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Are Firms Biasing Stakeholder Expectations by Attributing Prior Poor Performance to COVID-19?

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  • Hrishikesh Desai

Abstract

Item 503(c) of the United States Securities and Exchange Commission’s (SEC’s) Regulation S-K requires firms to disclose the ‘most significant’ factors that affect them in their Item 1A risk factor disclosures made in their 10-K (annual) or 10-Q (quarterly) SEC filings. Prior to COVID-19, firms discussed risk factors such as liquidity, competition, etc. as part of their Item 1A disclosures. The current pandemic has resulted in the COVID-19 risk factor being widely discussed as part of firms’ Item 1A risk factor disclosures. A ‘firm-specific’ discussion on this transient risk factor is unique in the sense that it can affect the salience of other, already disclosed, less transient but significant risk factors to investors and other stakeholders. Using a sample of 68 firms hard hit by COVID-19 with prior poor performance, I find that market reactions to their Item 1A risk factor disclosures were significantly more positive for firms that disclosed the COVID-19 risk factor in a certain firm-specific manner compared to those that didn’t. These results suggest that stakeholder perceptions of firms’ risk profiles are being biased to some extent as the less transient but other significant risk factors that were already affecting these firms seem to be underweighted by them in evaluating the firms’ risk profiles. I explain this bias further using the meta-theoretical framework of the elaboration likelihood model. I also propose a solution to this problem that involves making these disclosures in the form of risk matrices. JEL Classifications: G38, M10, M40, M41, M48

Suggested Citation

  • Hrishikesh Desai, 2022. "Are Firms Biasing Stakeholder Expectations by Attributing Prior Poor Performance to COVID-19?," IIM Kozhikode Society & Management Review, , vol. 11(2), pages 171-182, July.
    • Handle: RePEc:sae:iimkoz:v:11:y:2022:i:2:p:171-182
    DOI: 10.1177/22779752211061207
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    References listed on IDEAS

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    1. Abhijit Roy & Santanu Kumar Ghosh, 2019. "Determinants of Corporate Environmental Disclosure from an Asian Perspective," IIM Kozhikode Society & Management Review, , vol. 8(2), pages 171-189, July.
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    More about this item

    Keywords

    COVID-19; financial disclosures; firm performance; judgement bias; risk factor disclosures; risk analysis; SEC regulations; elaboration likelihood model;
    All these keywords.

    JEL classification:

    • G38 - Financial Economics - - Corporate Finance and Governance - - - Government Policy and Regulation
    • M10 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Business Administration - - - General
    • M40 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - General
    • M41 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Accounting
    • M48 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Government Policy and Regulation

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