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Financial accounting and corporate governance: a discussion Richard G. Sloan* School of Business Administration, University of Michigan, Ann Arbor, MI 48109-1234, USA

Abstract Bushman and Smith (2001) provide a useful review of research on the role of accounting in management compensation contracts and an appealing future research agenda that builds on recent research using a cross-country approach. This paper rounds out their discussion by highlighting some limitations of their research agenda, providing a critical review of the contributions of accounting scholars to governance research and highlighting research opportunities on the role of financial accounting in governance mechanisms other than managerial incentive contracts. JEL classification: M41, G14 Key words: Corporate governance; Accounting, Contracting

*Corresponding Author School of Business Administration University of Michigan 701 Tappan Street Ann Arbor, MI 48109-1234 Email: sloanr @umich.edu Phone: [phone] Fax: [phone] I am grateful for the comments of Patricia Dechow, Scott Richardson, Doug Skinner and Jerry Zimmerman.

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Introduction

The study of corporate governance is concerned with understanding the mechanisms that have evolved to mitigate incentive problems created by the separation of the management and financing of business entities. Financial accounting provides financiers with the primary source of independently verified information about the performance of managers. Thus, it is clear that corporate governance and financial accounting are

inexorably linked. Indeed, many of the central features of financial accounting, such as the use of historical costs, the reliability criterion, the realization principle and the conservatism principle are difficult to understand unless one adopts a corporate governance perspective. Without governance problems, the role of financial accounting would be reduced to providing investors with the risk and return information