Evidence on the Role of Accounting Conservatism in Monitoring Managers' Investment Decisions

Accounting and Finance, Forthcoming

41 Pages Posted: 16 Sep 2007 Last revised: 11 Jun 2010

Anwer S. Ahmed

Texas A&M University - Mays Business School

Scott Duellman

Saint Louis University - Department of Accounting

Date Written: June 1, 2010

Abstract

Watts (2003), among others, argues that conservatism helps in corporate governance by mitigating agency problems associated with managers’ investment decisions. We hypothesize that if conservatism reduces managers’ ex ante incentives to take on negative NPV projects and improves the ex post monitoring of investments, firms with more conservative accounting ought to have higher future profitability and lower likelihood (and magnitude) of future special items charges. Consistent with this expectation, we find that firms with more conservative accounting have (i) higher future cash flows and gross margins, and (ii) lower likelihood and magnitude of special items charges than firms with less conservative accounting.

Keywords: accounting conservatism, corporate governance, agency costs

JEL Classification: G31, G34, M41, M43, M44

Suggested Citation

Ahmed, Anwer S. and Duellman, Scott, Evidence on the Role of Accounting Conservatism in Monitoring Managers' Investment Decisions (June 1, 2010). Accounting and Finance, Forthcoming. Available at SSRN: https://ssrn.com/abstract=1012347 or http://dx.doi.org/10.2139/ssrn.1012347

Anwer S. Ahmed (Contact Author)

Texas A&M University - Mays Business School ( email )

430 Wehner
College Station, TX 77843-4353
United States

Scott Duellman

Saint Louis University - Department of Accounting ( email )

3674 Lindell Blvd.
St. Louis, MO 63108
United States

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