The number of financial restatements made by public companies fell in the decade following the enactment of the Sarbanes-Oxley Act of 2002, according to a recent academic study.
Study explores restatement trends
Susan Scholz, professor at the University of Kansas, authored the report, titled "Financial Restatement Trends in the United States: 2003-2012." The Center for Audit Quality commissioned the study to explore the trends surrounding publicly-disclosed restatements for U.S. and foreign filers registered with the Securities and Exchange Commission.
In looking into this activity, the CAQ explored both the volume and seriousness of restatements made. The report emphasized the differences between Item 4.02 restatements and non-Item 4.02 restatements.
To provide a better framework for interpreting results, the study chronicled the major policy changes that affected restatements, and reviewed some data involving internal control over financial reporting.
"This report takes a deeper look at restatements including the company characteristics of restating companies and analysis of market reactions to restatement announcements," Scholz said in a statement released along with the report. "The findings shed light on the impact of SOX and other regulations on financial restatements."
Restatement data used
The study involved almost 10,479 restatements that SEC-registered firms disclosed between 2005 and 2012. Of these, 4,246 were reported in Item 4.02. The other 6,233, non-Item 4.02 restatements, were either announced before the creation of Item 4.02 or contained in other filings.
All restatement data used came from Audit Analytics, which attempts to include information on all restatements, whether they are made on Form 8-K, scheduled filings on Form 10-K or Form 10-Q, amended filings on Form 10-K/A or Form 10-Q/A, or contained in other forms, including those used by foreign filers and small businesses.
Restatement announcements reached their highest number in 2006 at 1,784, after industry participants implemented SOX Section 404 internal control reporting. This year's figure included 940 Item 4.02 restatements, and 844 non-Item 4.02 restatements.
In subsequent years, the number of Item 4.02 restatements dropped sharply, reaching 255 in 2012. These restatements moved lower every year except 2010, when they rose to 340 from 339.
Non-item 4.02 restatements also dropped during the period, although their decline was slower, resulting in these restatements reaching 483 in 2012. These restatements increased in 2006, 2010 and 2011, hitting 844, 477 and 498, respectively.
During the period, restatements' corrected periods lasted an average of 1.75 years. In 2005 and 2006, these lengths rose to more than two years. Industry participants announced lease restatements in 2005, lasting more than three years in length, which helped spur the longer restatement periods of 2005 and 2006.
In 2008, the average restatement period dropped below 1.5 years. This decline happened as the number of restatements affecting quarterly reports instead of annual versions of these documents moved higher.
Market reactions to restatements
The report delved into how the stock prices of companies reacted when the businesses restated their financial results. Audit Analytics provided additional data for this part of the study, supplying figures for 4,703 restatements total and 2,208 of these restatements made using Item 4.02.
Across all restatements for which data was available, 52 percent lowered previously-reported income, 16 percent increased this financial result and 32 percent had no impact on income. When companies restated their earnings, they experienced an average stock price reaction of negative 1.5 percent.
This reaction was calculated by determining how much the stock price changed in response to the announcement, and then adjusting it for the performance of the broader markets.
When the restatement made the prior financial report non-reliable, the market had a more severe response, with companies suffering an average stock price reaction of negative 2.3 percent. In comparison, non-Item 4.02 restatements had a reaction of only negative 0.06 percent.
The study provided a wealth of figures, and these never could have been calculated without the data provided by Audit Analytics. The services provider is proud to contribute to new research in fields like restatements, and enhance the quality of financial reporting in the U.S.