Leases:
How did a lobbying group on the new lease exposure draft reflect the financial reporting?
Ashraf Adel (10446125) Amsterdam Business School
Faculty of Economics and Business, University of Amsterdam
Thesis Details
Master thesis Accountancy and Control Track: Accounting
First supervisor: Dr. Sanjay Bissessur Second Supervisor: Dr. Ir. Sander van Triest Student: Ashraf Adel
Student number: 10446125 Date: 22/04/2015 Version: Final Word count: 17.794
Statement of Originality
This document is written by student [Ashraf Adel] who declares to take full responsibility for the contents of this document.
I declare that the text and the work presented in this document is original and that no sources other than those mentioned in the text and its references have been used in creating it.
The Faculty of Economics and Business is responsible solely for the supervision of completion of the work, not for the contents.
Table of contents
1. Introduction……….… 04
2. Literature……….……… 07
3. Standard setting process………..……….... 18
4. Development of hypotheses……… 24 5. Methodology………... 28 6. Results………... 33 7. Conclusion……….. 40 8. Bibliography………... 39 9. Appendices………... 47
Abstract
The International Accounting Standards Board (IASB) & Financial Accounting standard Board (FASB) are proposing fundamental changes to the way lease contracts are accounted for by both lessees and lessors. The IASB and the FASB introduced an Exposure Draft (ED) introducing several changes into the lessor and the lessee accounting. This paper will examine the relation between the off balance sheet exposure risk of the firm and its intensity of the lobbying behavior to keep the operating lease off balance. We hypothesize that there is a positive association between the intensity of off balance sheet assets & liabilities exposure and the likelihood to send a letter to the International Accounting standards Board (IASB), as well as the opposition to the inclusion of the assets and liabilities into its balance sheet and the introduction of the Exposure Draft (ED). Our empirical test cannot confirm our hypothesis. Our findings are not supported by the hypothesis.
1. Introduction
In this thesis, I will examine the role of lobbying in the standard setting process and consequently the financial reporting process. I shall examine the standard setting process for leases and the effect of corporate lobbying for it.
1.1. Research Objectives
Lobbying in accounting has been defined as a collective term for the actions taken by interested parties to influence the rule-making body (Sutton, 1984). Written submissions are only one aspect of the several actions encompassed within lobbying, but are considered the major source available to the researcher. It has been observed that in such written submissions there is a general absence of responses by users of financial statements or their representatives (Sutton, 1984; Tutticci et al., 1994). In this thesis, an empirical analysis of the lobbying submissions is performed. The empirical test follows analytical methods by Tutticci et al. (1994), examining the relative intensity of answers on specific issues and linking the nature of the response to the stance of the respondent. Since the adoption of the International Financial Reporting Standards (IFRS) regulation by the European Commission and the convergence agreement with the Financial Accounting Standards Board (FASB), the IASB’s role grown in importance and possesses the status of a the major standard-setter whose activities are of primary interest to a global audience (Jorissen, liberty, & Van de Poel, 2006). Its standards are developed through lengthy public deliberation and conferment procedures which may encompass carrying out of field tests, calling for, to comment on exposure drafts, public meetings and public hearings. According to Watts and Zimmerman (1986), standard-setting of this type is a political process in which interest groups lobby to affect value conveyance. Although a reasonable number of studies have dealt with the lobbying activities of several interest and influence groups in national private sector standard-setting processes, just a very small number have examined the IASB exposure to the lobbying pressures (e.g., Zeff, 2002). Moreover, the majority of previous studies, have focused on the preparers of financial statements (e.g., Francis, 1987; Georgiou, 2004; Larson, 1997; MacArthur, 1988; Schalow, 1995). I will continue with testing the participation of the preparers of financial statements. This participation, however, is in her analysis of the FASB’s standard-setting process; (Young, 2003) argues that such appeals to
users of financial statements are just used as a rhetorical vehicle by the FASB: users of financial statements are covert figures within the paragraphs of standards. While Young thinks that the users are the covert appeals for the standard setting, I disagree with this conclusion because the standard setting in the majority of Young’s work with regard to standard setting and in his signified message was intent to the preparers of the financial statements. Preparers remained and will be the focus of the standard setting process even within the revised ED, as the bulk comments of letters came of the preparers rather than the users, as we have seen the users more happy with the status quo. The degree of focus on the preparers of financial statements, their participation in the standard-setting process and the amount of influence they exert on the process was negligible. Several studies have studied this issue in general and specifically the lobbyist such as preparers and auditors; Specific major parties, such as preparers, audit firms and other groups (the lessor group), are well disciplined to lobby the standard setters to ensure that their group’s views are heard and their interest is served. However, a prime difficulty faced by accounting standard setter’s world- wide existing in obtaining the views and the stances of the users of financial statements in comparison to the preparers (Weetman, Davie & Collins, 1996; Herz, 2003; Jonas & Young, 1998).
This thesis addresses the relationship between the lobbying activities in response to the exposure draft (ED) issued by the IASB ED 2013/6 and the financial characteristics of the lobbying firms.
1.2 Research Question and Methodology
In this thesis I am examining the assumption that companies with more off-balance sheet risk exposure more likely to respond and send a letter to IASB more specifically, I will examine whether the size, big 4, ROA and Market to book ratio MTB are motivating, explanatory variables for companies to exert their lobbying activities more than companies lacking the above mentioned characteristics. I am analyzing data from the FASB / IASB website, specifically the letters addressed to the board in reaction to the new ED, the analysis of my sample aiming to extract the characteristics we are looking for. My sample will be restricted to letters by firms, to reflect the reaction letter from preparer and exclude a non – preparer.
1.3 Findings and Contribution
This study will contribute to the existing literature on leasing in the following ways. First, this study will show how the proposed presentation of the operating lease under the ED 2013/6 will derive the lobbying behavior of the companies with exposure risk (leased assets or liabilities) and its impact on the financial reporting of these companies to send motivating letter to support the proposed ED or rejecting the proposed ED in a way to serve its interests by manipulating the standard setting process and its impact on the financial reporting. Second, the ED expected to be effective in the future consequently, the results of this study could be of a great importance to the lease industry which is a huge sector with billions of dollars investments. Our findings are not supported by the hypothesis. The remainder of the thesis will discuss a background on the Exposure Draft (ED), literature with regard to off- balance lease, hypothesis, data, results and conclusion.
2. Literature
In this section I will introduce the off balance sheet accounting concept, how it was used under the old accounting rules to hide liabilities, outline the literatures incorporated into this concept, introducing the lobbying in the standard setting and its role in this process. I will outline the lobbying literature; introducing the operating lease which forms the major financial risk for the preparers and its literature, concluding with comparison between the recognition versus disclosure concepts. For the completion of my literature a review of the presented Exposure Draft (ED), which explains the mechanism of the new accounting rules and comparing old with the new rules and how the new ED will approach the treatment of the off-balance assets and liabilities. As a result the reader will have a complete understanding about the circumstances that led to the emergence of the lobbying activities in view of the introduction of the Exposure Draft (ED), in order to link the lobbying activities of the preparers and its impact on the financial reporting which forms the essence of my research.
