The Unintended Consequences of the FASB’s Simplification Initiative: Does ASU 2016-09 Reduce the Usefulness of Earnings?

SYNOPSIS

ASU 2016-09, Improvements to Employee Share-Based Payment Accounting, significantly alters the financial reporting for stock-based compensation by requiring the recognition of excess tax benefits and tax deficiencies in net income. We examine whether this change reduces the usefulness of earnings. We find that after ASU 2016-09, the stock market reaction to earnings news becomes weaker for firms affected by ASU 2016-09, contrary to the FASB Simplification Initiative’s explicit goal of reducing cost and complexity in financial reporting while maintaining or improving the usefulness of the reported information. The weaker market reaction is more prevalent among firms with more extensive stock-based compensation and greater stock price volatility. Additional analyses suggest the weaker market reaction is driven by increased earnings volatility and lower earnings persistence. Our results are important to the FASB for understanding the potential costs of simplification, especially as regulators appear poised to continue the trend of simplifying financial reporting.

Data Availability: All data are available from the identified public sources.

JEL Classifications: G10; M41; M48.