The Effect of Dual Holdings on the Level of Accounting Conservatism

Abstract

This study evaluates whether dual holdings report less conservatively than non-dual holdings. We define dual holdings as firms who have at least one shareholder who is a creditor simultaneously and hypothesize that this governance structure mitigates information asymmetries and therefore the agency conflict of debt. Hence, we assume that governance structures act as substitutes for agency conflict reducing measures like accounting conservatism. Dual holding structures therefore offer a unique even though never used before opportunity to evaluate the impact of information asymmetries on firms’ capital and agency costs as well as the bid-ask spreads and the market valuation. Our sample is based on US-American data and combines several databases who have not been linked before to aggregate 13,483 firm-year observations from 1998-2014.

Our modified model based on Basu (1997) shows that dual holdings indeed report significantly less conservative than non-dual holdings. This result is robust to stricter definitions of dual-holdings. We further apply widely accepted models by El Ghoul et al. (2011), Gompers, Ishii, and Metrick (2010) and Coller and Yohn (1997) to give evidence for lower degrees of information asymmetry in dual holding firms by showing that bid-ask spreads are narrower, cost of capital is lower and the market evaluation measured as Tobin’s Q is higher for firms with this special governance structure. These consistent findings confirm our hypothesis that governance structures act as substitutes for agency conflict reducing measures. These insights are particularly beneficial for financial analysts, investors and all other readers of quarterly and annual reports.

Keywords: dual holdings, accounting conservatism, information asymmetries, agency conflict of debt

JEL Classification: M41