“Lending Relationships and the Demand for Accounting Conservatism: Theory and Evidence” by Dr. Jing LI
Dr. Jing LI
Assistant Professor of Accounting
Tepper School of Business
Carnegie Mellon University
We examine the role of lending relationships as a determinant of the demand for accounting conservatism in loan contracts with accounting-based covenants. In our simple theoretical model, private information obtained by relationship lenders allows them to make efficient liquidation decisions. As a result, the optimal accounting system should allocate more control rights to relationship lenders to maximize projects' expected payoffs. We derive two testable predictions from the model: 1) the demand for accounting conservatism increases with the intensity of lending relationships, and 2) the relationship between the ex-ante loan spread and accounting conservatism is more negative as the intensity of lending relationships increases. We find empirical evidence that supports both of these theoretical predictions.