Optimal Impairment Rules
Posted: 28 Apr 2009
Date Written: April 28, 2009
We study the optimal accounting policy of a financially constrained firm that pledges assets to raise debt capital for financing a risky project. The accounting system provides information about the value of the collateral. Absent accounting regulation, the optimal accounting system is conditionally conservative: it recognizes an impairment loss if the asset value is below a certain threshold, but never reports unrealized gains. We describe the optimal impairment rule and the optimal precision of the accounting information, and we provide comparative statics that lead to testable predictions on the determinants of impairment rules.
Keywords: Conservatism, Impairment, Debt contracting, Asset measurement
JEL Classification: G32, M41, M44
Suggested Citation: Suggested Citation