Events

We study the role of accounting measurement in the renegotiation of debt contracts. The use of accounting measurement in the control rights allocation rule has a trade-off. It improves the initial allocation of control rights but induces accounting manipulation. Renegotiation adds a new incentive for accounting manipulation and affects both aspects of the trade-off. A lower renegotiation cost reduces the benefit of accounting-based allocation of control rights and exacerbates accounting manipulation. With this interaction, we show that the ex-ante firm value is increasing in renegotiation cost if and only if the accounting quality is high and the manager’s bargaining power is large. The interaction also generates some new insights about the equilibrium use of accounting measurement in debt contracts, accounting manipulation, the frequency of renegotiation and the interest rate.