Journal of Business and Policy Research

Volume 5. Number 2. December 2010 Pp. 1 - 15

Accounting Conservatism And Ownership Concentration:

Evidence From Malaysia
Rahimah Mohamed Yunos*, Malcolm Smith and Zubaidah Ismail
Evidence showed that conservative
accounting acts as a governance
mechanism to reduce agency conflict. Also,
evidence documented the adverse effect of
concentrated ownership on financial
reporting and firm performance. This study
finds that both inside and outside substantial
shareholders encourage lower degrees of
conservatism. Control variables that
significantly influenced asymmetric
timeliness measure of conservatism are
board independence, board tenure, board
size, auditor and market to book ratio. As for
accrual-based measure of conservatism,
only profitability is found significant. The
findings imply that accounting conservatism
is not an effective governance tool if it is
under the control of the substantial
shareholders.

Field of research: Financial accounting, Corporate governance.

1. Introduction

Accounting conservatism should be considered an important mechanism in

controlling opportunistic behaviour among dominant shareholders in Malaysian firms.
Many previous studies have reported high ownership concentration in Malaysia
(e.g.Claessens, Djankov, & Lang, 2000; Lim, 1981; Tam & Tan, 2007; Zhuang,
Edwards, & Capulong, 2001) and this trend continues. Haniffa and Hudaib (2006)
reported a mean of 31% for a single largest shareholders and 62% for five largest
shareholders. This study finds a mean substantial shareholding of 53%. A mean
substantial shareholding by insiders is about 31% which shows that firms are closely
held by their managers. According to Hannsmann, cited in Rachagan (2006), the
traditional agency conflict between managers and shareholders is not relevant to
Malaysian firms due to its highly concentrated ownership structure. Accordingly, the
dominant role of shareholders in firms allows the controlling shareholders (including
managers) to expropriate the interest of the minority shareholders for their own
private advantage (Fan & Wong, 2002). The role of hostile takeover to discipline
opportunistic managers is almost non-exist in Malaysia because the large
shareholder group often includes the CEO or has an affiliation with top management
*
Rahimah Mohamed Yunos, PhD candidate, Edith Cowan University, Australia. Email:
rahimahm@our.ecu.edu.au

Professor Malcolm Smith, Faculty of Business and Law, Edith Cowan University, Australia. Email:
malcolm.smith@ecu.edu.au

Dr Zubaidah Ismail, Faculty of Business and Law, Edith Cowan University, Australia. Email:
z.ismail@ecu.edu.au
 Yunos, Smith & Ismail
(Haniffa & Hudaib, 2006). Emphasizing the role of conservatism to reduce agency
problems in Malaysian companies may compensate for ineffective enforcement of
well established legal protections.

Conservatism is traditionally defined as accounting practices that anticipate no profit

but anticipate all losses (Bliss, 1924). Basu (1997) depicts conservatism as the
asymmetric timeliness of earnings which require higher verification to recognise
good news as gains than to recognise bad news as losses. Financial Accounting
Standard Board (FASB) SFAC No.2 noted that assets and liabilities are frequently
measured in the context of significant uncertainties. Hence, managers are allowed to
apply their own discretion within GAAP; which includes expensing stock options,
valuing inventory, estimating depreciation, bad debt and warranty expenses (Bagnoli
& Watts, 2005). Some papers criticised the bias imposed by conservative
accounting on financial information (e.g.Penman & Zhang, 2002; Sen, 2005) but an
important aspect of conservatism acting as a governance mechanism had been
suggested by empirical studies. Watts (2003) stated that the ability of conservatism
to limit managers opportunistic behaviours could increase firms value, and thus
protect the interests of minority shareholders. In the context of concentrated
ownership, however, they may also use their power to determine information in the
financial reports. Dargenidou et al.(2007) argued that when agency conflict is
controlled through close monitoring by large shareholders, these shareholders put
less reliance on financial reporting, and thus adopt less conservative accounting.
Alternatively, major shareholders would not employ more conservatism as they might
want to conceal their expropriation activities from outsiders.

