Financial Crisis, Accounting Conservatism and Corporate Ownership Structure

n this paper, we examine how controlling shareholders’ expropriation incentives affect the level of conservatism during crisis and non-crisis periods. While previous studies have extensively investigated the link between corporate governance and firm value during crisis, not much attention has been given to the link between corporate governance and conservatism during crisis. Extending the recent study which documents a negative relation between the ownership-control wedge and conservatism, we further examine the channel through which controlling shareholders pursue self-interested behaviors at the expense of minority shareholders by using the crisis setting in Korea. A set of literature on the effect of economic crisis shows that firms with weaker corporate governance suffer more during crisis because the controlling shareholders’ incentives to expropriate minority shareholders go up as the expected return on investment falls during the crisis period. This exacerbating-effect argument implies that the negative effect of the ownership-control wedge on conservatism should be more pronounced during the crisis period, relative to non-crisis period. However, it is possible that the crisis unravels problems related to corporate governance in a firm and promotes greater investor awareness about such problems. The prediction is that the expropriation activities by controlling shareholders will be limited during crisis due to higher monitoring by investors, which we call the mitigating-effect argument. Given these conflicting arguments, it is an empirical question whether the negative effect of the wedge on conservatism will be exacerbated or mitigated during crisis.