Creditor Control Rights, State of Nature Verification, and Financial Reporting Conservatism
The George Washington University
June 1, 2010
Journal of Accounting & Economics (JAE), Forthcoming
I examine the impact of state-contingent allocation of creditor control rights on financial reporting. Using a discontinuity analysis, I find that firms’ financial reporting becomes more conservative immediately after covenant violations and this effect persists for at least eight quarters. The conservatism effect is more pronounced when creditors possess greater bargaining power, when firms’ operations are more volatile, and when creditors put Chief Restructuring Officers in place. My findings identify a specific channel through which debt financing shapes corporate financial reporting and provide direct evidence supporting the debt contracting explanation for conservatism posited in Watts (2003).
Number of Pages in PDF File: 58
Keywords: Accounting Conservatism, Covenant Violation, Debt Contracting, Control Rights
JEL Classification: D83, G32, M41Accepted Paper Series
Date posted: August 5, 2011 ; Last revised: August 6, 2012
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