2.1 Off balance – sheet operating lease
Off-balance-sheet (OBS) leases have historically allowed firms to make fixed-cost capital expenditures without recognizing them on the balance sheet. However, the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) are reforming accounting standards for lease financing. The expected result of this joint initiative is a change toward recognizing lease obligations on the balance sheet. The implications of the proposed new accounting standards are wide-ranging: from potential effects on debt covenants and regulatory capital metrics to compliance costs, employee compensation benchmarks, and IT systems. Capitalizing leased assets alters both the performance measures and orderly rankings of firms. US Generally Accepted Accounting Principles (GAAP) classifies lease obligations as a capital lease (recognized on the balance sheet) if the lease meets at least one of the four criteria identified in Accounting Standards Codification topic 840 (formerly FAS No. 13) (Kimberly J, et al 2013):
(1) The agreement specifies that ownership of the asset transfers to the lessee (2) The agreement contains a bargain purchase option
(4) The present value of minimum payments equals or exceeds 90% of fair value.
At the inception of a capital lease, a firm recognizes the liability and a leased asset on the balance sheet. Like assets financed by conventional debt, firms depreciate this type of leased assets over its useful life while a periodic interest accrual decreases the liability over time. However, if a contract does not meet any of the four criteria above, it qualifies as an operating lease and is not recognized on the balance sheet. Future contractual commitments under operating leases are disclosed in the notes which accompany financial statements. Specifically, ASC topic 840 requires disclosure of future minimum payments in the aggregate and for each of five subsequent years.
Critics of the current system contend that firms intentionally structure leases in order to remain OBS (Miller and Bahnson, 2008) and a host of literature suggests that market participants do not fully incorporate footnote information. Consistent with intentional balance sheet distortion, Cornaggia et al. (2012) document high levels of excessive leasing among firms investigated by the SEC (or DOJ) for accounting misrepresentation (or fraud) and find that the propensity toward excessive leasing is curtailed by the scrutiny of institutional investors. In response to concerns about balance sheet distortion, FASB and IASB (Boards) established a joint project in 2009 to reconsider lease accounting standards. The stated objective of the project is to “to develop a new approach to lease accounting that would ensure that assets and liabilities arising under leases are recognized in the statement of financial position” in response to the critique that current standards are failing to meet the needs of users of financial statements because they do not provide a faithful representation of leasing transactions”. In particular, they omit relevant information, shall lead to a lack of comparability and undue complexity because of the sharp bright-line distinction between capital leases and operating leases. Although traditional theories of corporate capital structure, focus on the demand for debt versus equity capital, the supply of capital is also determined by potential borrower and lender risk profiles. Financially distressed firms may be unable to raise conventional debt or equity capital to purchase equipment. Such distressed firms resort to lease financing (i.e., Renting) or curtail operations. The roles of financial health, expected costs of bankruptcy, and access to external funds in the “lease versus buy” decision are explored by Krishnan and Moyer (1994), Barclay and Smith (1995), Sharpe and Nguyen (1995), Graham et al. (1998),
Eisfeldt and Rampini (2009), and Rampini and Viswanathan (2013). A second consideration is the borrowing (or leasing) firms’ marginal tax rates relative to the lender (or lessor). A profitable lessor can take advantage of the tax benefits of interest and depreciation and thus offer lower-cost financing to the lessee unable to fully utilize the tax benefits of ownership; Lewis and Schallheim (1992) and Graham et al. (1998).12 A third consideration is the growth potential of the borrowing (or leasing) firm. Drawing on Myers’ (1977) underinvestment problem associated with fixed-cost financing, Graham et al. (1998) suggest that firms with more growth options in their investment opportunity sets should have a lower proportion of fixed claims including leases in their capital structure. Yan (2006) suggests a more complicated effect of growth options on the propensity to lease whereby the cost of debt financing increases in lease financing to a larger degree for high-growth firms than for low-high-growth firms.
2.2. Lobbying the standard setting process
Previous literature on the lobbying actions of financial statement users can be classified into studies relating to national accounting standard-setters boards and those relating to the IASC/IASB. In the terms of the US regulator, Tandy and Wilburn (1992) reported that, out of a total of 13,369 comment letters received by the FASB in relation to the adoption of its first100 accounting standards, only 239 (185 from individuals and 54 from representative organizations) were submitted by report users. Recently Hochberg, Sapienza, and Vissing-Jørgensen (2009) examined lobbying in connection with the legislation of the Sarbanes-Oxley (SOX) Act. They reported that, out of a total number of 1,948 letters which they analyzed, 125 (6.4%) were from investor groups. This is not a tiny number, but it is relatively smaller than the number of letters submitted by preparers, 629 (32.2%). In terms of the UK’s Accounting Standards Board (ASB), Weetman, Davie, and Collins (1996) examined the lobbying on the issue of the Operating and Financial Review (ASB, 1993). They commented that, out of a total of 104 comment letters, 14 were submitted by report user groups. With regard to the testing of comment letters, the authors conducted interviews with 20 financial statement users, partly in order to establish the reasons why they had not made written submissions. They found that just one respondent has been able to present an evident reason for not responding: those analysts do not expect to play an important role due
to the dominance of the preparers. Van Lent (1997) investigated the lobbying activities of various interest groups, including those of report users, in the standards of Dutch financial reporting for banking and insurance sectors. The author stated that lobbying by most report users was not influential and not strong, but he mentioned the substantial resources devoted to lobbying by the financial press and a large investment firm which succeeded to influence the resulting accounting standard. Vroom’s (1964) expectancy theory, Hardy’s (1994) power framework and Suchman’s (1995) legitimacy typology, Durocher, Fortin, and Coˆ te´ (2007) developed a coherent explanatory model of user’s involvement in the Canadian standard- setting process. The authors Conducted interviews with 27 Canadian report users and their findings, which were established to filter the model their expectations were supported. They noted faulty user’s perception which negatively influenced the active participation of the users, (Durocher et al., 2007). There are also a number of studies which relate to the IASC period. Kenny and Larson (1993), in their examination of the submissions made to the IASC on the issue of Joint Ventures, listed only two reports user organizations. Kenny and Larson (1995) also reported a minimum level of user taking part in their research of relating to 14 exposure drafts that the IASC published between 1989 and 1992. They noted that, out of a total of 764 letters, only 26 were submitted by financial analyst organizations (submitted by 5 different respondents). On the contrary, in their research of the history of the IASC, Zeff and Camfferman (2007) reported that financial analysts ‘were very participative in board discussions, and their view was taken in consideration and attention was paid for it’ (page 220). Finally, two new researches linked to the IASB period. Jorissen et al. (2006) noted that, between 2002 and the summer of 2005, the IASB received just 30 letters from report users, which represents only 1% of the 2,245 letters they received during this period. Larson (2007) tested the participation in followed by the IASB’s Interpretations and Financial Reporting Committee (IFRIC). He examined the comment letters written to IFRIC in relation to its first 18 Draft Interpretations. In compliance with other studies, Larson (2007) reported a small amount of participation by report users. Out of a total of 714 comment letters received, only 34 (5%) were from report users (submitted by 26 different respondents). The analytical approach of Downs (1957) to the study of political science was used by Sutton (1984) to show that producers of financial statements are more likely to lobby than are the users of these financial statements. The reason was that the lobbyists
