Using Earnings Conference Call Discussions to Assess Internal Control Quality

KEY TAKE-AWAYS

We show that the content of discussions between financial analysts and managers in earnings conference calls is informative about the quality of firms’ internal controls. When internal control quality is low, information quality and reliability suffer. However, high quality information is necessary for financial analysts in order to accurately forecast firm performance. Consequently, earnings conference call discussions are thematically different in such cases. We use a topic modeling approach to capture this thematic difference. The resulting model significantly predicts internal control material weaknesses out of sample, beyond determinants identified by prior research. We also show that the content of earnings conference call discussions is thematically linked to the nature of internal control material weaknesses, and that the predictive power of earnings conference call discussions is higher when management forecasts are less accurate. Finally, we document that the content of earnings conference call discussions is associated with audit fees. Overall, our results suggest that analysts may serve as an external monitor of internal control systems, thereby safeguarding financial reporting quality.