Information Effects of Conservatism in Accounting

Abstract:     
We study the information consequences of conservatism in accounting for financial analysts, debtholders and stockholders. We expect conservatism to improve the firm information environment by ameliorating information asymmetry problems, reducing uncertainty about the firm information structure, and facilitating the assessment of future earnings and cash flows. Using a large US sample for the period 1976-2006, we find that an increase in firm-level conservatism leads to (i) a decrease in information asymmetry, (ii) a decrease in stock returns volatility, (iii) an improvement in analysts’ forecasts accuracy, (iv) a reduction in credit risk, and (v) a decrease in expected cost of equity capital. The results are robust to a number of sensitivity checks.

Number of Pages in PDF File: 41

Keywords: Accounting conservatism, asymmetric reporting, information environment, information precision, uncertainty, cost of capital

JEL Classification: G10, G38, M41

working papers series