In the light of these observations, accounting conservatism might be lower in firms

with high concentrated ownership. The objective of this study is to examine the
effect of ownership concentration on conservatism practices. A related objective of
this study is also to establish the influence of board of directors and audit committee
of Malaysian firms on conservatism. This study uses two measures of conservatism:
one based on asymmetric timeliness and one on accrual-based, and examines if
ownership concentration determines conservatism practices in Malaysian firms. The
results show that substantial shareholders, regardless of whether they are insiders or
outsiders, are less conservative based on the accrual-based measure of
conservatism. No significant findings are found for both inside and outside
substantial shareholders based on the asymmetric timeliness measure. Results of
this study may benefit government policy makers and regulatory agencies such as
Bank Negara Malaysia, Securities Commission and Malaysian Institute of Corporate
Governance; to evaluate the current listing requirements, assess the effectiveness of
ownership structure in Malaysian firms and evaluate the strength of the firms
governance structure. Creditors will also benefit from the findings because they
would understand factors that contributed to lower conservatism, assisting them to
evaluate their client effectively.

The remainder of the paper is organised as follows. Section 2 discusses findings

from previous studies on earnings conservatism and ownership conc entration.
Section 3 covers research methods, which explains the sample used in the study
and measurements of the variables. Section 4 presents the descriptive analysis,
empirical results and discussions. Lastly, section 5 concludes the paper with
limitations of the study and suggestions for future research.

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2. Literature review

The importance of controlling managers opportunistic behaviour is based in

managers privilege of holding asymmetric information and receiving asymmetric
payoffs (LaFond & Watts, 2008) and having limited liability and limited tenure
(LaFond & Roychowdhury, 2008). Managers moral hazard may reduce firms value
if they forego profitable investment in order to obtain excessive compensation.
Ahmed and Duellman (2007) stated that managers may also accept negative net
present value projects in order to foster empire-building or to manipulate the stock
price. Bushman and Smith (2001) established that financial information, produced
as a result of conservative accounting, disciplines managers on project selection and
prevents expropriation activities. Therefore, accounting conservatism benefits
corporate governance as losses are recognised immediately, and quick action can
be taken to identify underlying reasons. Evidence showed that conservative
accounting is more useful in controlling the cost of sub-optimal managerial decisions
than if earnings are reported neutrally or liberally (Kwon, 2005). LaFond and Watts
(2008) reported that conservatism constrains managers from hiding unfavourable
information because accounting conservatism provides hard information on verifiable
gains and possible losses. This findings is supported by Lara et al.(2009) who found
that conservatism levels among UK bankrupt firms decreased prior to firm failure.
Their results suggest that management conceal their opportunistic behaviour leading
to a sacrifice in the firms wealth.

In addition to reducing managers opportunistic behaviour, conservatism ultimately

improves the quality of the financial information. For instance, conservatism
increased ability of current earnings to forecast future cash flows (Kim & Kross,
2005); and conservatism increased value relevance of the earnings since it
prevented opportunistic managers from using accounting choices that favoured their
personal interest (Brown, He, & Teitel, 2006). Also, conservatism reduced
managers incentive to manage earnings because timeliness in incorporating losses
into earnings reduces the impact of bad news on the share price (Chen, Hemmer, &
Zhang, 2007); and creditors reward firms that employ higher conservatism with lower
interest because conservatism provides an early signal to the lender of any possible
debt violation (Zhang, 2008).

Despite these benefits, the prevalence of conservatism practices relies on the

management, particularly in firms controlled by large shareholders. Fan and Wong
(2002) found that controlling owners produced less information, either because they
want to conceal their activities through aggregate earnings numbers or to avoid
leakage of specific knowledge about the business to competitors or the public. Chin
et al. (2006) found that Taiwanese firms with concentrated ownership structure
issued less accurate and more optimistically biased forecasts. Rachagan (2006)
found that controlling shareholders in Malaysia increased their profit through related
party transactions or earnings management. Empirical findings show that managers
with high concentrated ownership expropriate firms wealth for private benefit
(Schiehll, 2006); both low and high managerial ownerships lead to financial distress
status (Abdullah, 2006a), high earnings management (Sanchez-Ballesta & Garcia-
Meca, 2007) and low firms financial performance (Ming & Gee, 2008). Since
shareholding and conservatism are both mechanisms to reduce agency conflict, it
implies that the demand for one mechanism is substitution to the other. This is

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confirmed by the findings of LaFond and Roychowdhury (2008) that managerial
ownership and conservatism are inversely related.

