conservatism -- Khan & Watts (2009) Accounting Conservatism Measurement

Syntax

conservatism
using
directory_path
[, outpath(string) save]

Description

conservatism implements the Khan & Watts (2009) accounting conservatism
measurement model for Chinese A-share listed companies. The program calculates
the C_SCORE measure of accounting conservatism based on firm characteristics
including size, market-to-book ratio, and leverage.

The program automatically performs the following steps:

1. Loads and merges required Excel data files

2. Cleans data and generates necessary variables

3. Estimates the Basu (1997) model for initial values

4. Estimates the nonlinear Khan & Watts model (with linear approximation fallback)

5. Calculates firm-year specific conservatism scores (C_SCORE)

6. Displays descriptive statistics and results summary

Options

using specifies the directory path containing the required Excel data files.

outpath(string) specifies the output directory for saving results.
If not specified, the current working directory is used.

save saves the final dataset as both Stata (.dta) and CSV (.csv) files.
For the Stata dataset, a prompt to type browse is shown;
for the CSV file, a clickable link is provided to open it directly.

Required Data Files

The program requires the following Excel files in the specified directory:

• d1.xlsx (Stock return data) - containing variables: stkcd, year, R

• d2.xlsx (Price, MTB, and leverage data) - containing variables: stkcd, date, MTB, LEV

• d3.xlsx (Total assets and net profit data) - containing variables: stkcd, date, ta, profit

• d4.xlsx (Market value data) - containing variables: stkcd, date, MV, code

All files should have 'sheet1' as the worksheet name and variable names in the first row.

Model Specification

The Khan & Watts (2009) model extends the Basu (1997) asymmetric timeliness
model by allowing the conservatism coefficients to vary with firm characteristics:

1. Basu (1997) model: X_i,t = β0 + β1·D_i,t + β2·R_i,t + β3·D_i,t·R_i,t + ε_i,t

2. Khan & Watts extension:

β2_i,t = μ0 + μ1·SIZE_i,t + μ2·MTB_i,t + μ3·LEV_i,t

β3_i,t = λ0 + λ1·SIZE_i,t + λ2·MTB_i,t + λ3·LEV_i,t

3. Conservatism measure: C_SCORE_i,t = β3_i,t = λ0 + λ1·SIZE_i,t + λ2·MTB_i,t + λ3·LEV_i,t

Where:

• X = profit / lagged market value

• D = indicator variable for negative returns (R < 0)

• R = stock return

• SIZE = natural logarithm of total assets

• MTB = market-to-book ratio

• LEV = leverage ratio

Variables Created

C_SCORE - Accounting conservatism measure based on Khan & Watts (2009)

Output

The program displays the following information:

• Program version and author information

• Data loading and preparation progress

• Basu model coefficients for initial values

• Khan & Watts model coefficients (nonlinear or linear approximation)

• Descriptive statistics for key variables

• Model type used (nonlinear/linear_approximation)

• Final sample size

• If save is specified: a prompt to type browse for the Stata dataset,
and a clickable link to open the CSV file

Estimation Methods

The program employs two estimation approaches:

1. Nonlinear least squares: Primary method using Stata's nl command

2. Linear approximation: Fallback method if nonlinear estimation fails

The program automatically selects the appropriate method and reports which method was used.

Examples

Basic usage:

. conservatism using "E:\research\data\"

With output directory and saving results:

. conservatism using "E:\research\data\", outpath("E:\research\results\") save

Error Handling

The program includes robust error handling features:

• Automatically handles missing values in key variables

• Provides fallback linear approximation if nonlinear estimation fails

• Checks data availability and provides informative error messages

• Validates file paths and directory existence

• Cleans up temporary files after execution

Authors

Wu Lianghai

School of Business, Anhui University of Technology (AHUT), Ma'anshan, China

Email: agd2010@yeah.net

Wu Hanyan

School of Economics and Management, Nanjing University of Aeronautics and Astronautics (NUAA), China

Email: 2325476320@qq.com

Chen Liwen

School of Business, Anhui University of Technology (AHUT), Ma'anshan, China

Email: 2184844526@qq.com

Acknowledgments

We sincerely appreciate Christopher F. Baum for his prompt guidance and revision suggestions.

References

Khan, M., and R. L. Watts. 2009. Estimation and empirical properties of a firm-year
measure of accounting conservatism. Journal of Accounting and Economics 48: 132-150.

Basu, S. 1997. The conservatism principle and the asymmetric timeliness of earnings.
Journal of Accounting and Economics 24: 3-37.

Version

Version 1.0.6, 02May2026