Do Disclosed Subsequent Events Pose Risk to Financial Reporting Quality?

• In Event: Audit Reports / Intermediaries

Abstract

Regulators have documented deficiencies in financial reporting due to Type I subsequent events – material events or transactions that relate to recorded balances in the financial statements but occurred after the balance sheet date and prior to the issuance of the financial statements. However, no evidence currently exists surrounding Type II subsequent events which are similarly timed and material events or transactions that do not relate to recorded balances as of the balance sheet date. This study examines the association between disclosed (Type II) subsequent events and impaired financial reporting quality as measured by the need to subsequently restate the financial statements. Using a sample of SEC issuer companies over the period 1999-2013, we find that Type II subsequent events are associated with higher likelihood of subsequent restatement. In additional analysis, we find that this association is likely due to time pressure imposed by the existence of multiple subsequent events and by subsequent events relating to divestitures which are known to be complex and risky. We find no evidence that misclassification of Type I subsequent events as Type II, lower extent of assurance over subsequent events, or company risk explains this association. These findings indicate that Type II subsequent events pose a risk to financial reporting quality and should help stakeholders focus their efforts appropriately to reduce this risk.

Authors

• Keith Czerney, University of Nebraska-Lincoln

• Jaime J Schmidt, University of Texas at Austin

• Anne Margaret Thompson, University of Illinois-Urbana-Champaign

• Wei Zhu, University of Illinois-Urbana-Champaign