Does manager ability influence the classification of lease arrangements?

Abstract

Purpose

The purpose of this paper is to examine the influence of manager ability on a firm’s choice of lease classification and the decision to capitalize vs lease firm-specific assets.

Design/methodology/approach

The authors use regression analysis to examine the association between manager ability, lease classification and asset specificity.

Findings

Using 31,110 firm-year observations from 1998 to 2013, the authors find a significant positive relationship between manager ability and the decision to classify leases as operating. The authors also find that high-ability managers are more likely to capitalize, rather than lease, specialized firm-specific assets.

Research limitations/implications

The results imply that manager ability influences the choice of lease classification, which provides some support for the recent changes to lease accounting in Accounting Standard Update (ASU) 2016-02. The authors also show that asset specificity may serve as a mitigating factor in high-ability managers’ preference for operating leases, which implies that high-ability managers’ concerns with operational efficiency outweigh the benefits of off-balance sheet financing in their purchasing decisions if the asset in question is firm-specific.

Practical implications

The findings may be useful to boards of directors, investors and accounting academics concerned with the role that managerial ability plays in operational decision making and financial reporting.

Originality/value

The results imply that high-ability managers prefer off-balance sheet financing, which is unlikely to limit their access to external capital, but that this relationship is mitigated if the firm requires highly specialized assets.

Citation

Brooks, M., Hairston, S. and Harter, C. (2020), "Does manager ability influence the classification of lease arrangements?", Journal of Applied Accounting Research, Vol. 21 No. 1, pp. 19-37. https://doi.org/10.1108/JAAR-02-2019-0028