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Accounting Conservatism and Firm Investment Efficiency

Author

Listed:
  • Beatriz García

    (Departamento de Economía, Universidad Autónoma de Madrid)

  • Juan Manuel García

    (Departamento de Economía, Universidad Carlos III de Madrid)

  • Fernando Penalva

    (Departamento de Economía, Universidad de Navarra)

Abstract

Conservatism, through the timelier recognition of losses in the income statement, is expected to increase firm investment efficiency through three main channels: (1) by decreasing the adverse effect of information asymmetries between outside equity holders and managers, facilitating the monitoring of managerial investment decisions; (2) by increasing managerial incentives to abandon poorly performing projects earlier and to undertake fewer negative net present-value investments; and (3) by facilitating the access to external financing at lower cost. Using a large US sample for the period 1990-2007 we find a negative association between conservatism and measures of over- and under- investment, and a positive association between conservatism and future profitability. This is consistent with firms reporting more conservative numbers investing more efficiently and in more profitable projects. Our results add to a growing stream of literature suggesting that eliminating conservatism from accounting regulatory frameworks may lead to undesirable economic consequences.

Suggested Citation

  • Beatriz García & Juan Manuel García & Fernando Penalva, "undated". "Accounting Conservatism and Firm Investment Efficiency," Working Papers 201004, Departament Empresa, Universitat Autònoma de Barcelona.
    • Handle: RePEc:bbe:wpaper:201004
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    File URL: http://webs2002.uab.es/dep-economia-empresa/documents/10-4.pdf
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