carry all the cost and receive hardly a fraction of the benefit. The bigger the variation of the group, consequently, the less is the tendency of single members of the group to lobby. Sutton (1984) proposed that wealthy investors will oppose disclosure because they have an advantage through other different channels of communication. Opposite to that, rational consumers would not oppose additional disclosure if there was no charge for its supply. Olson (1965) generalized Downs’ (1957) model comparing lobbying by single members of a group with collective lobbying of the group. He noted that under certain conditions an individual will not contribute to a collective action to obtain a public good even when that action would make the entire group better off. Lindahl (1987) used Olson’s (1965) model to examined lobbying by preparers and by accountancy firms but did not analyze users work. Hope and Gray (1982) analyzed lobbying responses from companies and accounting firms. In relation to the management discussion and analysis (MD&A) regulated by the Securities and Exchange Commission (SEC), where there is a “soft” aspect of narrative disclosures explain the accounting numbers, the various participants in the self- interest through the creation of MD&A regulations and to the competition and contradiction between self-interest and the public self-interest. Where there is a distinguished group of lobbyists, some who have responded while others have not, researches also conducted to identify the traits of the lobbyist opposite to the non-lobbyists. Watts and Zimmerman (1978), Kelly (1983), Francis (1987), Deakin (1989) and Ndubizu et al. (1993). All these investigations have mostly considered the reasons for the preparer to lobby, since the preparer lobby has dominated the data available. Tutticci et al. (1994) employed content analysis based on the nature of the response and the support or non-support given to every issue examined. They found particular identifiable strategies, such as using a concept based argument rather than an argument based on economic ramifications, when disagreeing with an issue. Possibly the respondents surmised that the conceptual argument would ally with the standard setters’ “accepted” view. Another method of analyzing the shape (form) and meaning of submitted comments was used previously by O’Ke efe and Soloman (1985) and by MacArthur (1988). Counting votes for and against a measure is one indication of the strength of lobbying (Mian and Smith, 1990; Puro, 1984). Sutton (1984) argued for the superiority of a method which takes into account the nature of the lobbyists’ arguments (found also in Brown (1982) and Hope and Gray (1982)) rather than vote count.
2.2.1 Quantification of lobbying activity
Early research has used several techniques to quantify lobbying activity. There are two problems of quantification – how many (counting) and under which category they fall (categorization) the lobbyists and how to count and categorize their responses. Lobbyists are commonly characterized by reference to groupings defined as seems proper to a certain set of comments and as seems proper to the methodology of quantifying analysis to be applied. While certain groupings varying due to the purported paper (e.g. Francis, 1987; McEnroe, 1993; Sutton, 1984; Tutticci et al., 1994), the common traits that are the corporate respondents (preparers of accounts) comprise about one-third to a half of all respondents by number and that users do not generally feature in such groupings. In quantifying the comments and their influence, some researchers classified them either “for or against” based on the response letter as a whole (Francis, 1987; Mian and Smith, 1990; Watts and Zimmerman, 1978). Other researchers have sought to link the analysis to a selection of issues examined by the certain document “subject of the lobbying process”. McEnroe (1993), who found 102 different types of substantive comments in 110 comment letters and used all the comments in establishing the extent of comment integration, Tutticci et al. (1994) selected, for analysis, 12 issues based on specific questions accompanying the exposure draft. Testing for major nuances of comments by several respondent groups is a relatively primer in nature, relying largely on descriptive analysis (MacArthur, 1988; Mian and Smith, 1990).
2.3. Lease literatures
2.3.1. Operating lease impact on the balance sheet (assets/ liability approach)
Concerning the operating leases, I will concentrate on the impact studies of the regulator's proposals. These studies trying to examine the impact of recording operating leases on the balance sheet as an asset and as a liability. Many studies have attempted to measure the impact in terms of key financial ratios and accounting variables (see Durocher, 2008; Jesswein, 2009; Grossman and Grossman, 2010; Fito´et al., 2013). In summary, these studies have significantly found a major impact from capitalizing leases on financial ratios, these varying across diverse industries. There are two major methods renowned to capitalize
off balance sheet debt (operating leases), on the balance sheet (Beattie et al., 2004). The first one, known as the Constructive Method (Imhoff, 1991, 1997) consists of including in the balance sheet the present value of the discounted future payments derived from operating lease agreements. The second one, known as the Factor Method, is a much easier method, and rarely mentioned in the academic literature but sometimes used by credit rating agencies or analysts. This method involves multiplying annual operating lease rentals by a factor. Research majorly focuses on the constructive capitalization method which, in their opinion, is much more accurate. One of the early studies in this area is a New Zealand study by Bennett and Bradbury (2003), Studied the expected impact of operating lease capitalization of 38 New Zealand companies quoted on the New Zealand Stock Exchange in 1995. Constructive methodology was applied to show that lease capitalization would have a material impact on liabilities (balance sheet) and financial ratios. Particularly debt ratio effect, the current ratio and ROA. They concluded that leverage will have a big increase while liquidity and profitability are potentially to decrease. They also debated the methodology applied by analysts contesting that the selection of the methodology led to an overstatement of lease assets and liabilities. They contested that factor-based methods would mislead the final results and the conclusions. The paper has backed the constructive method up, but does not provide any arguments the adequacy of the proposal. However, the paper concludes by proposing that the regulators should consider the requirement to disclose the net book amount of the leased asset. Goodacre (2003) focuses on the potential impact of operating lease. Capitalization for UK retail companies, he indicates how leasing an essential source of finance is while finance leases result in negligible alterations. Based on the analysis of 102 firms for the period 1994 – 1999, the paper illustrates how operating lease, the major portion of which, are land and buildings (98%), accounts for (28%) reported total assets. After applying the constructive method, the paper provides results of a major impact on nine key performance ratios that include gearing, profitability (including profit margin, ROA and ROE), and interest coverage and asset turnover. The paper also considers how managers try and minimize the effect on those ratios substituting long rentals with shorter and more flexible ones. The paper finds that the capitalization of operating leases alters the ranking of companies in terms of retailers’ financial risk, in performance comparisons and in capital structure considerations, the paper concludes by explaining the
