Accounting Conservatism and Managerial Incentives
There are two sources of agency costs under moral hazard: (1) distortions in incentive contracts and (2) implementation of suboptimal decisions. In the accounting literature, the relation between conservative accounting and agency costs of type (1) has received considerable attention (cf. Watts 2002). However, little appears to be known about the effects of accounting conservatism on agency costs of type (2) or trade-offs between agency costs of types (1) and (2). The purpose of this study is to examine this void. In a principal-agent setting in which the principal motivates the agent to expend effort using accounting earnings, this study shows that accounting earnings become more useful for reducing agency costs of type (2) when measured conservatively than when measured aggressively. Combined with the result in Kwon et al. (2001) that agency costs of type (1) decrease with accounting conservatism, this analysis suggests that conservative accounting enhances the incentive value of accounting signals with respect to both types of agency costs.
Volume (Year): 51 (2005)
Issue (Month): 11 (November)
|Contact details of provider:|| Postal: 7240 Parkway Drive, Suite 300, Hanover, MD 21076 USA|
Web page: http://www.informs.org/
More information through EDIRC
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Bengt Holmstrom, 1997.
"Moral Hazard and Observability,"
Levine's Working Paper Archive
1205, David K. Levine.
- Basu, Sudipta, 1997. "The conservatism principle and the asymmetric timeliness of earnings," Journal of Accounting and Economics, Elsevier, vol. 24(1), pages 3-37, December.
- Jensen, Michael C. & Meckling, William H., 1976. "Theory of the firm: Managerial behavior, agency costs and ownership structure," Journal of Financial Economics, Elsevier, vol. 3(4), pages 305-360, October.
- Paul R. Milgrom, 1981.
"Good News and Bad News: Representation Theorems and Applications,"
Bell Journal of Economics,
The RAND Corporation, vol. 12(2), pages 380-391, Autumn.
- Paul R. Milgrom, 1979. "Good Nevs and Bad News: Representation Theorems and Applications," Discussion Papers 407R, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
- Richard A. Lambert, 1986. "Executive Effort and Selection of Risky Projects," RAND Journal of Economics, The RAND Corporation, vol. 17(1), pages 77-88, Spring.
- Hao Li, 2001. "A Theory of Conservatism," Journal of Political Economy, University of Chicago Press, vol. 109(3), pages 617-636, June.
- Harris, Milton & Raviv, Artur, 1979. "Optimal incentive contracts with imperfect information," Journal of Economic Theory, Elsevier, vol. 20(2), pages 231-259, April.
- Zhang, Xiao-Jun, 2000. "Conservative accounting and equity valuation," Journal of Accounting and Economics, Elsevier, vol. 29(1), pages 125-149, February.
When requesting a correction, please mention this item's handle: RePEc:inm:ormnsc:v:51:y:2005:i:11:p:1626-1632. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Mirko Janc)
If references are entirely missing, you can add them using this form.