Are Aggressive Reporting Practices Indicative of an Aggressive Corporate Culture?

Abstract

We examine whether firms with aggressive financial and tax reporting practices have a propensity for greater corporate risk-taking across a broad set of investing, financing, and operating decisions, a trait we refer to as a “risk-taking corporate culture.” We use exploratory factor analysis to extract proxies of “risk-taking corporate cultures” and we also test whether the Sarbanes-Oxley Act of 2002 (SOX) altered the association between aggressive reporting and corporate risk-taking in the post-SOX time period. In the pre-SOX period we find a positive association between aggressive reporting and a propensity for corporate risk-taking through external asset growth (e.g., mergers and acquisitions), but a negative association between aggressive reporting and a culture for corporate risk-taking through organic growth (e.g., R&D). Moreover, consistent with evidence in prior research on the improved quality of financial reporting and decreased corporate risk-taking after SOX, the positive association between aggressive reporting and a risk-taking corporate culture is attenuated in the post-SOX period. Overall, our findings are consistent with aggressive reporting practices coinciding with a propensity for corporate risk-taking only in the pre-SOX time period.