negative effects for the industry and debating that companies in the sector may try to escape the effects by using the substitution effect already mentioned. Another linked study, Mulford and Gram (2007) also focuses on the retail sector and examines the potential impact of operating lease capitalization. The study sampled 19 US companies in 2006 and finds an increase in EBITDA, together with a reduction in income from continuing operations and earnings per share they also find major rise for financial leverage and reduction for debt coverage measures, and the profitability measures ROA and ROE are also reduced. The paper also finds a boost in the operating cash flows and in free cash flows. The authors came to the conclusion that until the lease standards became effective, users will have to manually adjust financial statements to more appropriately reflect the true financial liabilities of the entity. Moreover, a Canadian study by Durocher (2008) uses another model of constructive capitalization method to calculate the potential impact of operating leases on major financial ratios. Results indicated major impacts to the debt-to-asset ratio and a major decrease in the current ratio for all industries considered. A German study by Fu¨ lbier et al. (2008) examines the impact of operating lease capitalization for a sample of 90 companies belonging to the three major indices, DAX 30, MDAX and SDAX for the years 2003 and 2004. The researcher applied the two methods, i.e. Constructive capitalization and the factor method. Their results illustrated a reasonable impact for companies, in particular in the fashion and retail industry. The biggest effect is acted in balance sheet ratios (leverage) but the impact on profitability ratios and market multiples often used for assessment and valuation purposes are only minor. Further, they find that most industries remain almost unchanged and that the relative position in their sample of the companies included remains quite unchanged. Their results are consistent using both methods. The authors conclude that the impacts of operating lease capitalization should not be overstated. Duke et al. (2009) examines the potential impact of operating lease capitalization for 366 firms included in the S&P 500 in 2003. They indicated how companies can ‘stash’ billions of dollars of liabilities and enhance earnings, income and ratios by reporting leases as operating. Beckman and Jervis (2009) Highlighted how the US construction and engineering industry would be particularly affected by the proposal. The authors find a bigger influence on leverage compared to profitability consistent with other studies. The authors concluded that a single model of lease capitalization would make sense, in particular for financial statement
analysis. Singh (2010) analyses the expected impact for a sample of 234 firms for the period 2006 – 2008. Consistent with prior studies, they find major, relative and absolute differences across and within the two industries in relation to financial ratios related to leverage, profitability and interest coverage. Their findings show that in both industries, firms will be hugely affected, while retail firms would be affected in a major extent than restaurant firms. A new standard would be expected to provide investors and financial statement users with more accurate information to assess and value the debt obligations of firms instead of requiring investors to make estimations under the current standard that is currently inexact. Incrementally new and valuable information shall enable external users of financial statements to be more accurate in assessing the entity exposure risk. From this stance, the authors find support for the proposal from a users’ side. Grossmann and Grossmann (2010) conducted an analysis of 91 companies included in the top 200 companies of the Fortune 500 list for 2009. Results indicated major impacts for the current ratio and also for debt-to-assets ratio and a minor impact on profitability. The authors concluded that there may be some disadvantages derived from the capitalization of operating leases, particularly due to the economic consequences that may arise related to the analysis of the financial position of companies. Additionally, the authors also warn about the potential negative effects that this could have for firms regarding access to financing and meeting debt covenants. Further, Kostolansky and Stanki (2011) embraced a likewise approach and examined the effect of the proposal on the financial statements and ratios of the firms and industries represented in the S&P 100 under a diversity of discount rates. The results showed a major impact on specific firms and industries, and large increases and decreases for financial ratios. The author’s support the proposal stating that balance sheet would more representatively presented. Bryan et al. (2010) report on the effect of operating leases in the U.S using Walgreen as a case study. The paper noted that off-balance sheet leasing rose to $1.26 trillion by 2007 which rep- resented an annual growth rate of 8.25% since 2005. They noted that financial figures such as EBITDA and EBIT increase majorly due to the elimination of the lease expense from the SG&A expense. Also, total debt and the debt to capital ratio increases. The most recent paper examining the effect of operating lease capitalization is Fito et al. (2013). They concentrated on Spanish companies for the period 2008 – 2010. Showing, Spain has been chosen as an appealing location due to major lobbying activities by companies in order to
modify or even abolishing the implementation of this new draft paper. They find that total unrecorded liabilities resulting from operating leases represent 18.3% of total liabilities and total unrecorded assets represent approximately 19% of total non-current assets, for the sample analyzed. Results indicated the overall impact on financial ratios of the capitalization of operating leases is statistically significant. In particular, significant changes for the leverage ratios that may affect their capital structure, their debt covenants, their relative position in the market and, in the end, their status before investors and users. A significant effect is also found for ROE and ROA. Further tests are conducted by industry sector and find stronger effects for retail goods and services, energy and technology. Such studies also examined at key factors that may demonstrate the strength of the effect. Size is considered as an important factor, with a positive relation between size and impact (Fito et al., 2013) although for some industries the relation could be in the converse direction, as noted by Singh (2010) who noted that, in the particular case of restaurants, the smaller the firm the bigger the effect (as they use more operating leases compared to big ones).
2.3.2 Operating lease from lender, investor and empirical approach
Lim et al. (2003) examined operating leases and market understating by exactly comparing the impact of operating leases on debt ratings and the yield of new debt issues to that off balance sheet debt for a sample of 6800 firms for the period between 1980 to1999. The researchers concluded that while keeping debt off balance sheet may be useful for debt ratios, it does not mislead the market because bond yields include off balance sheet obligations despite their limited disclosure, in the same way as balance sheet debt. However, a recent study by Cotten et al. (2013) investigated the effect of operating leases on bond ratings by comparing actual bond ratings with synthetic ratings. They find that when operating leases are classified as debt, coverage ratios and synthetic ratings are considerably lower. This indicates that the debt impact is essential to ratings agencies. Finally, they state that ratings may be improved under new lease standards. Lindsey (2006) investigates whether capitalized operating leases and finance lease liabilities are both relevant and sufficiently reliable to be priced and if their valuation varying. The outcome shows that the market perceives both operating and capital leases as financial liabilities of the firm. However, the results show as well that capital market valuing them differently consistent
with the bright lines that determine the criteria to recognize both of them. The author convinced that this information should continue to be disclosed to keep the value relevance of financial information. Sakai (2010) shifts his focus on finance leases and examines the impact of finance lease capitalization on Japanese environment and companies. He compares the market response of the change to recording of leases on the balance sheet to prior disclosure of finance lease information. The author noted that the market does not respond to this change. This implies that there are no differences between recognition and disclosure in perception. From this analysis the author concludes that there is no need to extend the recognition of assets and liabilities, because the footnote disclosure is sufficient from a market point of view and it satisfies the users’ needs. Sengupta and Wang (2011) examine whether the debt market prices off balance sheet debt arising from operating leases for a sample of 173 companies and for the period 1999 – 2001. They hypothesize that credit rating agencies do consider off balance sheet in their analysis and running its empirical test on their assumptions. They noted that (bond) rating agencies do price off balance sheet debt derived from operating lease contracts. They conclude that rating agencies not only price such debt, but also consider it to be as important as capital lease liabilities on the balance sheet. From this point of view, the authors do not provide empirical evidence that supports the inclusion of operating leases on the balance sheet. Andrade et al. (2011) study the effect of operating leases and purchase obligations on CDS market prices and on bankruptcy. They find that credit spreads are directly and positively related to off balance sheet debt arise from operating lease agreements. Meaning, operating leases increase credit spreads. Conclusion shows that the price effect (measured as the CDS spreads for a sample of 376 firms in the period 2004 – 2006) per unit of leverage from leases is consistent with balance sheet debt and quite larger than that of purchase options. They anticipate that this could be because of the fact that leased assets are more essential for the functioning of a distressed firm than purchased ones. Dhaliwal et al. (2011) examines how capital market participants see the financial essence of the leased assets and obligations, with no regard to their accounting processing. In their study, the researchers use ex ante cost of the capital tools based on accounting measurement models to evaluate the risk relevance of operating leases. Their goal is to evaluate if operating leases have the same risk relation to account for ex ante measures of risk as to a firm’s capital leases. As well they examine the changes in the
