Do Analysts Blow the Whistle on the Risk of Material Misstatement in China? A Multi-Phase Perspective on Accounting Information

• In Event: Analysts and Markets

Abstract

Measuring risk of material misstatement (RMM) from different ways based on a multi-phase analysis of the accounting information, this paper examines the relation between analyst coverage and RMM using data from capital market of China. Specifically, we consider that accounting information goes through different phases before it reaches investors – information production, information quality control, and information quality attestation. China provides an institutional experimental setting where analysts’ downside forecasts or ratings might hurt the social relationship (“guanxi”) with their clients or potential business cooperation. Instead, analysts may drop their coverage or stop following firms who have RMM in financial reporting. Therefore, from a comprehensive and multi-phase perspective of accounting information, we find that firms with more analyst coverage are less likely to be involved in financial statement fraud, have lower information risk of earnings management, are less likely to have internal control deficiency, and require less audit effort in a later stage. We use couple of robustness checks and main conclusions remain consistent. Our study has implications for regulators and investors who express concerns regarding accounting information regulation and the reliability of financial statement information disclosed by listed firms and suggest that analysts can serve as whistle-blowers on material misstatement.

Authors

• Weijia Hu, Jilin University of Finance and Economics

• Christopher J. Skousen, Utah State University