Continuous Monitoring and the Status Quo Effect Presented by: Elaine Mauldin Co-Authors: Jim Hunton & Pat Wheeler

Research Question Why does continuous monitoring induce evaluation apprehension that stimulates risk aversion toward increasing investment in a viable, but risky project? Why do we observe preference for the status quo in the presence of continuous monitoring? OR

Contribution Help explain a dysfunctional effect of continuous monitoring found in prior research. Must understand before we can “fix” Help demonstrate complementary nature of psychology and agency theory that are needed to develop effective solutions. Agency solution of changing horizon of traditional incentive compensation is unlikely to effectively address. Help identify more promising avenues: Provide direction on type of training. Provide suggestion for revising evaluation methods.

Background Prior research (Hunton et al. 2008) finds: C effectively restrains earnings management behavior found in the presence of P and short term incentives – GOOD C reduces willingness to invest in a risky project found in the presence of P and long term incentives - BAD Agency theory effectively explains why C reduces earnings management, but is not so effective in explaining why C increases risk aversion.

What is the Status Quo Effect? Preference for not changing a decision already made. Tetlock & Boettger (1994) offers reasons including: Framing – losses from changing loom larger than gains from changing. Counterfactual reasoning – fall prey to “if only I hadn’t changed.” Impression management – unwilling to admit need for change.

Theory – Status Quo Effect C decreases information asymmetry by increasing immediacy of decision detection. Results in higher perceived need to justify decisions (=increased accountability) Increased accountability magnifies the status quo effect. CM Status Quo

Demonstrating Status Quo Status Quo must be easiest to defend: Standard effects (Tetlock & Boettger 1994) plus it is a neutral point (Lerner & Tetlock 1999): H1: Status Quo perceived easiest to defend Status Quo must be perceived acceptable to superiors: Status Quo generally acceptable (Tetlock & Boettger 1994) H2: Status Quo is perceived acceptable

Vignette Methodology 2 × 2 between-participants experiment: Auditing frequency - periodic or continuous. Incentive horizon - short-term or long-term. Evaluate a manager’s decision to Change quality control expenditures (earnings management setting). No Change in both C Increase in P X long-term Decrease in P X short-term

Monitoring Effect Scheffe’s multiple pair-wise comparisons C > P

Optimal Decision Assessment Decrease Investment = Not consistent with LT Success or Future Opportunities and Unethical Increase Investment = Optimal Decision (significantly higher on LT Success and Future Opportunities) Maintain = Just as ethical as Increase though not as optimal economically

Decision Assessment, Cont. Decrease Investment = Likely to change decision Increase Investment and Maintain = Not likely to change decision Increase and Decrease = Likely made to increase bonus and both are higher than Maintain

H1 – Difficulty of Defense Scheffe’s multiple pair-wise comparisons Maintain < Increase < Decrease

H2 – Decision Acceptability Scheffe’s multiple pair-wise comparisons Maintain=Increase & Both > Decrease

Conclusions Find evidence consistent with status quo being most defensible and acceptable to superiors as an explanation for managers choosing the status quo in both incentive conditions in Hunton et al. (2008). Train superiors in recognizing and discouraging status quo effect. Introduce evaluation methods on a more process oriented basis because holding managers accountability for the process, rather than only the outcome, has been found to reduce stress caused by accountability.