perception of risk derived from off balance sheet operating leases of investors considering the increase in scrutinizing of them. Their outcomes note that firm’s ex ante cost of equity is positively connected with adjustments resulting from capitalized operating leases and that this relation is not strong for operating leases in relation to capital leases. The authors claim that their findings add more weight to the evidence that market participants believe that lessees retain (partly) both the financial and the operational risk related to operating leases and provide a bit of support for the proposal to eliminate the requirement to classify leases as capital or operating and, instead, require lessees to capitalize all leases. Bratten et al. (2013) came to the conclusion that audit footnote / disclosures about recognized capital leases and unrecognized operating leases are equal. They provide evidence that (1) ‘as-if recognized’ operating lease obligations are in generally trustworthy; (2) both as-if recognized operating lease obligations and recognized capital lease obligations are linked to proxies for costs of debt and equity, and that the associations are statistically indiscernible in significance. A recent study analyzing the proposal from a lender’s perspective by Altamuro et al. (2014) examines whether banks include operating leases in their credit assessments through the interest rate charged on loans and if the lease and lessee’s characteristics affect loan (spreads). Moreover, they analyze the role of credit agencies regarding operating lease adjustments. Comparing as-reported financial ratios with lease adjusted ones for a sample of 5812 loans in the period 2000 – 2009, outcomes reinforced that the latter explain better loan spreads, especially for bigger lenders. They find that banks do price operating leases and also make a difference about which leases should be priced. With regard to the credit agencies, they also find reinforcement for the assessments that credit agencies include operating lease’ amendments in their ratings, the authors came to conclusion that there is no need to worry about current operating lease accounting treatment and also that concerns should be given to a suggestion that capitalizes all leases. Boastman and Dong (2011) examine the effect of operating leases from an equity assessment point view. The researchers use a naive reliance method of financial statements (no operating leases adjustment) and valuation models to illustrate that lease accounting makes no difference in estimating equity value. Using other models such as discounted free cash flows, residual net income and residual operating income models, they noted that equity value is independent, no matter a lease is recorded as an operating lease or a capital lease.
2.3.3 Recognition vs disclosure
SFAS 13, accounting standard applies to leases in the US, differentiate between capital leases that are recognized by lessees as assets and liabilities and operating leases that are treated by lessees as rental arrangements. At the beginning of a capital lease, the lessee recognizes an asset and liability, measured as the present value of the contractually specified lease payments; the lessee recognizes depreciation and interest expense during the lease term. For operating leases, the lessee recognizes cash payments as an expense. Lessees must disclose, for both operating and capital leases, minimum payments for the next five years and a single amount for the years thereafter. Financial statement users can assess (estimate) operating lease liabilities using these disclosures and limited presumptions. Relating operating lease values influence both balance sheets and income statements; see Imhoff et al. (1991, 1997). The accounting differentiation between operating and capital leases is based on whether the lease agreement meets at least one of four criteria (classification criteria for finance & operating lease). A few would contest that economically similar lease arrangement can be readily modified in order to achieve the required accounting treatment (e.g., Imhoff and Thomas 1988; IASB/FASB March 19, 2009). In 2009 the FASB and IASB issued a discussion paper followed by a 2010 exposure draft that would remove the operating versus capital lease discrimination and require balance sheet recognition/recording of nearly all leases (FASB 2009; 2010a). The foundation for results reached at the 2010 exposure draft demonstrates that in a lease agreement a lessee obtains a right-of-use asset and incurs an obligation to initiate lease payments, obligation (a liability). The conditions of the lease, for example, its term and payment, would affect the assessment of the asset and liability, not their existence. I will follow the same logic in this research paper. Market efficiency (the maintained hypothesis of most academic empirical research in financial reporting) presumes parity/equality between recognition and disclosure, i.e., the market meticulously gaining information irrespective of its position within the financial report. However, empirical studies are not a strong supporter of the equivalence argument. Such studies are of two categories. First, there is a series of market-based studies that examine whether market equity risk assessments include and incorporate off-balance sheet disclosure information, and whether these assessments are differentially influenced by disclosure
versus recognition (Bowman, 1980a; Dhaliwal, 1986; Imhoff, Lipe and Wright, 1993; Ely, 1995a; and Gallery and Imhoff, 1998). The major accounting problems which have provided the foundation for such research are unfunded pension liabilities and leases. In the US environment, studies have noted that lease footnote disclosures are associated with market measurement of equity risk (Bowman, 1980a; Imhoff et al, 1993; and Ely, 1995a), despite the fact that there is no clear proof with regard to the method of evaluation applied. However, an Australian study didn’t manage to find market corrections for off-balance sheet operating lease disclosures (Gallery and Imhoff, 1998). Second, there have also been experiment and survey studies that examine the effect of recognition versus disclosure on individual financial statement users (e.g., Harper, Mister and Strawser, 1987 and 1991; Wilkins and Zimmer, 1983a and 1983b; Wilkins, 1984; Munter and Ratcliffe, 1983; and Gopalakrishnan and Parkash, 1996). These studies, the majority of which has been conducted in a US setting, also provide little support for the equivalence of recognition and disclosure. A further motivation for this study is that, in 1996, standard- setters in the UK, US, Canada, Australia and New Zealand, together with the IASC, published a discussion paper. Before we go into the details of the exposure draft, I need to pave the road by mentioning that the lease is the setting meant to examine the lobbying process and its impact on the financial reporting. The introduction of the Exposure Draft (ED) has triggered lobbying activities by the preparers represented by sending a comment letter where they express their interests to keep the financial assets and liabilities off the balance sheet, in order to make the picture complete I needed to introduce a background about the ED which will lay the foundation of the reader to understand the motivation behind the lobbying activities exerted by the preparers.
3. Standard Setting Process
As indicated in section 2, the IASB and FASB follow a rigorous, comprehensive and independent open consultation process commonly referred to as ‘due process’ in order to develop any new standard. The aim is to encourage participation of all stakeholders and provide transparency into the process. All activities are held in public and are usually webcast. The two key documents which govern the IASB's activities are the due process handbook and the IFRS Foundation Constitution. The FASB’s activities are documented in the rule of procedures handbook.
