Michelle Yetman, associate professor of accounting at UC Davis, presents a recent paper, Do Donors Discount Low Quality Accounting Information?
For a copy of the paper, please contact Professor Yongtae Kim (firstname.lastname@example.org)
Prior research finds that donors reward nonprofits that report larger program ratios with more donations, and that managers overstate these ratios, ostensibly to attract donations. We examine how donors react to inflated program ratios and consider several means by which nonprofits can inflate their ratios. We find evidence suggesting that the average donor discounts ratios that are inflated only by our simplest and obvious means, whereby nonprofits report zero fundraising expenses when fundraising costs were likely incurred. We then examine the effect of nonprofit financial data availability on the average donor’s ability to unravel inflated program ratios by using the significant shift in nonprofit accounting data availability that occurred in 1997. We find that before 1997, donors did not discount inflated ratios, suggesting that the significant costs of accessing data prior to 1997 resulted in donors being misled by inflated ratios. After nonprofit accounting information became easily available in 1997, donors began to discount inflated program ratios. Finally, we examine whether more sophisticated donors attach larger discounts to low quality financial reports relative to less sophisticated donors, and find that more sophisticated donors (measured as the percentage of fund balances that have donor imposed restrictions) apply incrementally larger discounts to inflated program ratios. We also find that more sophisticated donors are unable to unravel more complex means of program ratio inflation.