Internal Control and Internal Capital Allocation: Evidence from Internal Capital Markets of Multi-Segment Firms

Posted: 13 Oct 2016

See all articles by Ranjan D'Mello

Ranjan D'Mello

Wayne State University - Department of Finance

Xinghua Gao

Washington State University

Yonghong Jia

Iowa State University

Date Written: October 10, 2016

Abstract

We investigate the impact of internal control over financial reporting on management decisions in directing corporate resources to alternative investment projects in multi-segment firms. Results from cross-sectional and inter-temporal analyses indicate that internal control weaknesses (ICWs) are associated with distortionary internal capital allocations. The adverse impact on internal capital markets is more pronounced for firms with company-level ICWs. Our analyses also show that firms with weak existing governance mechanisms benefit more from maintaining effective internal control. We further document that the negative impact of ICWs on firms’ internal capital transfers manifests in a lower excess value of diversification.

Keywords: Internal Control over Financial Reporting; Internal Capital Allocation; Internal Capital Market; Diversification

JEL Classification: M41, M48, G32

Suggested Citation

D'Mello, Ranjan and Gao, Xinghua and Jia, Yonghong, Internal Control and Internal Capital Allocation: Evidence from Internal Capital Markets of Multi-Segment Firms (October 10, 2016). Review of Accounting Studies, Forthcoming, Available at SSRN: https://ssrn.com/abstract=2850562

Ranjan D'Mello

Wayne State University - Department of Finance ( email )

2771 Woodward Ave
Mike Ilitch School of Business
Detroit, MI 48201
United States
313-577-7828 (Phone)

Xinghua Gao

Washington State University ( email )

Department of Accounting
Carson College of Business
Pullman, WA 99163
United States

Yonghong Jia (Contact Author)

Iowa State University ( email )

ames, IA Iowa 50010
United States

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