State Capitalism and Accounting Conservatism

• In Event: Accounting Conservatism: International Evidence
  In Paper Session: Accounting Conservatism, Compensation, and Auditing: International Evidence

Abstract

Prior research indicates that companies employ conservative accounting to reduce political costs. This study extends the literature to an international setting, focusing on the degree of accounting conservatism exhibited by the investees of Sovereign Wealth Funds (SWFs). We do not find any evidence of incremental conservatism in domestic investees. However, we find consistent evidence of incremental conservatism for large investments in foreign investees. For foreign investees, we hypothesize and find: 1. Foreign investee accounting is more conservative than that of non-investees, but only for large transaction sizes for which political costs are likely to be the most salient. 2. Foreign investees’ incremental conservatism is positively associated with the value of investee securities acquired by SWFs. 3. Foreign investee accounting is more conservative than that of non-investees only in high-political-risk countries; indeed, incremental investee conservatism is negative in low-political-risk countries. 4. The positive association between foreign investee conservatism and transaction size is positively associated with the political-risk of the investee country. The results indicate that SWFs acquiring securities of companies in high-political-risk countries tend to focus on companies whose accounting is more conservative than that of non-investees. The results of the study are consistent with state capitalists seeing accounting conservatism as a means to reduce political costs in international settings.

Authors

• David Godsell, Queen's University, Kingston

• Daniel B Thornton, Queen's University, Kingston