Accounting Measurement Rules in an Entry Game

• In Event: Valuation and Measurement

Abstract

This paper addresses the role of measurement rules commonly used in mandatory financial reports in shaping product market competition in an entry game. In particular, I show the conditions under which conditional conservatism generates higher expected profits for the incumbent than no information (i.e., unconditionally conservative) or full information (fair value) accounting. When voluntary disclosure is considered, conditional conservatism is also useful in supporting a nondisclosure equilibrium because loss recognition prevents low types from trying to mimic high types. Maximizing the incumbent's expected profits with conditional conservatism does not necessarily come at the expense of total surplus. In particular, conditional conservatism can maximize total surplus by blocking the rival's entry into the incumbent's market and forcing it to enter a more competitive alternative market.

Author

• Michael Smith, Boston University