TY - JOUR
T1 - Mandated accounting changes and debt covenants. The case of oil and gas accounting
AU - Lys, Thomas
N1 - Funding Information:
*This paper has been adapted from my Ph.D. dissertation at the University of Rochester. I thank my dissertation committee: Ross Watts (Chairman), G. William Schwert, Clifford Smith and Jerold Zimmerman for their helpful criticism and persistent guidance. I also wish to thank Andrew Christie, Daniel Collin.% Peter Dodd, Nicholas Dopuch, Kenneth French, Paul Healy, Robert Holthausen, Bruce John~n, Richard Lambert, David Larcker, Richard Leftwich, Robert Magee, Abbie Smith, and the referee, William Beaver, for valuable commentosn previoudsr afts. Financial support from the Center for Research in Government Policy and Business, The University of Rochester, the Swiss Foundation for the Sciences, and the Accounting Research Center, North-western University, is gratefully acknowledged.
PY - 1984/4
Y1 - 1984/4
N2 - The relationships among mandated accounting changes, bond covenants and security prices has been the focus of several studies. These studies have provided mixed evidence on the existence of a bond covenant effect on security prices. This paper suggests that inconclusive prior results are a consequence of inappropriately measuring the default risk of debt. Using an option pricing framework, it is shown that the debt to equity alone is not an adequate measure of default risk. In particular, both the debt to equity ratio and the total risk of the firm are necessary to adequately model the bond covenant effects of an accounting change. These theoretical propositions are supported by the empirical analysis of the security market reaction to changes in oil and gas accounting.
AB - The relationships among mandated accounting changes, bond covenants and security prices has been the focus of several studies. These studies have provided mixed evidence on the existence of a bond covenant effect on security prices. This paper suggests that inconclusive prior results are a consequence of inappropriately measuring the default risk of debt. Using an option pricing framework, it is shown that the debt to equity alone is not an adequate measure of default risk. In particular, both the debt to equity ratio and the total risk of the firm are necessary to adequately model the bond covenant effects of an accounting change. These theoretical propositions are supported by the empirical analysis of the security market reaction to changes in oil and gas accounting.
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U2 - 10.1016/0165-4101(84)90019-3
DO - 10.1016/0165-4101(84)90019-3
M3 - Article
AN - SCOPUS:0003150897
SN - 0165-4101
VL - 6
SP - 39
EP - 65
JO - Journal of Accounting and Economics
JF - Journal of Accounting and Economics
IS - 1
ER -