The Effect of Product Market Competition on Conditional and Unconditional Conservative Accounting Procedures

Document Type : Original Article

Authors

• Mohammad Tavakoli ¹
• Ali Daemi Gah ²

¹ Department of Accounting

² Department of Economics and Administrative Sciences, Imam Reza International University of Mashhad, Mashhad, Iran

10.22067/ijaaf.2024.43895.1349

Abstract

Through a cross-sectional analysis, this paper explores the influence of Product Market Competition (PMC) structure on conditional and unconditional accounting conservatism. The study utilizes financial data from the Tehran Stock Exchange from 2012 to 2019. Conditional and unconditional conservatism are measured using Basu's (1997) and Beaver and Ryan's (2000) models, respectively. Additionally, the Herfindahl–Hirschman index (HHI) is employed to introduce exogenous variations in PMC, allowing an assessment of how increased competition in market valuation impacts accounting conservatism in manufacturing companies. Despite previous findings by Dhaliwal et al. (2014) suggesting a positive association between intense PMC and conditional conservatism, the results of this study demonstrate that PMC does not affect the implementation of conditional conservatism. Furthermore, this investigation reveals that PMC has no bearing on applying unconditional conservatism in financial reporting. This aligns with the theory of unconditional conservatism, indicating that companies employ it based on their financial policies. The outcomes of this research contribute to the existing literature on conservatism.

Keywords

• Conditional Conservatism
• PMC
• Political Costs
• Unconditional Conservatism

Main Subjects

• Accounting

---

©2024 The author(s). This is an open access article distributed under Creative Commons Attribution 4.0 International License (CC BY 4.0)

