Managers with strong track records are more likely to delay reporting bad financial news, according to new research published in Accounting Horizons.
The study, led by Dr Wang and co-authored with Dr Shibashish Mukherjee of Emlyon Business School and Dr Mustafa Reha Okur of Izmir University of Economics, analysed data from nearly 30,000 records of US public companies.
It found that managers rated as highly capable apply lower levels of conditional accounting conservatism, a financial reporting approach designed to protect investors and lenders by ensuring risks are not understated. The approach requires companies to recognise potential losses or bad news more quickly than gains. It sets the expectation that firms should reflect adverse developments, such as declining sales, rising costs or legal risks, in their earnings reports as soon as there is credible evidence they may affect the business. By contrast, managers must be more certain of gains before reporting them.
The research shows that when investors and lenders trust a manager’s ability, they are more willing to tolerate this discretion in financial reporting, often in exchange for benefits such as more stable earnings, greater transparency, better credit ratings and lower cost of debt. But that trust does not always lead to more cautious behaviour.
The study also finds that some high-ability managers report less conservatively even when companies face financial stress, such as falling earnings or rising debt, suggesting that performance-based trust may reduce the pressure to report losses promptly.
A key finding is that high-ability managers often foster a culture of integrity within their firms. This integrity culture plays a central role in building investor trust and can lead to a relaxation of the typical rules governing timely recognition of bad news.
Managers who have earned the trust of investors often face less pressure to report cautiously. That’s not always a bad thing. Our findings show that lower conservatism can coexist with strong integrity and good outcomes, but trust alone should never replace accountability.Dr Wang
Dr Wang said: 'Boards shouldn’t relax reporting discipline just because a CEO has star quality. And when the risks rise, when earnings fall, or debt levels climb, lenders and investors need to insist on timely recognition of bad news. The message here isn’t to stop trusting high performers, but to trust them while still verifying. That trade-off is at the heart of our study'.
Shuo Wang is our Lecturer in Financial Accounting and Programme Director for MSc Accounting and Finance.