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The Real Effects of Financial Statement Recognition: Evidence from Corporate Credit Ratings, Management Science


We examine whether the recognition versus disclosure of identical accounting information affects the credit rating process and ultimately corporate credit ratings. The primary input into corporate credit ratings is adjusted financial statements, which the rating agencies create by modifying reported financial statements to reflect credit-relevant items not recognized under U.S. Generally Accepted Accounting Principles. The rating agencies have claimed that this process means that accounting changes that move previously disclosed information onto firms’ financial statements have virtually no effect on firms’ adjusted financial statements or their credit ratings. We show that this claim is incorrect using the implementation of Financial Accounting Standards Board Statement No. 158 (SFAS158). This standard did not prescribe any new financial information. Rather, it simply required the balance sheet recognition of a previously disclosed item. We find that firms recognizing an additional pension liability due to SFAS158 had lower leverage on the rating agency adjusted financial statements and received higher corporate credit ratings. This counterintuitive result occurs because the rating agency adjustments made before SFAS158 were punitive relative to the combination of the SFAS158 changes and the rating agency adjustments made after SFAS158. The difference in rating agency adjustments before and after SFAS158 was primarily due to rating agency adjustments in the pre- SFAS158 period that did not account for minimum liability adjustments, an aspect of pension accounting eliminated by SFAS158. Overall, our results indicate that SFAS158 generated real changes in rating agency adjustments and that these changes had real consequences for firms’ credit ratings.




James Naughton, Riddha Basu

Date Published



Naughton, James, and Riddha Basu. 2019. The Real Effects of Financial Statement Recognition: Evidence from Corporate Credit Ratings. Management Science.


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