Standard setting process
The due process is operationalized in a six step approach for both IASB and FASB. It is the duty of the trustees to ensure compliance at various points throughout. Below the 6 stages of the due diligence process are described. In some circumstances there are two additional stages as explained below.:
1.Setting the agenda 2. Planning the Project
3. Developing and Publishing the discussion paper 4. Developing and publishing the exposure draft 5. Developing and publishing the standard 6. Post Implementation Review
Standard Process of IASB/FASB
The project starts with a research program (issue of the discussion paper, request for information or research paper) to identify and encourage debate on possible financial reporting matters, elicit comments from interested parties, collect evidence on the nature and extent of perceived shortcomings and assess possible ways of resolving the issues identified. Different interested parties participate in the process, including academics, standard setting bodies and associations. Depending on the outcome the boards will decide whether or not to add a project to its standard-setting agenda. The boards outline two main circumstances under which a project is added to their agenda. The first reason is when ‘current financial reporting information is not portraying an objective and complete reflection of the underlying economics.’ The second is ‘when the expected improvement in the quality of
the information provided to users the benefit justifies the cost of preparing and providing that information.’ They acknowledge that ‘Financial reporting comes at a cost— the cost to prepare, provide, and audit the information.’(FASB)
Figure 4 above briefly describes the rest of the process. The conflict that results in standard setting is because investors want an ‘open window’ into corporations whilst corporate executives want a ‘Closed door’. (The Summa by Professor David Albrecht, Jan 2010). Standard setters have a role to draw the line in such a place so as to serve as an effective compromise between them and achieve their overall objective. As mentioned earlier, ‘the [boards] solicit views and suggestions through its consultations with a wide range of interested parties and formally invite the public to comment on discussion papers and exposure drafts. The ‘Comment letters play a vital role in the [the boards] formal deliberative process. To be responsive to the views received in comment letters, the [the boards] posts on the website a summary of its position on the major points raised in the letters, once they have been considered. In addition the [boards] responds to the main issues raised in comment letters’ (IASB Due Process Handbook)
3.1 Lease Standard Setting Process
This section provides a timeline for the lease project. A discussion paper (2009 DP) titled ‘Lease: Preliminary view’ was issued on 19thMarch in 2009 outlining proposed changes to the Lease accounting standards and inviting for comments till 17th July2009. “2009 DP” introduced The ROU model. In line with the due diligence process, the boards undertook several
consultations, deliberations and outreach meetings both public and private, fieldwork meetings, public roundtable discussions, in comment letters. In total 302 comment letters were received for “2009 DP”. Based on feedback received, the boards, on August 17, 2010 issued a joint exposure draft (2010 ED). The ED 2010 further developed the ROU model. It was published with public comment open till 15 Dec, 2010. 786 comment letters were received to the “2010 ED”. The ED proposed accounting framework that sought to replace the “ownership model” with the “right of use model” and to abolish off balance sheet “operating leases” was issued. Again feedback was received from a wide range of constituents. About 800 comment letters were received and following the Board’s deliberations after reviewing the letters and holding numerous joint working group meetings, public roundtables, workshops, webcasts and other outreach activities, a Revised Lease Exposure
Draft (2013 ED) was issued on May 16th2013 with a 120-day public comment deadline of 13th September 2013. The boards sought comments on 12 questions. Questions 1 to 8 were applicable to both IASB and FASB, 9 to 11 specifically for FASB US GAAP and the question 12 specifically for IASB IFRS. During the comment period the boards undertook different outreach activities to obtain additional feedback to be considered when the standard is being finalized. By employing diverse consultation mechanisms and re-deliberations, the boards expect to have received sufficient information to proceed with and finalize the Standard. Surprisingly 641 comment letters (82 % of 2010 ED) were still received from various stakeholders around the world. In November 2013, the Boards were presented with an overview and summary of the comments/feedback on the RED by their staff and in January 2014, the Boards held their first formal re-deliberation session. ‘While the Boards clearly remarked that no, decisions would be made at the January meeting, then take away from the session was that there is still a long way to go in this epic saga and they are far from consensus on any of the main issues. (CBRE) Other bodies that have contributed to this process in forums, round table discussion, via letters, are industry associations, FASB’s investor advisory council (IAC), stakeholder groups, financial analysts the original anticipated issue of the final standard was by year-end 2014.’ It is now speculated that the effective date will be 2016 with restatement of comparative figures. As to whether the goal post will be maintained or shifted, time will tell.
3.2 Lobbying Theory and Practice
Lobbying is a complex mechanism used by standard setting bodies to engage constituents in the standard setting process. Lobbyists could potentially educate, inform, and often provide valuable information for legislators and by that allow legislators to find out about topics or issues in areas that they may not even have the expertise. Sutton (1984) describes lobbying as the collective effort of individuals and organizations to promote or obstruct new financial accounting rules. It engages by identifying, promoting and embracing a certain course of action. (Avner, 2002,) also describes lobbying as ‘a focused way of advocating to sway the legislators’ decision making. Lobbying strategies can be categorized into direct and indirect mechanisms. Direct lobbying is the primary strategy, whereby the lobbyists meet the accounting standard, making bodies or legislators and persuade them to consider their concerns.
The indirect lobbying embraces the use of letters as a campaign strategy. Lobbyists [sometimes] encourage other interested parties to write letters that advocate for changes in certain circumstances. The parties are sending these letters to the legislators with a hope that it would influence their decision making. In most cases, the indirect strategy is the best for extremely large groups that can write many letters to encourage collective bargain (Avner, 2002).The letters can be private, addressed directly to the boards as in the case of Swiss Company, Novartis, which threatened to switch from IFRS to US GAAP over Goodwill standard; or it can be from an industrial representative by lobby groups like the Financial Executives International and the Business Roundtable in the US or general response comment letters by several interested groups or individuals as in the case of the lease project under review.
3.2.1 Interest Group Theory
The theories on lobbying have grown over the past decades that their choices in research, depends on the objective and approach of the researcher. Positive accounting theory, for instance, is used to explain the opportunistic behavior of the lobbyist whilst game theory will be used to conceptualize lobbying as a political process. The ubiquity of lobbying is now so visible in standard setting that, I believe its role has moved beyond politics (lobbying off course) or taking advantage, to expressing legitimate concerns. I use Interest Group theory in this research as I believe that “empirically it resolves several significant anomalies that appear when lobbying is viewed solely through a preference-centered lens” (Hall et al 2006) I do not rule out the preferential nature of lobbying, but with this theory, I look at possible informative signals that can be learnt from the content and context of interest groups. Interest Group is an organization of people with similar policy goals that tries to influence the political process to try to achieve those goals. In so doing, interest groups try to influence every branch and every level of government. It was propounded by Olson (1965) as the “logic of collective action”. He theorized that people act in a group when they are incentivized but argues that some individuals in the group will also have an incentive to “free ride” on the effort of others in the group is working to provide a public good. Where public goods are “non-excludable (i.e. One person cannot reasonably prevent another from consuming the good) and non-rivalries (one person’s consumption of the good does not affect another’s, nor vice-versa)”. Thus, in a given area of public policy, where interest group succeeds in influencing policy, the “public goods” benefits
derived are received by everyone in the area regardless of whether they contribute to the lobbying. The interest-group theory further highlights the costs and benefits of organization and lobbying. In a given standard setting scenario, ‘some individuals and groups are effective at organizing and engaging in collective action, such that they are able, for example, to organize for less than a $1 in order to procure $1 of wealth transfers.