The entrenched effect of major shareholders in Malaysian firms, noted by Tam and
Tan (2007), leads to anticipation that majority shareholders in Malaysia employ lower
conservatism. Also, consistent with the findings that Malaysian managers have low
incentive for transparent reporting, especially for losses (Ball, Robin, & Wu, 2003)
and Malaysian firms ranked amongst countries that have aggressive earnings and
ranked 9th out of 34 countries as having severe earnings opacity (Bhattacharya,
Daouk, & Welker, 2003). Arguably, concentrated owners in Malaysia might not
employ higher conservatism, not only because they had a close monitor over the firm
but to conceal their activities. However, previous evidence suggested that outside
large shareholders provide efficient governance: Yeo et al.(2002) revealed that
outside large shareholders improved informativeness of earnings and suggested that
they are effective in reducing earnings management. Dogan and Smyth (2002)
showed that outside large shareholders were effective in controlling managers
compensation. Given the contrasting results, it may imply that the demand for
conservative accounting differs depending on whether the concentrated owners are
insiders or outsiders. The insiders may employ lower conservatism to conceal their
activities but outsiders demand higher conservatism because they demand better
governance. Therefore, the following hypotheses are presented:

H1: Higher proportions of substantial shareholding held by inside directors are

inversely related to conservative accounting.
H2: Higher proportions of substantial shareholding held by the outsiders are
positively related to conservative accounting.

3. Methodology

3.1. Sample and data

The initial sample in this study consists of 300 non-financial Malaysian listed firms
over the period 2001 2007 (2100 firm-year observations). The initial sample is
derived after excluding PN4 companies, companies that change their financial year-
end during the period of study, companies involved with mergers and
reconstructions, missing data on share price in 1997-2007 and unavailability of
online annual report. Due to deletion of outliers, the initial sample is further reduced
to 2037 firm-year observations (300 firms) for accrual-based conservatism
regression model. The asymmetric timeliness conservatism model involves 2011
firm-year observations (297 firms) for its three-year estimates and 1997 firm-year
observations (297 firms) for its one-year estimate. The two methods of estimates of
asymmetric timeliness are explained in section 3.2.1. Year 2001 is chosen as a
starting period because it was a year in which Malaysian listed firms were required to
make a mandatory disclosure of the extent of compliance (or non-compliance) with
the Malaysian Code on Corporate Governance adopted in 2000. Other than to
ensure availability of governance data in the annual report, it will ensure uniformity of
corporate governance practices of all Malaysian companies.

Data was collected from two separate sources: Datastream and annual reports. The
Datastream database was used to retrieve financial accounting data including share

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prices and market values; any missing financial figures from Datastream were
acquired from the annual report. Data on ownership concentration was hand
collected from the annual report under the analysis of shareholding section. Data
on board of directors and audit committee are extracted from directors profile and
audit committee section.

3.2. Conservatism measures

This study uses two measures of earnings conservatism, a) Asymmetric timeliness;

and b) Accrual-based. Similar measures have been adopted by Ahmed and
Duellman (2007) and Lara et al.(2009) as Givoly et al.(2007) affirmed that relying on
a single measure might lead to an incorrect conclusion.

3.2.1. Asymmetric timeliness (AT)

Basu (1997) introduces asymmetric timeliness to measure earnings conservatism.

Share returns are used as a proxy for news about firm performance that is publicly
available. Timeliness in earnings is measured using reverse-regression between
earnings and contemporaneous return that capture the difference in the effects of
negative returns and positive returns on earnings. The dummy variable (D) interacts
with the return variable (R) to proxy for bad news (RD) whilst the main effect on
return (R) is a proxy for good news. Basus regression model is as follows:

Eit/Pit 1 = 0 + 1 Rit + 2 Dit + 3RDit + it (1)

where:

Eit/Pit 1 = Net income before extraordinary items divided by beginning of aggregated

year market value of equity;
0 = the intercept across all firms and years;
R = Annual stock returns
D = Dummy variable equal to 1 if returns are negative and 0 otherwise;

The sensitivity of earnings to good news is measured by 1 estimate while sensitivity

of earnings to bad news is measured by (1 + 3)/1. The value of 3 reflects the
incremental sensitivity of earnings to bad news compared to good news, commonly
referred as asymmetric timeliness. Therefore, under greater conservatism, 3 is
expected to be more positive.

All independent variables interact with each component in Basus original regression
model to identify their effect on the conservatism. The following model illustrates the
interaction of inside shareholders (OCIN) with each component in equation (1).
Similar interactions are made with the remaining explanatory variables.

