A Signalling Approach to the Revaluation of Assets: A Theoretical and Empirical Analysis

Abstract

In many countries firms can choose whether to report a revaluation in the financial statements. Besides contracting costs, signalling can determine the decision to revalue assets. An analytical model is developed which allows us to indicate conditions in which it is more likely that successful firms will not revalue assets as a credible signal to potential investors of their success. These industry settings include a high variance in success and low equity-to-debt ratios. The empirical results, using Belgian data, confirm that besides the classical contracting effects, successful firms are less likely to revalue assets in those industries with a high variance in performance or with low equity-to-debt ratios. As firms move closer to technical default or violate covenants, and as they are larger, they are more likely to revalue assets. Further, the results support the choice to revalue, but not the amount of revaluation, as a signalling device.

JEL Classification: M41, M45