Conservatism and Free Cash Flow

In this research, we examine the effect of company’s free cash flow on financial reporting conservatism. Jensen (1986) argues that as free cash flow increases, interests conflict of managers and shareholders increases, increasing the severity of agency problem between managers and shareholders. conservatism is one potential mechanism to address these agency problems. Thus, our prediction is that as free cash flow increases, the severity of agency problem increases, increasing the demand for conservatism. In this research,we examined 109 companies (763 firm-year) accepted in Tehran Stock Exchange (TSE) and found evidences consistent with our prediction. We thus provide evidence of a demand for conservatism from the firm’s shareholders .