The Confounding Effect of Cost Stickiness in Conservatism Research

Sales decreases affect earnings more than sales increases because of cost stickiness. We hypothesize that this correlated omitted variable constitutes a confounding effect in standard asymmetric timeliness models. Adding sales change direction to the Basu (1997) and Ball et al. (2013b) models decreases measured conservatism significantly and has a large impact on the relative ranking of industry-level conservatism estimates and on inferences about drivers of conservatism. Future empirical research on conditional conservatism should control for the potential confounding effect of sticky costs.

Keywords: timely loss recognition, omitted variable bias, over-investment, managerial stock ownership

JEL Classification: D22, D24, M41

Suggested Citation: Suggested Citation

Banker, Rajiv D. and Basu, Sudipta and Byzalov, Dmitri and Chen, Janice, The Confounding Effect of Cost Stickiness in Conservatism Research (August 17, 2014). AAA 2015 Management Accounting Section (MAS) Meeting, Available at SSRN: https://ssrn.com/abstract=2482025 or http://dx.doi.org/10.2139/ssrn.2482025