Bank Loans and Borrowers’ Financial Reporting Quality: Monitoring versus Economic Bonding in Korea

Abstract

This study explores the role of bank loans in borrowing firms’ financial reporting and will investigate the outcome of bank loan amounts on borrowers’ financial reporting value. Utilizing data from firms listed on KOSPI and KOSDAQ from 2012 to 2021, we examine the result of bank loans on borrowers’ financial reporting value. We use income smoothing and accruals quality. Following Suh et al., we measure earnings smoothing[1]. Accruals quality is the residual value from the Dechow-Dichev model[2]. We discover that borrowing firms with large bank loan amounts are expected to report greater earnings smoothing and lower income-increasing accruals than with small bank loan amounts. The result of this study indicates that bank loans play an effective part in improving borrowing firms’ financial reporting quality. Specifically, this finding confirms that borrowing firms with sizable bank loans provide quality financial reporting with low information risk to obtain favorable borrowing conditions. It also implies that accounting evidence is important in a bank’s credit risk assessment process. The findings have significant policy suggestions for regulators, particularly regarding enhancing financing reporting standards. Our study has some endogeneity and industry-specific issues. Future research can address these issues and test for robustness.