References

1. Ahmed, A. and Duellman, S. (2007), Accounting conservatism and board of director characteristics: An empirical analysis, Journal of Accounting and Economics, 43(5), pp. 411-437. https://doi.org/10.1016/j.jacceco.2007.01.005
2. Ahmed, A., Billings, B.K. Morton. R.M. and Stanford-Harris. M. (2002), The role of accounting conservatism in mitigating bondholder-shareholder conflicts over dividend policy and in reducing debt costs. The Accounting Review, 77(4), pp. 867–890. https://doi.org/10.2308/accr.2002.77.4.867
3. Alchian, A. A. (1950). "Uncertainty, evolution, and economic theory", Journal of Political Economy, 58(3), pp. 211– 221. https://doi.org/10.1016/j.jacceco.2007.01.005
4. Asadi. Gh. and Bayat, M. (2015), The effect of conditional and unconditional conservatism on firm’s value, Management Accounting, 19(67), pp. 1-14 (In Persian).
5. Aven, T. (2016), On the use of conservatism in risk assessments, Reliability Engineering & System Safety, 146, pp. 33-38.
6. Ball, B. and Brown, P. (1968), An Empirical Evaluation of Accounting Income Numbers, Journal of Accounting Research, 6(2), pp. 159-178.
7. Ball, R. and Shivakumar, L. (2006), The role of accruals in asymmetrically timely gain and loss recognition, Journal of Accounting Research, 44(2), pp. 204–242. https://doi.org/10.1111/j.1475-679X.2006.00198.x
8. Ball, R. Kothari S.P. and Robin, A. (2000), The effect of international institutional factors on properties of accounting earnings; Journal of Accounting & Economics, 29(1), pp. 1-52. https://doi.org/10.1016/S0165-4101(00)00012-4
9. Ball, R. Robin, S.P. Wu, J.S. (2003), Incentives versus standards: properties of accounting income in four East Asian countries, Journal of Accounting and Economics, 36(1-3), pp. 235-270. https://doi.org/10.1016/j.jacceco.2003.10.003
10. Ball, R. S. and Shivakumar, L. (2005), Earnings quality in U.K. private firms: Comparative loss recognition timeliness, Journal of Accounting and Economics, 39(1), pp. 83–128. https://doi.org/10.1016/j.jacceco.2004.04.001
11. Basu, S. (1997), The conservatism principle and the asymmetric timeliness of earnings, Journal of Accounting and Economics, 24(1), pp. 3–37. https://doi.org/10.1016/S0165-4101(97)00014-1
12. Beaver, W. H. and Ryan, S. G. (2005), Conditional and unconditional conservatism: Concepts and modeling, Review of Accounting Studies, 10(2–3), pp. 269–309.
13. Beaver, W.H. and Ryan, S.G. (2000), Biases and log sin book value and their effects on the ability of the book–to–market ratio to predict book return on equity, Journal of Accounting Research, 38(1), pp. 1359-1373. https://doi.org/10.2307/2672925
14. Beekes. W. Pope. P. and Young, S. (2004), The Link between Earnings Timeliness, Earnings
Conservatism and Board Composition: evidence from the UK, Corporate Governance, 12, pp.
47-59. https://doi.org/10.1111/j.1467-8683.2004.00342.x
15. Bliss J. H. (1924), Management Through Accounts, The Ronald Press Co., and New York.
16. Chamberlain, E. (1933).The theory of monopolistic competition: A reorientation of the theory of value. Cambridge: Harvard University Press.
17. Cheng, C.L. and Kung, F.H. (2016), The effects of mandatory corporate social responsibility policy on accounting conservatism, Review of Accounting and Finance, 15(1), pp. 2–20. https://doi.org/10.1108/RAF-12-2014-0135
18. Clinch, G. and Verrecchia, R. E. (1997), Competitive disadvantage and discretionary disclosure in industries, Australian Journal of Management, 22(2), pp. 125–137.
19. Cupian, A. and Abduh, M. (2017), Competitive condition and market power of Islamic banks in Indonesia, International Journal of Islamic and Middle Eastern Finance and Management, 10(1), pp.77-91. https://doi.org/10.1108/IMEFM-09-2015-0098
20. Darrough, M. (1993), Disclosure policy and competition: Cornet vs. Bertrand, Accounting Review, Vol. 68, pp. 534–561.
21. Darrough, M. N. and Stoughton, N. M. (1990), Financial disclosure in an entry game, Journal of Accounting and Economics, 12(1-3), pp. 219–243. https://doi.org/10.1016/0165-4101(90)90048-9
22. Deng, S., Li, Y., Lobo, G. J., and Shao, P. (2018). Loan sales and borrowers’ accounting conservatism. Contemporary Accounting Research, 35(2), pp. 1166-1194. https://doi.org/10.1111/1911-3846.12408
23. Dhaliwal, D. Huang, SH. Khurana, I.K. and Pereira. R. (2014), PMC and accounting conservatism, Review of Accounting Studies, 19(4), pp. 1309-1345.
24. Etemadi, H. and Montazeri, J. (2013), The effective factors on capital structure of listed firms in Tehran stock exchange market, Journal of the Accounting and Auditing Review, 20(3), pp. 1-26. (In Persian).
25. Evans, J.H. and Sridhar, S.S. (2002), Disclosure-disciplining mechanisms: Capital markets, product markets, and shareholder litigation, The Accounting Review, 77(3), pp. 595-626. https://doi.org/10.2308/accr.2002.77.3.595
26. Fellner, W. (1949), competition among the few: Oligopoly and similar market structures. New York: Knopf.
27. Feltham, G.A. and Xie, J.Z. (1992), Voluntary financial disclosure in an entry game with continues of types, Contemporary Accounting Research, 9(1), pp. 46-80. https://doi.org/10.1111/j.1911-3846.1992.tb00869.x
