Uniformity vs. Flexibility: Evidence from Pricing of the Pension Obligation

Abstract

We functionally derive the discretionary component of the pension obligation (PBO) based on deviation of actuarial assumptions - discount rate and compensation growth rate - from their respective industry medians. We then examine the implications of allowing discretion in the choice of pension assumptions on the pricing of the PBO. We find no evidence that discretion - as currently allowed under U.S. GAAP - impairs the value relevance of the PBO. We also find that the discretionary component is incrementally value-relevant beyond the non-discretionary component. Additional analyses suggest that these results are unlikely attributable to market fixation on reported PBO or measurement error in our discretionary component. Overall, we find that imposing uniformity in the choice of pension assumptions, on average, may prevent communication of value-relevant information through the PBO.

Keywords: value relevance, pensions, discretion, flexibility, uniformity, earnings management, managerial opportunism, information communication

JEL Classification: M41, M43, G12, G14, G23