Company Reputation Associated With Higher Quality of Financial Reporting, Study Finds

FAYETTEVILLE, Ark. – In the first academic study to examine of the relationship between company reputation and financial-reporting quality, a University of Arkansas accounting researcher found that high-reputation companies are less likely to produce low-quality financial statements.

The study revealed that while good reputation enhances financial-reporting quality, reporting failures do not necessarily damage company reputation, said Linda Myers, associate professor of accounting in the Sam M. Walton College of Business. Financial-reporting quality and reputation change slowly over time, Myers said, so while prior reputation matters for current financial-reporting quality, prior misstatements do not explain current company reputation.

“To our knowledge, this study is the first to provide empirical evidence of the association between company reputation and financial-reporting activities,” Myers said. “Previous research suggests that companies with stronger corporate governance produce higher-quality financial reports, but our research shows that the effect of reputation is complementary to the effect of corporate-governance mechanisms. It seems that both can reduce potential financial statement errors.”

Relying on measures of company reputation developed from Fortune magazine’s America’s Most Admired Companies list, Myers and co-authors Ying Cao at the Chinese University of Hong Kong and Thomas Omer of Texas A&M University sampled 3,795 company observations from 2000 through 2005. Drawing on theoretical research about ways in which reputation affects behavior, as well as previous work on the impact of corporate governance, the researchers investigated the association between company reputation and the likelihood that companies restate their previously issued financial reports.

Regulatory agencies require companies to restate their financial reports if accounting mistakes are discovered. Restatements are the most visible form of impaired financial-reporting quality and they can damage an organization’s reputation and cause stock prices to fall.

The researchers found a negative association between company reputation and the likelihood of restatement, which suggests that concerns about reputation motivate companies to avoid misstating their audited and unaudited financial statements. In other words, because of how the business community specifically and the public in general perceives them, highly admired companies likely are more motivated to develop high-quality financial reporting systems than are other companies.

The study also revealed that high-reputation companies purchase more audit services, likely because audits can also enhance financial-reporting quality, Myers said.

The researchers’ study can be found on the Social Science Research Network Web site at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1317343.