Incentives for and Consequences of Initial Voluntary Asset Write-Downs in the Emerging Chinese Market

Abstract

ABSTRACT: Understanding the incentives for and consequences of accounting method choices is important to various constituents of accounting. In 1998, a Chinese accounting regulation allowed listed companies to voluntarily write-down assets through their income statements. The regulation was amended in 1999 to require all companies to write-down assets, with a retroactive adjustment of pre-1998 asset impairment to the beginning equity. These events allow us to unambiguously identify a test sample that voluntarily wrote down assets in 1998, and a control sample that suffered from asset impairment but chose not to write-down. This research setting is free from many problems that have been identified in the asset write-down literature. Overall, we find that the voluntary asset write-downs have a positive valuation effect. While recognizing the possibility of alternative explanations, we believe our results, taken together, are more consistent than others, with the voluntary write-downs being a signal of the potential for performance improvement. We provide evidence consistent with this signaling explanation. This study adds additional evidence to the accounting choice literature by taking advantage of a unique research opportunity in China and adopting a broad approach to examining both the incentives for and consequence of voluntary asset write-downs.