Accepted by Sudipta Basu. We thank Patricia C. O'Brien, S. Basu, and two anonymous referees for their valuable guidance. We are also grateful for comments from M. Bagnoli, G. Biddle, C. Cain, S. Das, B. Eskew, T. Goodman, T. Greig, F. Gul, C. Karuna, J. Kim, M. Kirschenheiter, S. Lee, H. Lin, J. Lin, G. Lobo, C. W. Park, R. Ramakrishnan, C. Rowe, S. Sivaramakrishnan, B. Srini, J. Stanfield, R. Venkataraman (discussant of American Accounting Association 2010 Meeting), S. Watts, and participants in workshops at City University of Hong Kong, Clemson University, Hong Kong Polytechnic University, Hong Kong University, Lehigh University, Louisiana State University, Purdue University, University of Houston, University of Illinois at Chicago, and University of Massachusetts Lowell for their helpful comments. We are grateful to Wei Jiang and Fei Pan for sharing the hedge fund data. We also thank Shanshan Pan and Hongbo Zhang for their excellent research assistance.
Hedge Fund Intervention and Accounting Conservatism†
Version of Record online: 2 SEP 2014
Contemporary Accounting Research
Volume 32, Issue 1, pages 392–421, Spring 2015
How to Cite
Cheng, C.S. A., Huang, H. H. and Li, Y. (2015), Hedge Fund Intervention and Accounting Conservatism. Contemporary Accounting Research, 32: 392–421. doi: 10.1111/1911-3846.12076
- Issue online: 12 MAR 2015
- Version of Record online: 2 SEP 2014
- Accepted manuscript online: 31 JAN 2014 11:26PM EST
Hedge fund intervention has been associated with many positive corporate changes and is an important vehicle for informed shareholder monitoring. Effective monitoring has also been positively associated with accounting conservatism. Building upon these prior results, we predict an increase in accounting conservatism after hedge fund intervention. We use a large sample of hedge fund activist events and identify control firms with similar likelihoods of being targeted using the propensity score matching method to apply difference-in-difference tests. We find that when hedge fund activists have relatively large ownership and sufficient time to exert their monitoring power, target firms experience significant increases in conditional conservatism. CFO turnovers, upward/lateral auditor switches, and improvements in audit committee independence after intervention are accompanied by greater increases in conditional conservatism. Finally, we find greater increases in conditional conservatism when there is a lack of monitoring by dedicated institutional investors before the intervention. Our study suggests that hedge fund activists improve accounting monitoring tools and thus adds important new evidence on the effectiveness of shareholder monitoring on accounting practices.