Risk reporting in financial crises: a tale of two countries

• Pages: 181-216
• Published date: 16 October 2020
• Date: 16 October 2020
• DOI: https://doi.org/10.1108/IJAIM-03-2020-0034
• Subject Matter: Accounting & finance,Accounting/accountancy,Accounting methods/systems
• Author: Kaouthar Lajili,Michael Dobler,Daniel Zéghal,Mitchell John Bryan

Risk reporting in f‌inancial crises:

a tale of two countries

Kaouthar Lajili

Telfer School of Management, University of Ottawa, Ottawa, Canada

Michael Dobler

Faculty of Business and Economics, Technische Universität Dresden,

Dresden, Germany

Daniel Zéghal

Telfer School of Management, University of Ottawa, Ottawa, Canada, and

Mitchell John Bryan

MA Economics, University of Ottawa, Ottawa, Canada

Abstract

Purpose –This paper aims to investigate the attributes and information content of risk reporting in two

different institutionaland regulatory, namely, Canadian and German, settings during the periodsurrounding

the f‌inancialcrisis of 2008.

Design/methodology/approach –For a matched sample of manufacturing f‌irmsin the period 2006–

2010, this studyconducts a detailed content analysis of annual reportsto assess and compare the volume and

patterns of risk disclosures. Panel regressions are used to explore how risk disclosures relatedto corporate

risk proxiesand performance indicators.

Findings –Over the sample period, Canadian and German f‌irmsincrease the volume but largely maintain

the patterns of risk disclosures. Risk disclosures relate to corporate risk proxies but are not incrementally

informativeto assess f‌irm performance.

Originality/value –The paper contributes to research on risk reporting by providing detailed cross-

country evidence for a period particularlyshaped by signif‌icant risk. The f‌indings have implications for the

regulationand usefulness of risk reporting.

Keywords Risk management, Operational risk, Risk disclosure, Non-f‌inancial risk,

Information content, Manufacturing sector

Paper type Research paper

1. Introduction

Risk management represents a crucial aspect of organizational f‌inancial health, economic

stability and resilience. However, there is little agreement in the theory and practice of risk

management and control about how to assess various risks (existing and potential new

ones), and manage those risks from a long-term and strategic perspective (Kaplan, 2011;

Dobler et al., 2011;Campbell et al., 2014;Hope et al.,2016). Despite an increase in risk

management disclosure and content analysis studies in the past few years, results provide

The authors gratefully acknowledge the f‌inancial support of the International Research Acceleration

Program (Of‌f‌ice of the Vice President, Research) at the University of Ottawa, the CPA Accounting

and Governance Research Centre, University of Ottawa, Canada and the Dresdner Forum für

Revision und Steuerlehre, Germany.

A tale of two

countries

181

Received7 March 2020

Revised25 July 2020

1September 2020

Accepted7 September 2020

InternationalJournal of

Accounting& Information

Management

Vol.29 No. 2, 2021

pp. 181-216

© Emerald Publishing Limited

1834-7649

DOI 10.1108/IJAIM-03-2020-0034

The current issue and full text archive of this journal is available on Emerald Insight at:

https://www.emerald.com/insight/1834-7649.htm

mixed insights about the usefulness and adequacy of such information (e.g. generic vs

specif‌ic risk information), consistency with more objectively measured f‌irm risk proxies,

managerial incentives in concealing or providing detailed risk information, as well as the

processes through which investors and other stakeholders perceive and act on risk

disclosures in their decision-makingprocesses.

Prior risk disclosure research has established that risk management is a complex

institutional process withmultiple facets, actors, models and impacts both internally(at the

f‌irm level) and externally (at the industry, market, national and international levels).

Previous research also shows mixed results about the volume, nature, quality and

usefulness and information content of risk disclosures in various national contexts in

different industry settings and timeperiods. However, little is still known about the drivers

and effects of disaggregated risk disclosures such as operational and business risk

disclosures, particularly across f‌irms and national boundaries (Hogan and Lodhia, 2011;

Hossain and Farooque, 2019). This information asymmetry in non-f‌inancial risk exposure,

management and disclosure is importantto address because operationaland business risks

may explain and predict subsequent f‌inancial problems and exacerbate f‌inancial risks

which are more readily quantif‌iableand verif‌iable given detailed regulation on f‌inancial risk

disclosure (Heinleand Smith, 2017;Lev, 1974;Yang et al., 2020).

This study aims to examine more closely how and what f‌irms disclose about their

f‌inancial and non-f‌inancial risks in a comparative institutional setting (Canadian and

German contexts) and during the global f‌inancial crisis period surrounding 2008.

Furthermore, we test the quality of the risk information disclosed against risk proxies and

f‌irm market performance to help establishthe usefulness and credibility of risk disclosures.

Thus, we complement and extend prior literature on international risk disclosure (Dobler

et al.,2011;Elshandidy et al.,2015;Hopeet al.,2016).

