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The confounding effect of cost stickiness on conservatism estimates

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  • Banker, Rajiv D.
  • Basu, Sudipta
  • Byzalov, Dmitri
  • Chen, Janice Y.S.

Abstract

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. Controlling for a piecewise linear effect of sales changes in these models decreases the measured asymmetric timeliness significantly and changes inferences about the average level of conservatism and the extent of cross-sectional variation in conservatism. Validation tests confirm that the asymmetry for sales changes is consistent with sticky costs and is distinct from conditional conservatism. Future empirical research on conditional conservatism should recognize the potential confounding effect of sticky costs.

Suggested Citation

  • Banker, Rajiv D. & Basu, Sudipta & Byzalov, Dmitri & Chen, Janice Y.S., 2016. "The confounding effect of cost stickiness on conservatism estimates," Journal of Accounting and Economics, Elsevier, vol. 61(1), pages 203-220.
    • Handle: RePEc:eee:jaecon:v:61:y:2016:i:1:p:203-220
    DOI: 10.1016/j.jacceco.2015.07.001
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    More about this item

    Keywords

    Timely loss recognition; Omitted variable bias; Overinvestment;
    All these keywords.

    JEL classification:

    • D21 - Microeconomics - - Production and Organizations - - - Firm Behavior: Theory
    • D23 - Microeconomics - - Production and Organizations - - - Organizational Behavior; Transaction Costs; Property Rights
    • M40 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - General
    • M41 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Accounting

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