Eit/Pit1 = 0 + 1Rit + 2Dit + 3RDit + 4OCINit + 5Rit OCIN it + 6Dit * OCIN it +

7RDit * OCINit + ............+ it

The earnings and returns in the original Basu specification are based on one year.
One year horizon, however are affected by firms failure to record asset write-downs,
due to conservatism that previous increase in assets were unrecorded. This is

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 Yunos, Smith & Ismail
referred as buffer problem (LaFond & Watts, 2008). Pae et al.(2005) stated that
Basus annual coefficient understate the degree of conservatism. Roychowdhury
and Watts (2007) noted that single period asymmetry is not a measure of aggregate
conservatism but is an implication of asymmetric verification standards. They
argued that asymmetric timeliness measure estimated over several years would
progressively eliminate time lags between returns and earnings. Following this
suggestion, Ahmed and Duellman (2007), LaFond and Watts (2008) and LaFond
and Roychowdhury (2008) are amongst others who accumulated the returns and
earnings over the past three years, in addition to the one-year estimate. Similar
approach is employed in this study.

3.2.2. Accrual-based measure (CONACCR)

According to Givoly and Hayn (2000), conservatism leads to persistently negative

accruals. More conservative accounting is reflected by more negative average
accruals. Averaging over a number of years will mitigate the effects of any
temporary large accruals, since accruals will likely reverse within one to two years
(Richardson, Sloan, Soliman, & Tuna, 2005). This measure is computed as income
before extraordinary item and discontinued operations plus depreciation expenses
minus operating cash flows and deflated by total asset. The accrual value is then
averaged over 3 years centered in year t, and is multiplied by -1 and refers as
CONACCR. Higher values of CONACCR indicate more conservatism.

The following regression model tests the influence of ownership concentration (OCIN
and OCOUT) and the control variables on accrual measure of conservatism.

CONACCRit = 0 + 1OCINit + 2OCOUT it + control variablesit + it

3.3. Measures of ownership concentration

This study measures ownership concentration based on substantial shareholders,

which is a percentage of shares own by substantial shareholders over the firms
outstanding shares. This proxy is more appropriate as many of Malaysian firms are
controlled by certain parties via nominee names to remain anonymous (Chu &
Cheah, 2006). This study separates the substantial shareholders into two categories
which are insiders (OCIN) and outsiders (OCOUT). Survey carried out by Bursa
Malaysia and PricewaterhouseCoopers in 2002 reported that directors involved in
management are also substantial shareholders of the company (Satkunasingam &
Shanmugam, 2006). This study defines OCIN as substantial shareholders who are
executive and non-executive directors (or his family members) of the firms or firms in
which the executive or non-executive directors (or his family members) have an
indirect interest. OCOUT are substantial shareholders independent from
management either individuals or firms. Additionally, ownership is defined as
disperse if the substantial shareholding is less than or equal to 20%; and as
concentrated if it is more than 20% (Chu & Cheah, 2006).

3.4. Control variables

Control variables included in the analysis are internal governance namely, board
composition (BID), board tenure (BT), board size (BS), audit committee composition

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(ACID) and financial expertise in audit committee (ACF). Controlling for firm
characteristics are type of auditor (AUD), sales growth (SGROW), firm size (TA),
profitability (PROF) and leverage (LEV) and market to book ratio (MTB). Evidence
showed that internal governance with strong attributes promotes better governance
(Abbott, Parker, & Peters, 2004; Ahmed & Duellman, 2007; Bedard, Chtourou, &
Courteau, 2004; Krishnan & Visvanathan, 2008; Lara, Osma, & Penalva, 2007;
Saleh, Iskandar, & Rahmat, 2007), hence may employ higher conservatism. Also,
firms that vary in characteristics influence the conservatism level (see:Ahmed,
Billings, Morton, & Stanford-Harris, 2002; Chung, Firth, & Jeong-Bon, 2003; Givoly et
al., 2007). Table 1 presents the measurements of all variables.

