Earnings Conservatism and Equity Raisings of Cross-Listed Firms

Abstract

We examine conditional accounting conservatism (Basu, 1997) of UK firms cross-listed in the US. More specifically, we compare the degree of conservatism for UK cross-listed firms that raise equity capital versus conservatism of companies that do not raise equity capital. We expect that equity raising firms exhibit high levels of conservatism since they face important reputation and litigation consequences and are likely to be followed intensively by financial intermediaries around the time of equity raising activities. To mitigate confounding effects from debtholders' demand for conservative accounting, we control for debt-raising activities of our sample firms. Using data on equity deals from cross-listed firms during the years, our results show that firms that raise equity capital have more conservative earnings than comparable firms that don't issue new equity. Moreover, firms that exclusively raise capital through equity issues are significantly more conservative than firms that raise funds solely through debt issues. This finding puts the demand from debtholders as the only drive for conservative accounting into perspective. Our evidence suggests that firms provide credible and verifiable earnings information to investors to deal with information asymmetries that arise in issuing equity capital in an efficient way.