Ethics-Related Cheap Talk in 10-Ks
Abstract
In this study, I investigate the existence of direct ethics-related cheap talk in 10-Ks. Firms can utilize ethics-related language in 10-Ks to emphasize the importance of ethics or ethical behaviors. Direct ethics-related language in corporate financial disclosures may increase the stakeholders’ expectation that firms act ethically. However, ethics-related language in 10-Ks shows cheap talk characteristics since it is qualitative, unaudited, not binding, and not costly to generate. As a result, firms may increase the extent of direct ethics-related language in 10-Ks to obfuscate corporate financial disclosures to confuse stakeholders. I focus on regulatory and financial pressure sources to understand ethics-related cheap talk in 10-Ks. For regulatory pressure, I investigate direct ethics-related language in non-reliance (“Big R”) restatement firms to test the direct ethics-related cheap talk in 10-Ks. I document that firms use more direct ethics-related language in 10-Ks during non-reliance restatement periods and in the year of restatement filing, mainly when the future restatement is triggered by excessive firm misbehavior such as fraud. I also examine whether firms under financial performance pressure increase direct ethics-related language. I show a significant increase in direct ethics-related language for firms that marginally missed analyst EPS forecasts and are incentivized to manage their small losses to small profits. Finally, I investigate the obfuscation component of financial reporting complexity for the firms that increase direct ethics-related language in 10-Ks. I document that when firms with greater ability to obfuscate through ethical language employ more ethics-related language, they, on average, report less decision-useful earnings. These findings show that firms use ethics-related cheap talk in 10-Ks to appear more ethical and signal positive ethics-related signals to the stakeholders to alleviate adverse reactions to negative news, especially under severe regulatory and financial pressure sources.
Subject Area
Accounting|Finance
Recommended Citation
Erdogan, Sedat, "Ethics-Related Cheap Talk in 10-Ks" (2023). ETD Collection for University of Texas, El Paso. AAI30487068.
https://scholarworks.utep.edu/dissertations/AAI30487068