Critics argue that fair value provisions in U.S. accounting rules exacerbated the recent financial crisis by depleting banks' regulatory capital, which curtailed lending and triggered asset sales, leading to further economic turmoil. Defenders counter-argue that the fair value provisions were insufficient to lead to the pro-cyclical effects alleged by the critics. Our evidence indicates that these provisions did not affect the commercial banking industry in the ways commonly alleged by critics. First, we show that fair value accounting losses had minimal effect on regulatory capital. Then, we examine sales of securities during the crisis, finding mixed evidence that banks sold securities in response to capital-depleting charges. However, the sales that potentially resulted from the charges appear to be economically insignificant, as there was no industry- or firm-level increase in sales of securities during the crisis. JEL Classifications: M41; M42; M44. Data Availability: Data are available from sources identified in the article.

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SYNOPSIS Regulators are concerned that during the process of restating financial statements, firms fail to provide timely progress updates, and delay earnings announcements and regulatory filings. To reduce these perceived lags in disclosure, an advisory group to the Securities and Exchange Commission recommends more use of catch-up adjustments rather than restatements to correct accounting errors. Some investor groups oppose the recommendations because they fear that preparers will begin to correct important errors through catch-up adjustments, which are less transparent than restatements. We inform this debate by examining (1) the length of disclosure lags around restatements to understand the extent of the problem, and (2) the causes of disclosure lags to evaluate whether the reforms would address the root causes of the lags. We find that lengthy lags are uncommon and appear to be largely unavoidable consequences of fraud investigations. When fraud is a factor, the firm typically takes weeks or months to release restatement details, quarterly earnings, and SEC filings, likely because investigations are necessary to restore the firm's ability to produce reliable information. When fraud is not a factor, the firm typically discloses the restatement's earnings impact within a day of the initial restatement announcement, and delays the quarterly earnings announcement and SEC filing by less than a week. Although fraud is by far the most economically significant cause of lags, we also find that lags increase when a restatement involves multiple, long-standing, or large errors. Finally, we show that the restatements targeted by the reforms tend to have the shortest lags, even among non-fraudulent restatements. Thus, the proposed reforms would have a negligible effect on disclosure timeliness because the targeted restatements tend to have short lags to begin with, and because long lags appear to be caused by inherent constraints on producing reliable information. JEL Classifications: M41, G38. Data Availability: Data are available from sources identified in the paper.

Regulators have expressed concern that investors are confused by the large number and questionable materiality of accounting restatements since passage of the Sarbanes-Oxley Act (SOX). This study looks for evidence of investor confusion by examining stock returns and trading volume. I find that the initial price reaction to restatement announcements becomes significantly less negative after SOX, even after controlling for the less egregious nature of post-SOX restatements. To assess whether the less negative reaction represents under-reaction, I test whether stock prices drift negatively over the months and years after the initial reaction. I find no evidence of statistically negative drifts unique to the post-SOX period. In fact, I find that post-SOX drifts are statistically less negative than pre-SOX drifts, suggesting that price efficiency actually improves after SOX. Finally, I find no evidence that post-SOX restatements have higher trading volume after controlling for contemporaneous returns, suggesting no increase in disagreement among investors about the restatements. Thus, the findings provide little evidence that investors are confused by post-SOX restatements.

We test conjectures about the determinants of materiality judgments by examining a financial reporting choice made by firms that discover errors in prior years' financial statements. From late 2004 to mid-2006, more than 250 U.S. firms uncovered and corrected operating lease accounting errors either by formal restatement—required for errors deemed material—or by a less visible current-period “catch-up” adjustment. We test the role of materiality considerations outlined in SAB No. 99 as well as factors outside authoritative guidance in explaining the correction method chosen. Although both quantitative and qualitative materiality considerations cited in the guidance explain a large portion of the variation in firms' error correction decisions, we find that the prior actions of other firms also appear to play a major role. We also find that clerical considerations, but not strategic disclosure concerns, help explain cross-sectional variation in the timing of firms' error correction announcements.