Why even the best managers are slow to report bad news

Understanding top managers’ behavioral quirks is sometimes key to predicting their corporate policy choices. What is often overlooked is the speed with which managers and their companies report good news versus bad news. Which tends to be reported faster? The answer has significant implications for both investors and debt holders, making it equally important for those who set accounting standards.

Good news may include unrealized gains; bad news could include asset impairments or bad debts. Capital providers – investors and debt holders – clearly want to know bad news as soon as possible. Early awareness helps them make faster, better-informed financial decisions, such as whether to hold or sell stocks or reevaluate the yield on their debts. This preference is well-documented in the literature. A 2014 experimental study separated the “news-givers” from “news-receivers” and observed that, given a choice between good and bad news, about 75 percent of the “news receivers” prefer to hear bad news first. However, in the business context, it is unclear which type of news top managers – the ones delivering the news to the capital providers – prefer to report first.

How quickly “high-ability” managers report bad news

In a recent study, we examined this question by focusing on the “high-ability” and the most capable managers, as identified by their ability to generate higher profits. Research has shown that these high-ability managers deliver better financial results, more accurate forecasts, higher earnings quality, and smarter tax planning. Additionally, they tend to promote a strong culture of accountability within the firms and are less likely to be dismissed for poor performance. Since high-ability managers exhibit corporate outcomes that benefit the firm’s capital providers, they earn substantial discretion over corporate policies that would normally be unavailable to managers of a financially constrained firm. Thus, examining high-ability managers’ financial reporting policies would provide a better and clearer understanding of their true financial reporting preferences. Here, the question remained: what do managers want when deciding on the speed of reporting bad news?

We posited that high-ability managers are likely to delay reporting bad news for three main reasons. The first reason is control. Even in the best of cases, being transparent about negative outcomes – even when they are beyond their control – reduces managers’ ability to control the narrative about their firms in front of capital providers and increases their accountability. Therefore, as a preemptive measure, even high-ability managers would want to slow down the reporting of bad news. Secondly, faster recognition of bad news risks rendering reported earnings uninformative and increasing the risk of lower executive compensation. Finally, we expected that even their innate behavior would be a barrier to the earlier disclosure of bad news. We expected this, since several social psychology studies have consistently documented that, when both good and bad news are available, people intuitively prefer to report good news first rather than bad news.

As expected, our findings show that even the most competent managers often delay sharing bad news. This prompts another important question: why should capital providers tolerate these managerial tendencies in financial reporting?

When corporate risks increase

To answer this question, we looked at how high-performing managers respond under pressure and found that they still tend to delay sharing negative news. Despite a company facing several types of risks, including heavy debt loads, rising default risk, or fraud litigation, high-ability managers often hesitate to disclose negative developments promptly. This pattern indicates that, despite higher corporate risks, capital providers struggle to push these managers to be more transparent. In other words, even in crisis, high-ability leaders often control the timing of bad news, and external stakeholders have limited power to expedite the process.

Conclusion

This study offers lessons for managers, capital providers, and standards-setters. Managers should recognize that personal preferences and behavioral idiosyncrasies can shape a company’s financial reporting policies, which may not always align with the interests of capital providers. Being aware of this phenomenon can help reduce delays in reporting bad news in financial reporting.

For capital providers and standards-setters, this study highlights more than just a management quirk. It shows that, although it is widely accepted that capital providers prefer faster disclosure of bad news, some talented and capable managers still hesitate to comply. Why would capital providers accept this? One reason may be that high-ability managers are hard to replace, so capital providers overlook this behavior. Additionally, we observe no decline in other measures of earnings quality, which may make capital providers more willing to tolerate slower reporting of bad news, especially when they trust an organization’s culture. Drawing on a new machine-learning tool to inspect corporate communications, we confirmed that when a company’s culture shows strong integrity, capital providers are more accepting of these delays.

Still, our research points to a notable behavioral trait that affects how quickly and when bad news is reported among the most valuable and high-performing managers. If ignored, a significant delay in reporting bad news could harm some firms and their capital providers.