Three Studies on the U.S. Securities and Exchange Commission (SEC) Comment Letters

Abstract

This thesis presents three studies on the comment letters issued by the U.S. Securities and Exchange Commission (SEC) during its filing review process. I examine three types of comment letters and provide evidence that demonstrates the benefits of the SEC's filing review process. Study 1 examines the impact of compensation-related comment letters (CCLs) issued by the SEC on excess chief executive officers' (CEO) compensation. I find that changes in compensation in the two-year window surrounding the release of CCLs are negatively associated with the number of disclosure defects identified in CCLs, and that this association is driven by defects that relate directly to pay or the method by which it was determined, rather than broader governance- or readability-related defects. Cross-sectional analyses suggest that the negative impact of a CCL on excess CEO compensation is concentrated in firms with overpaid CEOs and less powerful CEOs and firms pursuing prospector-oriented strategies. I further show that total disclosure defects, pay-related defects, and governance-related defects are positively associated with the likelihood that the subject firm experiences low shareholder support in subsequent 'say-on-pay' votes, suggesting that enhanced visibility of excess pay and resulting shareholder activism may be one channel through which pressure is brought to bear on firms to reduce excess compensation. Study 2 investigates whether the qualitative characteristics of firms' narrative responses to the SEC's non-GAAP-related comment letters (NGCLs) are associated with non-GAAP earnings quality, as measured by the persistence of items excluded from published non-GAAP metrics. I find that firms with lower quality non-GAAP earnings that induce a comment letter are associated with less readable firm responses to that comment letter. I further find that the association between the readability of response letters and non-GAAP earnings quality is strongest in cases where persistent expenses other than those relating to special items are included in non-GAAP earnings, and where non-GAAP earnings or growth in earnings are positive and their equivalent GAAP measures are negative. I also show that firms whose responses use less causative language and more positive tones are associated with inferior non-GAAP earnings quality. Additional evidence suggests that firms that provide more readable responses are more likely to follow SEC non-GAAP disclosure requirements by reducing the prominence of non-GAAP earnings in the future. Overall, my results demonstrate that the qualitative characteristics of firm responses to NGCLs contain useful information about non-GAAP earnings quality. Study 3 explores the impact of the SEC's revenue recognition comment letters (RCLs) issued to downstream firms (customers) on the investment efficiency of upstream firms (suppliers). I find that customers' RCLs are associated with more efficient investments by suppliers. The baseline results are robust to a host of analyses to mitigate endogeneity, including difference-in-differences, propensity score matching, entropy balancing, and modified control function regression. Further evidence shows that this association is stronger when the information transfer in supply chain is more likely and for suppliers with an information disadvantage. Additional evidence shows that customers' RCLs are associated with better efficiency of suppliers' investments in capital and R&D and that the severity of customers' comment letters is also related to better investment efficiency of suppliers. Overall, the results suggest that customers' RCLs contain valuable information affecting suppliers' investment decisions. Show more