (i.e., the implementation of effectiveness evaluation and CEO/CFO certification) were not adopted until 2008. Taking advantage of such an evolutionary process of regulations and inferring the reliability of the disclosed ICW from the magnitude of the negative association between disclosed ICW and investment efficiency, I first document that in the pre-adoption period, the association between Canadian firms’ disclosed ICW and their investment efficiency is insignificant; however, in the post-adoption period, the disclosed ICW negatively affects firms’ investment efficiency. This finding suggests that the credibility enhancement mechanisms improve the reliability of disclosed ICW in Canada. In addition, using the U.S. sample as a benchmark, I find that in the post-adoption period, the association is weaker between Canadian firms’ disclosed ICW and their investment efficiency, which is consistent with my prediction that the external audit requirement increases the reliability of the disclosed ICW. Overall, the study implies that changes in disclosure regulation lead to efficient resource allocation by improving the reliability of the information disclosed.

This study analyzes the impact of information quality on option returns. I find that firms with low-quality information have call option returns that are significantly lower than firms with high information quality. The findings hold in- and out-of-sample, over different time periods, and are robust to a battery of asset pricing tests. The results suggest that the risk caused by poor information quality has a powerful and non-diversifiable impact on the expected returns of option contracts. Further analysis shows that these results are important when examining the cross-sectional link between stock returns and information quality. Firms with low information quality and equity that is "option-like" have significantly lower future stock returns than firms with high information quality. If this option-like effect is not controlled for in empirical tests, the association between information quality and the cross-section of stock returns is often flat. This is especially true for accounting-based proxies of information quality.

This study analyzes the impact of information quality on option returns. I find that firms with low-quality information have call option returns that are significantly lower than firms with high information quality. The findings hold in- and out-of-sample, over different time periods, and are robust to a battery of asset pricing tests. The results suggest that the risk caused by poor information quality has a powerful and non-diversifiable impact on the expected returns of option contracts. Further analysis shows that these results are important when examining the cross-sectional link between stock returns and information quality. Firms with low information quality and equity that is "option-like" have significantly lower future stock returns than firms with high information quality. If this option-like effect is not controlled for in empirical tests, the association between information quality and the cross-section of stock returns is often flat. This is especially true for accounting-based proxies of information quality.

This thesis first examines the determinants of earnings management in an international setting using the Limited Investor Attention Model of Hirshleifer and Teoh (2003). The model predicts that investor attention reduces earnings management. I have four key findings. First, I document that financial analysts curb adjusted absolute abnormal accruals and absolute performance-matched abnormal accruals in global firms. Second, I document that institutional block-holdings curb adjusted absolute abnormal accruals across the world. Third, I document that analyst following is related to more reduction in earnings management in common law countries than in code-law countries. Fourth, I find that institutional block-holders are more effective monitors in common law countries than in code law countries. This thesis also examines the relation between investor attention and stock mispricing of abnormal accruals in an international setting using the Limited Investor Attention Model of Hirshleifer and Teoh (2003). Consistent with the model’s hypothesis that investor attention reduces stock mispricing, I document three key findings. First, I find a significant and negative correlation between stock mispricing and analyst following in global firms. Second, stock mispricing is negatively correlated with institutional ownership in U.S. firms. Stock mispricing is not significantly correlated with institutional block-holdings in global firms. Third, stock mispricing per dollar of abnormal accrual is decreasing in analyst following for sufficiently large abnormal accruals in U.S. and global firms.

This thesis first examines the determinants of earnings management in an international setting using the Limited Investor Attention Model of Hirshleifer and Teoh (2003). The model predicts that investor attention reduces earnings management. I have four key findings. First, I document that financial analysts curb adjusted absolute abnormal accruals and absolute performance-matched abnormal accruals in global firms. Second, I document that institutional block-holdings curb adjusted absolute abnormal accruals across the world. Third, I document that analyst following is related to more reduction in earnings management in common law countries than in code-law countries. Fourth, I find that institutional block-holders are more effective monitors in common law countries than in code law countries. This thesis also examines the relation between investor attention and stock mispricing of abnormal accruals in an international setting using the Limited Investor Attention Model of Hirshleifer and Teoh (2003). Consistent with the model’s hypothesis that investor attention reduces stock mispricing, I document three key findings. First, I find a significant and negative correlation between stock mispricing and analyst following in global firms. Second, stock mispricing is negatively correlated with institutional ownership in U.S. firms. Stock mispricing is not significantly correlated with institutional block-holdings in global firms. Third, stock mispricing per dollar of abnormal accrual is decreasing in analyst following for sufficiently large abnormal accruals in U.S. and global firms.

A growing number of studies suggest that accounting information risk, primarily idiosyncratic in nature, can be diversified away in the capital market. In this dissertation, I show that accounting information risk, proxied by accruals quality, is priced even if it is entirely idiosyncratic. In particular, building on a model from the ambiguity literature, I demonstrate that (1) in an under-diversified market, idiosyncratic information risk is priced even if it is diversifiable, and (2) in a well-diversified market, idiosyncratic information risk is priced when information is subject to managers' discretion and thus ambiguous. The empirical results corroborate the predictions from the model. Specifically, although an association is observed between (unambiguous if risky) innate accruals quality and cost of capital, the association can be largely mitigated through diversification. However, diversification has little impact on the association between (ambiguous) discretionary accruals quality and cost of capital. Taken together, these findings strengthen our understanding of the fundamental role of accounting information as a basis for capital allocation.

A growing number of studies suggest that accounting information risk, primarily idiosyncratic in nature, can be diversified away in the capital market. In this dissertation, I show that accounting information risk, proxied by accruals quality, is priced even if it is entirely idiosyncratic. In particular, building on a model from the ambiguity literature, I demonstrate that (1) in an under-diversified market, idiosyncratic information risk is priced even if it is diversifiable, and (2) in a well-diversified market, idiosyncratic information risk is priced when information is subject to managers' discretion and thus ambiguous. The empirical results corroborate the predictions from the model. Specifically, although an association is observed between (unambiguous if risky) innate accruals quality and cost of capital, the association can be largely mitigated through diversification. However, diversification has little impact on the association between (ambiguous) discretionary accruals quality and cost of capital. Taken together, these findings strengthen our understanding of the fundamental role of accounting information as a basis for capital allocation.