We investigate how private information and monitoring affect the role of accounting quality in reducing the investment–cash flow sensitivity. We argue that access to private information and direct restrictions on investments are likely to affect the extent to which accounting quality reduces financing constraints. Our results suggest that, for financially constrained firms, banks’ access to private information decreases the value of accounting quality. We further find that, for both financially constrained and unconstrained firms, covenants directly restricting capital expenditures also mitigate the importance of accounting quality. Our results suggest that, when information asymmetry problems are likely to be the largest, accounting quality is most important. However, the importance of accounting quality is mitigated if outside capital suppliers have access to private information and is eliminated if they impose contractual restrictions on investment. We also provide evidence that banks’ access to private information reduces the cash flow sensitivity of cash and mitigates the importance of accounting quality in reducing this sensitivity. This additional evidence suggests that our investment–cash flow sensitivity results are not driven by measurement error of the investment opportunity set.

Les auteurs étudient comment l’information privilégiée et le contrôle continu influent sur le rôle de la qualité de la comptabilité dans la réduction de la sensibilité des investissements aux flux de trésorerie. Selon eux, l’accès à l’information privilégiée et les restrictions directes dont les investissements font l’objet sont susceptibles d’influer sur la mesure dans laquelle la qualité de la comptabilité réduit les contraintes financières. Les résultats de l’étude semblent indiquer que, dans le cas des sociétés soumises à des contraintes financières, l’accès des banques à l’information privilégiée atténue l’importance de la qualité de la comptabilité. Les auteurs constatent en outre que dans les sociétés, qu’elles soient ou non soumises à des contraintes financières, les clauses restrictives qui s’appliquent directement aux dépenses en immobilisations atténuent également l’importance de la qualité de la comptabilité. Les résultats de l’étude donnent à penser que, si les problèmes d’asymétrie de l’information sont susceptibles d’être très importants, la qualité de la comptabilité est elle aussi très importante. Toutefois, l’importance de la qualité de la comptabilité est moindre si les bailleurs de fonds externes ont accès à l’information privilégiée, et elle est nulle si ces bailleurs de fonds imposent à la société des restrictions contractuelles applicables aux investissements. Les auteurs démontrent également que l’accès des banques à l’information privilégiée réduit la sensibilité des liquidités aux flux de trésorerie et atténue l’importance de la qualité de la comptabilité dans la réduction de cette sensibilité. Cette preuve supplémentaire indique, semble‐t‐il, que les résultats obtenus par les auteurs en ce qui a trait à la sensibilité des investissements aux flux de trésorerie ne sont pas le fait d’une erreur de mesure de l’ensemble des occasions d’investissement.

We investigate how private information and monitoring affect the role of accounting quality in reducing the investment-cash flow sensitivity. We argue that access to private information and direct restrictions on investments are likely to affect the extent to which accounting quality reduces financing constraints. Our results suggest that for financially constrained firms, banks' access to private information decreases the value of accounting quality. We further find that, for both financially constrained and unconstrained firms, covenants directly restricting capital expenditures also mitigate the importance of accounting quality. Our results suggest that when information asymmetry problems are likely to be the largest, accounting quality is most important. However, the importance of accounting quality is mitigated if outside capital suppliers have access to private information and is eliminated if they impose contractual restrictions on investment. We also provide evidence that banks' access to private information reduces the cash flow sensitivity of cash and mitigates the importance of accounting quality in reducing this sensitivity. This additional evidence suggests that our investment-cash flow sensitivity results are not driven by measurement error of the investment opportunity set.

In this paper we examine the factors that determine how firms manage large, firm-specific risks, in this case, product liability. The risk of being sued for defective products or damage from defective products poses a small probability of a great loss to the firm. Product liability exposure arises from the firm's choice of products and markets; choices that are fundamental to the firm's business strategy and that are costly to alter. Firms are unlikely to be naturally hedged by cash flows with respect to product liability risk. Cash flows will likely be negatively correlated with product liability claims since product liability claims reduce product demand and increase costs through legal expenses and claims payments.

We provide large sample evidence that credible hedge commitments reduce the agency costs of debt and that accounting conservatism enhances hedge commitments. We examine 2,338 bank loans entered into by 263 mandatory derivative users that are contractually obligated by interest rate protection covenants, 709 voluntary derivative users, and 1,366 non-users. We show that loan contracts are more likely to include interest rate protection covenants when borrowers are less likely to maintain the hedge position once the financing is completed. We find that borrowers who credibly commit to hedge using these covenants significantly reduce their interest rates. While we do not find an average interest savings for voluntary derivative users, we do find a reduction in their loan rates when they practice conservative financial reporting. Our results suggest that accounting conservatism helps borrowers resolve shareholder-creditor conflicts by committing to maintain their hedge positions after completing debt financing.

We investigate delegated monitoring by examining the determinants and effects of including cross-acceleration provisions in public debt contracts. We find that cross-acceleration provision use depends on borrowers' going concern relative to liquidation values, debt repayment structures, credit quality, and financial reporting quality. This suggests that the use of cross-acceleration provisions increases when the costs of cascading defaults are lower, the conflicts between creditor classes are higher, and the benefits of delegating monitoring to banks are higher. We also find a lower interest rate on public debt contracts with cross-acceleration provisions, but the rate reduction depends on borrowers' financial reporting quality.

In this paper, we examine how the exclusion of voluntary and mandatory accounting changes from the calculation of covenant compliance affects the interest rate charged on the loan. After controlling for self-selection bias and other factors known to affect loan spreads, we find that the rate charged is 84 basis points lower when voluntary accounting changes are excluded and 71 basis points lower when mandatory accounting changes are excluded. Our results suggest that borrowers are willing to pay substantially higher interest rates to retain accounting flexibility that may help them avoid covenant violations and to avoid duplicate record-keeping costs.

This paper analyzes security returns of bank holding companies and insurance companies during periods surrounding the adoption of SFAS 115. We find bank share prices were negatively affected by the examined events, but find little share price reaction for insurance companies. Our evidence suggests banks were adversely affected by the standard because of problems with the standard's market value accounting approach. Cross-sectional analysis of event period returns shows that banks that more frequently traded their investments, with longer maturing investments, and that are more fully hedged against interest rate changes, were the most negatively impacted by the standard.

Despite the unquestionable influence of conservatism, disagreement remains about what economic demands lead to financial reporting conservatism. Research examining lenders’ demands for reporting conservatism has been questioned for ignoring conservative contract modifications. We document that these modifications exist but are not ubiquitous. We find contract modifications are more likely when agency costs are higher and litigation, tax and equity demands for conservatism are lower. However, we find a positive association between unexplained reporting conservatism and contract modifications, suggesting contractual modifications alone do not fulfill lenders’ demands for conservatism.