Table 1: Variables and measurements

Variables Measurements
Accounting conservatism 1) Asymmetric timeliness (Basu, 1997);
2) Accrual-based (Givoly & Hayn, 2000).
Ownership concentration 1) OCIN= Percentage of substantial shareholding held
by executive and non-executive directors over
outstanding shares.
2) OCOUT= Percentage of substantial shareholding
held by outsiders over outstanding shares
BID Proportion of independent directors in board.
BT Average number of year independent directors served
on the board.
BS Log of total directors in the board.
ACID Proportion of independent directors in audit committee.
ACF Proportion of directors with financial expertise in audit
committee
AUD Dummy variable, coded 1 if big-4 auditor, 0 otherwise.
SGROW Percentage of annual sales growth
TA Log of total assets
PROF Cash flow from operation divided by total assets
LEV Noncurrent liabilities divided by total assets
MTB Market value of equity divided by book value of equity

4. Findings

4.1. Descriptive analysis

Table 2 provides a summary of the descriptive statistics of the firms examined. The
mean CONACCR is -0.006. The negative value indicates that Malaysian firms
practice lower conservatism as compared to those found by Ahmed and Duellman
(2007) and Krishnan and Visvanathan (2008) for US firms which was 0.010.
Different in institutional factors such as ownership structure might have driven the
discrepancy as Malaysia firms ownership structure is highly concentrated to large
shareholders as compared to widely held ownership structure in US. The mean
ownership by OCIN is 30.85% and OCOUT is 22.70%. Mean value of share
ownership found in this study (and previously documented by other Malaysian
studies) is far higher than those reported by studies in other countries. For instance,
LaFond and Roychowdhury (2008), examined US firms, reported a mean ownership
of 4.5% for top five managers and Korczak and Korczak (2009) examined Polish-

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listed firms reported a mean management ownership of 9.1%. High shareholdings
by the insiders, impose concerns on whether they used their power for personal
benefit as argued by Yeo et al. (2002).

Table 3 reports the descriptive statistics of firms with dispersed and concentrated
ownership. Based on the full sample, only 3.24% of the distributions have dispersed
ownership whilst the remaining 96.76% have concentrated ownership. Of the firms
with concentrated ownership, 52.33% are dominated by insiders, 24.79% are
dominated by outsiders and 17.28% are dominated by both insiders and outsiders.
The yearly distributions show that firms with concentrated ownership remain around
90%.

Table 2: Descriptive statistics

Mean Median Std. Dev. Min Max
EP1 0.044 0.062 0.161 -0.941 0.952
R1 0.049 0.030 0.421 -1.400 2.210
EP3 0.147 0.174 0.438 -2.096 2.491
R3 0.158 0.110 0.616 -1.780 3.280
CONACCR -0.006 -0.007 0.053 -0.254 0.281
OCIN (%) 30.847 32.480 20.958 0.000 81.230
OCOUT (%) 22.703 14.530 23.879 0.000 92.500
BID 0.401 0.375 0.111 0.000 1.000
BT 6.778 6.000 4.348 0.000 31.000
BS 7.685 7.000 1.889 3.000 17.000
ACID 0.697 0.670 0.123 0.000 1.000
ACF 0.369 0.330 0.190 0.000 1.000
SGROW (%) 9.074 6.910 29.086 -91.720 172.630
TA 19.630 19.320 1.399 16.870 24.940
PROF 0.052 0.045 0.083 -0.341 0.537
LEV 0.088 0.036 0.119 0.000 0.693
MTB 1.045 0.836 0.756 -1.776 5.452

AUD=1 (big audit firm) 65.80%

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 Yunos, Smith & Ismail
Table 3: Percentage of firms with concentrated ownership
Disperse Concentrated Dominant Dominant Dominant
ownership ownership by by by insiders
insiders outsiders & outsiders
Full 3.24 96.76 52.33 24.79 17.28
sample
(N=2037)

Yearly
2001 2.41 97.59 50.00 24.48 21.38
(n=290)
2002 2.40 97.60 52.05 22.95 19.18
(n=292)
2003 2.74 97.26 52.05 22.26 20.89
(n=292)
2004 3.79 96.21 54.14 24.14 15.52
(n=290)
2005 4.42 95.58 52.04 25.85 15.99
(n=294)
2006 3.72 96.28 52.70 26.69 14.19
(n=296)
2007 3.18 96.82 53.36 27.21 13.78
(n=283)

The mean value of BID and ACID indicate that Malaysian listed firms complied with
the Malaysian Code on Corporate Governance (MCCG). Non presence of
independent directors occurred in 2001 and 2002, which were the transition periods
before firms fully complied with MCCG implemented in 2001. In fact, the compliance
deadlines set then by KLSE (now known as Bursa Malaysia) was extended three
times during 31 March 2002 to 31 March 2003 (Haron, Jantan, & Pheng, 2005). The
non-presence of an accounting qualified member in the audit committee however not
only appeared in 2001, but continues until 2007. In 2001, there were 50 firms with
audit committee without financial expertise, while in 2007 this was reduced to 12
firms. About 66% of the sample was audited by a big four audit firm. The average
tenure for independent directors on the board was 7 years, the longest being 31
years. The average board size is 7 directors.