Theoretically, the potentially proprietary nature of disclosed specif‌ic risk information

may lead to imperfect (or partial) disclosureequilibrium (Heinle and Smith, 2017;Hope et al.,

2016). Due to this potential disincentive to disclose too much risk information, and in

addition to measurement and valuation ambiguities related to risk disclosures, f‌irms in

various jurisdictions tend to provide low quality, generic type of risk disclosures. Indeed,

vague and qualitative narratives with potentially little value for effective, timely and

rational decisions may not be useful to investors and analysts in their f‌irm risk assessment

and portfolio investment decisions. This market imperfection/friction in information

provision led some standard setters and regulatory agencies around the world (such as

Financial Accounting StandardsBoard and the Securities and Exchange Commission in the

USA) to mandate specif‌ic risk disclosuresfrom publicly listed f‌irms particularly in the time

period around the global f‌inancial crisis. In an effort to protect investors and other

stakeholders and reduce the information asymmetries between management (f‌irms) and

investors, regulators in common law countries (e.g. the USA, Canada) responded to this

increased uncertainty in a different way than regulators in code law countries (e.g.

Germany) where a rather principles-based reporting approach to risk and other

uncertainties was the norm (Dobler, 2005). The global f‌inancial crisis of 2008 offers an

interesting context to further examine the implications and effects of different institutional

and cultural settings on f‌irms’risk disclosure behaviors (including changes in such

behaviors and outcomes) during turbulent times. The impact of regulations on actual risk

disclosures and their impact on f‌irm performance remain largely empirical questions. This

paper contributes to this policy and economic debate by examining corporate f‌inancial and

non-f‌inancial risk disclosures, their determinants and usefulness in capital markets in the

Canadian and the German contexts duringthe global f‌inancial crisis of 2008 thus providing

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incremental evidence on the importance of non-f‌inancial risk communication in global

markets.

Using content and regression analyzes, we contribute to the understanding of the

attributes and information content of risk disclosures in two different regulatory settings

while controlling for industry (manufacturing). We document similar patterns in risk

disclosures in both samples but ahigher volume of risk disclosures for the German sample.

Over the period 2006–2010, Canadian and German f‌irms increase the volume but largely

maintain the patterns of risk disclosures. Risk disclosures relate to corporate risk proxies

but are not incrementally informative to assess f‌irm performance. The f‌indings have

implications for the regulationand usefulness of risk reporting.

The remainder of this paper is organized as follows. Section 2 provides the theoretical

and regulatory background for the study, reviews related prior literature and develops the

research hypotheses.Section 3 describes the data collection and researchmethodology while

Section 4 presents and discusses the study’s main f‌indings. Section 5 concludes with a

summary, implications,limitations and suggestions for future research.

2. Theoretical and regulatory background, prior literature and hypotheses

development

2.1 Theoretical background

Corporate disclosure of risk information can be examined within the theoretical lenses of

both agency and institutional theories (Jensen and Meckling, 1976;Oliver, 1991;Suchman,

1995). Agency theory focuses on incentive alignment between agents (management) and

principals (investors and stakeholders in general) given the separation of ownership

and control in large publicly traded f‌irms. Thus, relevant risk information disclosure is

expected to lower agency costs related to information asymmetries arising between

management and external stakeholders and acts as an external monitoring mechanism to

help align managerial incentiveswith owners and stakeholders to maximize f‌irm value and

reduce f‌irms’cost of capital (Heinle and Smith, 2017;Hope et al.,2016;Kothari et al.,2009).

For example, Heinle and Smith (2017) develop a theoretical model showing the price effects

of risk disclosure where investors are uncertain about the variance of a f‌irm’s cash f‌lows

leading to a variance uncertainty premium incorporatedin the stock price. They show that

by disclosing relevant risk information, f‌irms can decrease this variance uncertainty

premium and lower their cost of capital. They also demonstrate that the market responseto

risk disclosure will be more attenuated when the expected level of risk is high. These

theoretical f‌indings seem to support the regulatory changes and pressures for more risk-

related disclosures especially after the global f‌inancial crisis of 2008 (Heinle and Smith,

2017). In this paper, we attempt to provide evidence to further validate these recent

theoretical and regulatorydevelopments in international risk disclosure studies.

In addition to agency theory,socio-political research and institutionaltheory may help to

explain variations in risk disclosure across national boundaries and legal and institutional

contexts. This theoretical approachfocuses on explaining the drivers behind organizational

behaviors (including corporate risk disclosure in this study) that are attributed to social

pressures for conformity to the norms and search for establishing and/or maintaining

legitimacy. For example, the process of the adoption of International Financial Reporting

Standards (IFRS) by Canadian f‌irms which became effective in 2011 represents an

interesting institutional change context to help explain risk disclosure behavior and

practices and how the evolution and alignment with the new international standards

occurred over time. In this study, we specif‌ically investigatethis institutional evolution and

change and compare it with an early adopter of IFRS (namely, Germany) to unravel any

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