28. Folsom, D.M. (2009), Competitive Structure and Conditional Accounting Conservatism, A thesis submitted in partial fulfillment of the requirements for the Doctor of Philosophy degree in Business Administration in the Graduate College of The University of Iowa”; online; https://doi.org/10.1111/j.1468-5957.2008.02122.x
29. Gassen, J. Fülbier, R. U. and Thorsten, S. (2006), International differences in conditional conservatism – The role of unconditional conservatism and income smoothing, European Accounting Review, 15(4), pp. 527-564. https://doi.org/10.1080/09638180601102107
30. Gu, L. (2016), PMC, R&D investment, and stock returns, Journal of Financial Economic, 119(2), pp. 441-445. https://doi.org/10.1016/j.jfineco.2015.09.008
31. Guay, W. R., and Verrecchia, R. E. (2018). Conservative disclosure. Journal of Financial Reporting, 3(1), pp. 73-92. http://ssrn.com/abstract=995562.
32. Hagerman, R.L. and Zmijewski, M. (1979), Some Economic Determinants of Accounting Policy Choice, Journal of Accounting and Economics. 1(2), pp. 141-161. https://doi.org/10.1016/0165-4101(79)90004-1
33. Hui, K.W. Klasa, S. and Yeung, P. E. (2012), Corporate suppliers and customers and accounting conservatism, Journal of Accounting and Economics, 53(1-2), pp. 115–135. https://doi.org/10.1016/j.jacceco.2011.11.007
34. Iatridis, G.E. (2011), Accounting disclosures, accounting quality and conditional and unconditional conservatism, International Review of Financial Analysis, 20(2), pp. 88–102. https://doi.org/10.1016/j.irfa.2011.02.013
35. Khan, M. and Watts, R. L. (2009), Estimation and empirical properties of a firm-year measure of accounting conservatism, Journal of Accounting and Economics, 48(2–3), pp. 132–150. https://doi.org/10.1016/j.jacceco.2009.08.002
36.Kim, J.B. and Zhang, L. (2015), Accounting Conservatism and Stock Price Crash Risk: Firm-level Evidence. University of Hong Kong, Contemporary Accounting Research, 33(1), pp. 412-441. https://doi.org/10.1111/1911-3846.12112
37. Kordlor, A.E. and Shahriary, A.R. (2010), The investigation between political costs (the political hypothesis and conservatism in Tehran Exchange Market), Journal of the accounting and auditing review, 16(57), pp. 3-16 (In Persian)
38. LaFond, R. and Watts, R. L. (2008), The information role of conservative financial statements, The Accounting Review, 83(2), pp. 447–478.
39. Lara, J. M. G., Osma, B. G., and Penalva, F. (2009). The economic determinants of conditional conservatism. Journal of Business Finance & Accounting, 36(3‐4), pp. 336-372.
40. Louati, S., and Boujelbene, Y. (2015). Banks’ stability-efficiency within dual banking system: a stochastic frontier analysis. International Journal of Islamic and Middle Eastern Finance and Management, 8(4), pp. 472-490. https://doi.org/10.1108/IMEFM-12-2014-0121
41. Lu, C. and Trabelsi, S. (2013), Information Asymmetry and Accounting Conservatism under IFRS Adoption, CAAA Annual Conference 2013. SSRN: https://ssrn.com/abstract=2201206
42. Mahdavi, Gh. and Momtazian, A. (2014), Investigating the Relationship between PMC and Unconditional Accounting Conservatism (Case Study: Companies listed on Tehran Stock Exchange), Asian Journal of Research in Banking and Finance, 4(9), pp. 13-27.
43. Mashayekh, Sh. and Kazemi, L. (2015), The effect of applying Iranian accounting standards on the level of conservatism in disclosing accounting information, Journal Accounting Researches, 21, pp. 37-50. (In Persian).
44. Muhammad, A. Xian-zhi, Z and Zhaonan, W. (2017), PMC, regulatory changes, ownership structure and accounting conservatism: Evidence from China, Chinese Management Studies, 11(4), pp. 658-688.
45. Porter, M. E. (1980). Techniques for analyzing industries and competitors. Competitive Strategy. New York: Free Press USA.
46. Qiang, X. (2007), The Effects of Contracting, Litigation, Regulation, and Tax Costs on Conditional and Unconditional Conservatism: Cross Sectional Evidence at the Firm Level, The Accounting Review, 82(3), pp. 759-796.
47. Robinson, J. (1933), The economics of imperfect competition. Working paper, London, Macmillan.
48. Roychowdhury, S. and Watts, R. L. (2007), Asymmetric timeliness of earnings, market-to-book and conservatism in financial reporting, Journal of Accounting and Economics, 44(1-2), pp. 2–31. https://doi.org/10.1016/j.jacceco.2006.12.003
49. Setayesh, M.H.and Shams, K., (2013), The investigation into influential structure on the level of accounting conservatism in listed firm of Tehran Stock Market, Journal of Accounting Knowledge, 4(14), pp. 109-127. (In Persian).
50. Stigler, G. J. (1958), The economies of scale. Journal of Law and Economics, 1, pp. 54–71.
51. Watts, R.L. (2003), Conservatism in accounting, part I: Explanations and implications, Accounting Horizons, 17(3), pp. 207–221. https://doi.org/10.2308/acch.2003.17.3.207
52. Watts, R.L., and Zimmerman, J.L. (1986), Positive Accounting Theory. New Jersey, Prentice Hall.
53. Zimmerman J.L. (1983), Taxes and Firm Size, Journal of Accounting and Economics, 5, pp. 119-149. https://doi.org/10.1016/0165-4101(83)90008-3