4. Hypothesis development
In the above mentioned, I have paved the road to outline the purpose of my research. In my introduction I have attempted to build up the link between the lobbying behavior of corporate entities and their motivation to send a letter of comment whether to support or decline the introduction of the new exposure draft ED, and how their exposure risk will influence their motivation whether by supporting Yes or rejecting No to the new exposure draft Re ED/2013/6. My hypothesis is:
H1: There is a positive association between the risk exposure of the Operating lease assets and the likelihood of lobbying to record
Assets off balance sheet
I am examining the relationship between receiving a motivated letter from the preparers (leasing companies) and their financial risk exposure reported consequently the financial reporting, more specifically, I am looking for the link between the company sending a reaction letter commenting on the new leasing exposure Draft (ED) and how this reaction will be influenced by their financial exposure in terms of leases. The ED requirements would transform the accounting practices in the leasing industry, which will impose material financial issues such their ability to borrow money and the debt to equity ratio. This being said, companies shall use their lobbying power to dissuade the IASB to keep the current accounting practices as it’s in their favor to hide and keep all operating leases outside the balance sheet. Consequently, they will use the standard setter mechanism as a tool to prevent the new ED or if they won’t succeed in doing this, at least they would like to come within another compromising solution by increasing the current accounting disclosure, rather than changing their current financial reporting system and switching to a more complex accounting practices under the ED 2013/6. Lobbying activities of the preparers may be seen as an attempt to influence to stop or
mitigate the potential outcome of the new ED, which will lead to a material change into the lease industry. Companies are trying to oppose the proposed ED for several reasons such as, increased financial burden, loss of solvency ratio and equity to debt ratios. Adding to that many customers of these leasing companies would prefer an operating lease for several purposes, as it’s considered a part of the off- balance sheet financing and a tool to acquire assets without any depreciation burden on their P&L.
5. Methodology 5.1 Sample
As an input for the model the sample of data consists of a sample of 213 letters of responses related to the exposure draft ED/2013/6 representing preparer’s views. The sample has been filtered and refined to exclude the non-preparers. This filtering process reduced our initial sample to approx. 105 of preparer’s letters as a final sample. The US formed over 70% of the letters received into the IASB, the rest varied between Europe, China and Australia. The tools used in this research to analyze data are a combination of quantitative approach (regression analysis) and the qualitative approach (inductive analysis).
5.2 General Inductive Approach
An outline of a general inductive approach to qualitative data analysis is described and details provided about the assumptions and procedures used. The purposes for using an inductive approach are to (1) to condense extensive and varied raw text data into a brief, summary format; (2) to establish clear links between the research objectives and the summary findings derived from the raw data and (3) to develop of a model or theory about the underlying structure of experiences or processes which are evident in the raw data. The inductive approach reflects frequently reported patterns used in qualitative data analysis. Most inductive studies report a model that has between three and eight main categories in the findings. The general inductive approach provides a convenient and efficient way of analyzing qualitative data for many research purposes. The outcomes of the analysis may be indistinguishable from those derived from a grounded theory approach. A general inductive approach to qualitative data analysis is represented in a wide range of literature that documents the underlying assumptions and procedures associated with analyzing qualitative data. Many of these are associated with specific approaches or traditions such as grounded theory (Strauss & Corbin, 1990), phenomenology (e.g., Van Manen, 1990), discourse analysis (e.g., Potter & Wetherall, 1994) and narrative analysis (e.g., Leiblich, 1998). However, some analytic approaches are "generic" and are not labelled within one of the specific traditions of qualitative research (e.g., Ezzy, 2002; Pope, Ziebland, & Mays, 2000; Silverman, 2000). In working
with researchers who adopt what has been described as a "critical realist" epistemology (Miles & Huberman, 1994) the author has found that many researchers unfamiliar with any of the traditional approaches to qualitative analysis, wish to have a straightforward set of procedures to follow without having to learn the technical language or "jargon" associated with many of the traditional approaches. Often they find existing literature on qualitative data analysis too technical to understand and use. The present paper has evolved from the need to provide researchers analyzing qualitative data with a brief, non-technical set of data analysis procedures. A considerable number of authors reporting analyses of qualitative data in journal articles (where space for methodological detail is often restricted) describe a strategy that can be labelled as a "general inductive approach." This strategy is evident in the much qualitative data analysis (Bryman & Burgess, 1994; Dey, 1993), often without an explicit label being given to the analysis strategy. The purpose of the present paper is to describe the key features evident in the general inductive approach and outline a set of procedures that can be used for the analysis of qualitative data.
5.3 Regression analysis Approach
Regression analysis is used when you want to predict a continuous dependent variable from a number of independent variables. If the dependent variable is dichotomous, then logistic regression should be used. (If the split between the two levels of the dependent variable is close to 50-50, then both logistic and linear regression will end up giving you similar results.) The independent variables used in regression can be either continuous or dichotomous. Independent variables with more than two levels can also be used in regression analyses, but they first must be converted into variables that have only two levels. This is called dummy coding and will be discussed later. Usually, regression analysis is used to naturally-occurring variables, as opposed to experimentally manipulated variables, although you can use regression with experimentally manipulated variables. One point to keep in mind with regression analysis is that causal relationships among the variables cannot be determined. While the terminology is such that we say that X "predicts" Y, we cannot say that X "causes" Y.
Table 1 represent Analysis Strategy for Comment Letters. The analysis started with large spreadsheets contain several information about the letter of the preparer, including their company’s information, their point views, issues, and proposals for solution. As we moved ahead with analysis more columns were added with an intention to be more focused on issues address the hypothesis question and trying to find a co-relation between these elements purported for analysis. We tried to find the relation between rejecting the Exposure draft (ED) and the existence of the financial exposure risk (financial assets into the operating lease) and the intensity of such financial risk into the financial statements.
