A Meta Analysis of Materiality Studies

David E Vance

doi:10.5430/afr.v11n1p1

Abstract

The Supreme Court and the Public Company Accounting Oversite Board (PCAOB) has said that an amount is material if there is a substantial likelihood it will influence a reasonable investor’s judgment. The American Institute of Certified Public Accountants (AICPA) has said that an amount is material if there is a substantial likelihood it will influence a reasonable user’s judgment. The Financial Accounting Standards Board (FASB) has refused to define materiality. The Securities and Exchange Commission (SEC) has said that qualitative factors can make even small amounts material. Reasonable implies a consensus of opinion. This article is a meta-analysis of 31,155 materiality decisions made by 335 cohorts in 48 studies with the objective of defining what is reasonable. A cohort is a group of like individuals faced with a common materiality decision. Materiality in this study is measured as a percentage of net income. The mean threshold of materiality is 7.84% and the median is 6.81%. Both thresholds are substantially higher than the often-discussed threshold of 5.0%. A quarter of the participants in these studies set the threshold of materiality at 11.90% and the threshold for a statistically significant difference from the consensus is 17.51%. Ultimately, materiality will be decided through civil and criminal litigation. Finders of fact, usually jurors, will be asked to determine what a reasonable investor would conclude. Few jurors have the training and experience of investors, so without context, they can only guess what a reasonable investor would conclude. This study provides that context.

Highlights

Whether something is material is a much-debated issue
The mean threshold of materiality is 7.84% and the median is 6.81% across 31,155 material decisions made by 335 cohorts as shown in Table 2 Descriptive Statistics
There is little difference between materiality measured in an experiment such as a case study or questionnaire and materiality measured by an analysis of historical decisions

Summary

Introduction

Whether something is material is a much-debated issue. What gives rise to a materiality decision? Actions that could give rise to a materiality decision include a mistake, a failure to include or exclude something, or a math error. Failure to properly apply accounting principles such as accounting for leases or bond premium discounts can give rise to a materiality decision. If an item is material, that fact might warrant disclosure, a restatement, or filing an SEC Form 8-K. The concept of materiality can never be used to justify increasing revenue, gain, income or asset value by a small, but arbitrary, amount. Materiality can never be used to justify reducing an expense, loss or liability by a small, but arbitrary, amount

Results

Discussion

Conclusion