What Analysts Need to Know about Accounting for Derivatives

Kawaller, Ira G.

doi:10.2469/faj.v60.n2.2606

Cited by 31 publications

(38 citation statements)

References 2 publications

(2 reference statements)

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“…These two types of complexity are interrelated as accounting standards are developed with specific economic factors in mind (Peterson 2012). Consequently, many firms inaccurately and/or inconsistently account for derivatives in their financial reports, complicating a financial assessment of these firms (Kawaller 2004). However, because analysts possess financial expertise, we evaluate whether and how the economic and reporting complexities of derivatives jointly influence their earnings forecast properties.…”

Section: Hypothesis Developmentmentioning

confidence: 99%

“…According to experts (Kawaller 2004;Ryan 2007), analysts must consider several issues to accurately forecast the earnings of derivatives users. First, analysts need to evaluate what risk exposures exist, their magnitude, and how they vary over time.…”

Section: Earnings Forecast Accuracymentioning

confidence: 99%

“…Unfortunately, a static view of derivatives positions (balance sheet) and hedge results over a limited time frame (income statement) rarely provides the details necessary to assess these issues because derivatives are reported in vastly different ways among the population of users (Kawaller 2004). For example, although hedge accounting matches the value effects of hedge instruments with those of the underlying hedged asset/liabilities to the same period, not all firms qualify and/or choose to practice this method.…”

Section: Earnings Forecast Accuracymentioning

confidence: 99%

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Do analysts understand the economic and reporting complexities of derivatives?

Chang

Donohoe

Sougiannis

2016

Journal of Accounting and Economics

112

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We investigate whether and how the complexity of derivatives influences analysts' earnings forecast properties. Using a difference-in-differences design, we find that, relative to a matched control sample of non-users, analysts' earnings forecasts for new derivatives users are less accurate and more dispersed after derivatives initiation. These results do not appear to be driven by the economic complexity of derivatives, but rather the financial reporting of such economic complexity. Overall, despite their financial expertise, analysts routinely misjudge the earnings implications of firms' derivatives activity. However, we find evidence that a series of derivatives accounting standards has helped analysts improve their forecasts over time.

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Section: Hypothesis Developmentmentioning

confidence: 99%

Section: Earnings Forecast Accuracymentioning

confidence: 99%

Section: Earnings Forecast Accuracymentioning

confidence: 99%

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Do analysts understand the economic and reporting complexities of derivatives?

Chang

Donohoe

Sougiannis

2016

Journal of Accounting and Economics

112

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“…1 Specifically, SFAS 133 requires that firms report derivative-related outcomes in the financial statements, including the comprehensive income statement, balance sheet, and footnotes (Kawaller 2004;Ahmed et al 2006). Investors also can obtain outcome information from press releases in which firms may voluntarily disclose results from derivative use, typically with a focus on favorable outcomes (for example, Southwest Airlines 2005).…”

mentioning

confidence: 99%

“…With non-hedge accounting, derivative gains and losses flow to the income statement(Kawaller 2004). With cash-flow hedges, companies disclose derivative gains and losses as part of comprehensive income disclosures(Ahmed et al 2006).…”

mentioning

confidence: 99%

Investor reactions to derivative use and outcomes

2007

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How do investors evaluate managers who choose whether or not to use derivatives once the outcomes of those decisions become known? Different theories offer different predictions, and we test these in three experiments. Results show that investors are more satisfied with firm managers and assign a higher value to firms when managers use derivatives (that address firm risks) than when they do not. This result occurs even though we hold constant the economic differences typically present when comparing derivative use versus non-use (that is, ex ante risk and ex post outcome), suggesting that investors reward firms that use derivatives. Additional tests reveal that investors believe that managers who use derivatives in these situations exhibit a higher level of decision-making care than those who do not use derivatives. We also document that these inferences about greater decisionmaking care do not apply to the speculative use of derivatives. Overall, our study adds to our understanding of how investors judge companies that use derivatives, given the resulting outcomes of such use.

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Accounting and Disclosure of Derivatives

Chance¹

2008

Essays in Derivatives

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What Analysts Need to Know about Accounting for Derivatives

Cited by 31 publications

References 2 publications

Do analysts understand the economic and reporting complexities of derivatives?

Do analysts understand the economic and reporting complexities of derivatives?

Investor reactions to derivative use and outcomes

Accounting and Disclosure of Derivatives

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