Table 1 Analysis Strategy for Comment Letters Panel A: Categories generalized for analysis from the raw data Type of Data point Data Category 1 Issue Category 2 Reason Category 3 Effect Category 4 Solution Panel B: Categories generalized for analysis from the raw data Type of Data point Data Objecting ED YES/NO Intensity YES/NO Intensity Degree HIGH/LOW 5.4 Methodology
To investigate my hypothesis, I have compared preparers (lease companies) who have sent a comment letter and the magnitude of their risk exposure of the operating lease, to companies who have declined to send comment letter and the magnitude of their risk exposure for an operating lease. The analysis uses the data (comment letters) from the IASB website, The likelihood of firms engaging in lobbying activities with respect of standard setting, will be represented by the following function
ComLet = β1 + β2 (LETTER_INTENSTY) + β3 (ROA) + β4 (MTB) + β5 (big 4) + β6 (Size) + β7 (LETTER_OBJ) + ε (1)
LETTER_INTENSTY = the preparer has intensified financial exposure ROA = Return on Assets
MTB = Market to book ratio
Big 4 = Audit firms (KPMG, E&Yetc...) Size = size of the firm measured by assets LETTER_OBJ = Letter objecting the ED
In my model I examine if the letter from preparers with an intensified financial exposure (leased assets or liabilities) are more likely to be motivated to send a letter to the IASB expressing their opinion, therefore, would be more motivated to adhere to the current lease accounting regulations or keeping the current accounting rules with more disclosure requirements rather than moving towards the new ED/2013/6. A positive relationship between the intensity of the financial exposure and lobbying activities and therefore, more tendencies towards keeping the current accounting rules with more disclosure requirements is expected. Furtermore, a positive relationship between ROA and the lobbying activities due to higher financial exposure, a positive relationship between the size of the preparer and the lobbying activities, a positive relationship between big 4 audit firms and lobbying activities and finally, a negative relationship between sending a letter to reject the ED and the lobbying activities of the preparersare expected.
Table 2 Predicted relationships
Variable Expected Sign Nature of Variable
Intensity of Financial Exposure + Main Variable
ROA + Secondary Variable
SIZE + Secondary Variable
Big 4 + Secondary Variable
MTB ? Secondary Variable
6. Results
6.1 Sample & descriptive analysis
My initial sample consisted of 213 comment letters received in response to the revised exposure draft (ED). These letters were filtered again to 105 comment letters for each of these companies (lobbyist). The initial filtering process was a manual, based on reading and analyzing of the company’s letter followed by analyzing the company’s profile to identify a real preparer (companies engaged in the lease industry), finally isolating the preparers from the non-preparers. Based a financial data were collected from a Data Stream database, data have been collected from 1998 through 2013. The sample consists of 23,675 observations, excluding the year 2013 observations which amounted to 40 observations which will bring it down to 23, 675.
Table 3 Sample selection
Table 3 represents the frequency and the percentage of every year selected in comparison to the total sample size. Table 4 and 5 contains summary statistics. The descriptive statistics in this table shows the minimum, maximum, mean and standard deviation for each variable. Mean in the debt equity & ROA are -0.361 & -6.613, which represent a weak relation between the variables.
Total 83.63 91.67 99.83 100.00 23,675 100 39.66 46.44 53.47 60.60 68.04 75.70 7.65 7.93 8.04 8.16 0.17 9.87 15.29 21.04 26.97 33.18 6.20 6.48 6.78 7.02 7.13 7.44 1,762 1,812 1,878 1,903 1,933 40 4.80 1,201 1.283 1,361 1,405 1,469 5.07 5.42 5.75 5.93 1,136 4.80 1,534 1,606 1,663 1,689 2008 2009 2010 2011 2012 2013 2002 2003 2004 2005 2006 2007
F Year End Freq Percent Cum
1998 1999 2000 2001
Table 4
Summary descriptive statistics
Debt_Equity = Debt to equity ratio Interest_Cov = Interest Coverage Cash_debt = Amount of cash in debts AT = Asset Turnover ROA = Return on asset ratio Size = Size measured in total assets MTB = Market to book ratio BIG 4 = Usage of BIG4 audit firms
The Pearson matrix measures the strength of the linear relationship between normally distributed variables the results show here a very weak relation in the relation between the variables debt/equity and cash debt shows no relation 0.000 while interest and cash debt is very weak 0.000, the relation between the size and ROA is strong 0.041 and strong relation between the BIG 4 and the size is very strong 0.553.
6.2 Univariate analysis
In table 6, we examine the relation between lobbyist companies their financial risk represented by Debt-to equity-ratio and its tendency to send a comment letter to the IASB in an univariate analysis. The mean of the control group is much lower, which indicates sending a letter has a positive relation at 0.398 than group which represent the companies that did send a comment letter to the IASB, which refers to an inverse relation between companies with financial risk represented by Debt to equity ratio and its motivation to send a letter. The same applies to the other variables.
Debt_Equity 23187 ‐0.361 241.105 0.020 0.478 1.270 Interest_Cov 22713 0.192 17.818 0.000 0.085 0.322 Cash_Debt 19938 3.121 202.096 0.039 0.155 0.450 AT 23205 1.063 38.528 0.077 0.370 0.987 ROA 23222 ‐6.613 847.807 ‐0.019 0.012 0.050 Size 23248 12.775 2.909 11.149 13.133 14.630 MTB 21548 5.487 413.565 0.949 1.629 2.758 BIG4 23635 0.571 0.495 0.000 1.000 1.000 Variable N Mean SD P25 P50 P75
Table 6
Univariate tests
These result shows a significant difference between lobbying by sending a letter and Financial exposure financial risk of the lobbyist.
Variable Mean LOBBY Group Mean Control Group Difference p-value
DEBT_EQUITY 1.804 -0.398 2.202 0.000
INTEREST_COV -0.023 0.196 0.218 0.000
Cash_DEBT 1.550 3.153 1.603 0.000
Cash_DEBT = Cash to Debt Ratio Debt_EQUI = Debt to equity Ratio INTERST_COV = Interest Coverage Ratio
Table 5
Summary Pearson/ Spearman correlation Matrix
Letter = Probability of writing a letter Interest_Cov = Interest Coverage
Cash_debt = Amount of cash in debts AT = Asset Turnover ROA = Return on asset ratio Size = Size measured in total assets MTB = Market to book ratio
VARIABLE DEBT EQUITY INTEREST CCASH DEBTAT ROA SIZE MTB
DEBT_EQUI 1.000 0.463 ‐0.262 0.031 ‐0.039 0.416 0.177 0.000 0.000 0.000 0.000 0.000 0.000 0.000 INTREST_Cov 0.001 1.000 ‐0.041 ‐0.135 0.211 0.346 ‐31.000 0.936 0.000 0.000 0.000 0.000 0.000 0.676 CASH_DEBT 0.000 0.000 1.000 0.304 0.584 0.181 0.251 0.995 0.963 0.000 0.000 0.000 0.000 0.000 AT 0.000 0.000 1.000 0.304 0.584 0.181 0.251 0.997 0.000 0.958 0.000 0.000 0.000 0.000 ROA 0.000 ‐0.001 0.001 ‐0.001 1.000 0.274 0.361 0.998 0.944 0.932 0.847 0.000 0.000 0.000 SIZE ‐0.008 ‐0.008 0.003 ‐0.030 0.041 1.000 0.163 0.299 0.304 0.737 0.000 0.000 0.000 0.000 MTB 0.925 ‐0.002 0.000 0.000 0.000 0.010 1.000 0.000 0.981 0.961 0.998 0.983 0.167 0.000 BIG4 0.007 ‐0.002 0.011 ‐0.010 0.011 0.553 0.005 0.333 0.827 0.125 0.180 0.160 0.000 0.475
