Academic journal article Accounting & Taxation

Voluntary Fair Value Disclosures by Bank Holding Companies: The Role of Sec Dear CFO Letters

Academic journal article Accounting & Taxation

Voluntary Fair Value Disclosures by Bank Holding Companies: The Role of Sec Dear CFO Letters

Article excerpt


The SEC's Division of Corporate Finance sent "Dear CFO" letters to certain registrants in 2008 requesting voluntary disclosures to improve transparency of Level 3 fair value measures and valuation of financial instruments in inactive or illiquid markets. We expect these bank holding companies were among the companies that the Division of Corporate Finance targeted. We consider the discussion points from the Dear CFO letters to identify the disclosures to analyze in this study. We find that disclosures about valuation techniques and the use of broker quotes or prices from pricing services are associated with increased information asymmetry and disclosures about the use of market indices or illiquidity adjustments are associated with decreased information asymmetry. When interacted with Level 3 assets, disclosures about changes in valuation techniques intensify the positive relation between Level 3 assets and information asymmetry and disclosures about asset-backed securities mitigate the positive relation between Level 3 assets and information asymmetry. Our study provides insight about the types of disclosures that impacted information asymmetries during the financial crisis. However, this setting of uncertainty and use of a small sample size may limit the ability to generalize these inferences to other time periods or other financial firms.

JEL: G21, M41

KEYWORDS: Voluntary Disclosure, Fair Value Accounting, Information Asymmetry

(ProQuest: ... denotes formulae omitted.)


At the height of the recent financial crisis, U.S. public companies transitioned to a new fair value accounting standard, SFAS-157. The new standard provided a definition of fair value that companies would apply to measure certain financial assets and liabilities that companies had reported at fair value based on prior standards. Companies must measure fair value in a way that is consistent with the price that market participants would pay to sell the asset or transfer the liability in orderly markets. Companies must also classify fair value measures according to a hierarchy in which the least reliable category (Level 3) reflects the use of significant unobservable inputs. Application of SFAS-157 at a time when the U.S. capital market was relatively illiquid (with trading frozen for many of the complex financial instruments at the heart of the crisis) fueled opposition to and criticism of the standard.

Regulators engaged in many efforts to support lending and restore liquidity. In addition, the SEC's Division of Corporate Finance (the Division) identified registrants with relatively higher levels of fair valued financial instruments, particularly asset-backed securities, loans, and derivatives. The Division expected that such registrants would be using significant unobservable inputs in their fair value measurements of these financial instruments. The Division sent "Dear CFO" letters to these registrants during March 2008 and identified certain "discussion points" that it asked the registrants to address in the Management Discussion and Analysis section of their financial reports. The Division continued to engage these registrants by sending them a second Dear CFO letter in September 2008, which focused on fair value measures of financial instruments that were not actively trading at the time.

In this study, we hand collect voluntary disclosures that reflect the Division's recommended discussion points from a sample of the eighteen largest U.S. bank holding companies (BHC). We expect that the Division sent the Dear CFO letters to these companies. The goal of our study is two-fold. First, we determine the frequency and extent to which these eighteen banks, in the midst of the 2007 financial crisis, adhered to the unprecedented explicit guidance from the SEC in its request for voluntary disclosures. Second, we assess whether such voluntary disclosures are associated with changes in firms' information asymmetries. …

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