4.2. Empirical results

Results for asymmetric timeliness (AT) are presented in Table 4 and accrual-based
(CONACCR) in table 5. Table 4 are divided into two columns. Column (a) is one-
year estimate and column (b) is three-year backward accumulation estimate. As
explained in section 3.2.1, in addition to Basus one-year estimate of earnings and
returns, this study also estimate these items on three-year backward accumulation
as suggested by Roychowdhury and Watts (2007). Similar approach had been
taken by Ahmed and Duellman (2007), LaFond and Roychowdhury (2008) and
LaFond and Watts (2008).

The coefficient sign of OCIN on asymmetric timeliness (OCIN*RD) are as expected.

The effect of OCOUT on asymmetric timeliness (OCOUT*RD) is oppose to

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 Yunos, Smith & Ismail
prediction, suggesting that outside substantial shareholders also adopt lower
conservatism. However, their coefficients are not significant. Based on CONACCR
measure in table 5, the sign of coefficient for OCIN and OCOUT are similar to the AT
measure but they are significant at 1% and 5% level respectively. This result
confirmed that substantial shareholders in Malaysia, regardless of whether they are
insiders or outsiders, adopt less conservative accounting. This supports Hypothesis
1 but not Hypothesis 2.

Table 4:Fixed effects regression model of asymmetric timeliness measure on

concentrated ownerships and control variables.
Predicted (a) (b)
sign One-year estimate Three-year estimate
Variables Coefficient t-statistic Coefficient t-statistic

Constant -1.218 -8.49*** -0.989 -0.55

R 0.022 0.09 -0.044 -0.11
D 0.027 0.57 -0.451 -2.3**
RD -0.336 -0.99 -0.256 -0.34
OCIN 0.003 4.72*** 0.008 5.75***
OCIN*D -0.001 -3.86*** -0.002 -6.2***
OCOUT 0.002 4.39*** 0.006 4.69***
OCOUT*D -0.001 -3.58*** -0.002 -3.7***
OCIN*R + -0.001 -1.99** -0.001 -1.29
OCIN*RD - -0.002 -1.28 -0.001 -0.52
OCOUT*R - -0.001 -1.03 -0.001 -0.76
OCOUT*RD + -0.002 -1.12 0.000 -0.08

F-value 36.79*** 210.47***

N 1997 2011
***p<0.01; **p<0.05;* p<0.10.

LaFond (2005) and LaFond and Roychowdhury (2008) argued negative relationship
between insiders ownership and conservatism as a substitution effect. As managers
become owners, their interest is aligned with the shareholders, thus demand lower
conservatism as a monitoring tool. They made this contention on the view of
dispersed ownership structure in US with high agency conflict between managers
and shareholders. However, for firms with concentrated ownership, conflict between
the majority and minority shareholders is more relevance. This is consistent with
Bebchuk, Cohen and Ferrell (2009) that managerial ownership is a tool for
managerial entrenchment hypothesis. Therefore, the inverse effect of inside
substantial shareholders on the conservatism practices could be interpreted as an
entrenchment effect. Also, consistent with Korczak and Korczak (2009) and Kothari
et al.(2009) findings that insiders conceal their expropriation activities, this study
argues that insiders do not employ higher conservatism to avoid constraint on their
opportunistic activities.

The negative effect of OCOUT on conservatism is opposed to the expectation. It

suggests that outsiders do not employ higher conservatism to promote better
governance. Thus, findings of Yeo et al. (2002) and Dogan and Smyth (2002), on
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 Yunos, Smith & Ismail
the governance role of outside large shareholders, do not apply to Malaysian firms.
However, this finding may also consistent with the substitution effect that as firms are
closely monitored by the outside shareholders; there is less need to apply higher
conservatism practices. Nevertheless findings carried out on Malaysian firms have
shown that outside majority shareholders are not effective in their monitoring roles
(e.g. Abdullah, 2006b; Ming & Gee, 2008), suggesting that the former argument
precede the later argument on the governance role of outside shareholders. The
results also show that concentrated owners have a strong influence on the
CONACCR relative to the AT measure. This supports the point made by Dalton and
Dalton (2005) that accounting based measures are subject to managerial
manipulation.

The motive to conceal opportunistic behaviour through lower conservatism is

consistent with Haniffa and Hudaibs (2006) finding that higher managerial ownership
led to lower accounting performance. Also supporting their suggestion that
necessary actions need to be taken to ensure that insiders do not misappropriate
firm resources, thus damaging firms value.

Table 5: Fixed effects regression model of accrual-based measure on

concentrated ownerships and control variables.
Variables Predicted Sign Coefficient t-statistic
constant 0.283 1.63
OCIN - -0.001 -3.04***
OCOUT + -0.001 -2.29**
BID + 0.029 1.00
BT + 0.001 0.9
BSIZE - -0.009 -0.72
ACID + -0.011 -0.67
ACF + 0.011 0.91
AUD + 0.003 0.52
TA - -0.013 -1.45
SGROW - 0.000 -1.56
PROF + 0.173 6.48***
LEV + 0.036 1.17

F-value 5.01***
N 2037
***p<0.01; **p<0.05;* p<0.10.

For brevity, table 4 reports coefficients only on the ownership concentration and
discuss the other coefficients in the text. Control variables examined in asymmetric
timeliness is similar to the accrual-based measure regression except market to book
ratio (MTB) replaced the sales growth (SGROW). Board independence and big audit
firms significantly lead to higher conservatism when asymmetric timeliness is
estimate using three-year backward accumulation. Surprisingly, longer board tenure
leads to lower conservatism which inconsistent with the argument that longer tenure
reflects strong governance attributes. Negative effect of board size on AT measure
is consistent with previous evidence that larger board reflect weak governance, thus
reduced the conservatism practices. The negative sign on MTB supports the
findings of Roychowdhury and Watts (2007) and LaFond and Roychowdhury (2008)

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that firms with growth opportunities are less conservative. Based on one-year
estimate, total asset as a proxy of firm size is positively related to asymmetric
timeliness. This suggests that larger firms employ more conservative accounting.
Nevertheless, it is only marginally significant at 10% level. The negative effect of
leverage on asymmetric timeliness is contradict with the contention that debt holder
prefer conservatism to constraint managers behaviour from distributing firms wealth
unnecessarily for the benefit of managers or shareholders. None of the board or
audit committee attributes are found significant with the accrual-based measure.
However, firms with higher profitability employ higher accrual-based conservatism.

5. Conclusions

Previous studies documented the role of conservatism in reducing agency conflict

but none has investigated if higher conservatisms are employed in firms with
concentrated ownership. Based on two measures of conservatism: a) asymmetric
timeliness and b) accrual-based, it is revealed that both inside and outside
substantial shareholders employ lower conservatism. The implication from this
finding is the great power that the controlling owners exert may diminish the role of
financial reports in controlling and monitoring the management. The merit of
conservatism as a governance mechanism does not seem to work when its
application is determined by the controlling parties, who are supposed to be subject
to control. With the exception of board independence on the asymmetric timeliness,
other attributes of board of directors and audit committee examined in this study
seems not effective in determining conservatism practices of Malaysian firms.

These results highlight the importance of strong and effective corporate governance
mechanisms as their impact on financial reporting is evaluated. The authority
especially Malaysian Institute of Corporate Governance and Bursa Malaysia must
not tolerate firms that do not comply with the Malaysian Code on Corporate
Governance. The authority should also play an active role to ensure that firms
governance structures function effectively rather than merely being a disclosure.
The Bursa Malaysia might consider changing the rules on share ownership so that
Malaysian businesses are in line with the emerging market to attract more and
diverse investors, promote quality financial reports and protect the interest of the
minority shareholders.

Despite these findings, this study suffers from the following limitations. Firstly,
ownership concentration was classified into insiders and outsiders. Future studies
may classify based on individual, family and institutional factors to observe if these
categories provide different results. Secondly, this study controlled only five
attributes of internal governance. Other attributes, such as number of board
meetings and audit committee meetings, CEO duality and directors multiple
directorship also contribute to effective governance.

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