Title: The role of internal control weakness in debt selection

Authors: Bambi Hora; Edward Walker; Yinghong Zhang

Addresses: Department of Accounting, College of Business, University of Central Oklahoma, Edmond, OK, 73034, USA ' Department of Accounting, College of Business, University of Central Oklahoma, Edmond, OK, 73034, USA ' Department of Accounting, College of Business, University of Central Oklahoma, Edmond, OK, 73034, USA

Abstract: We investigate the impact of internal control weakness (ICW) on debt selection. We categorise debt structure in two ways: 1) bank debt, bonds, program debt, private placements, convertible debt, and other debts; and 2) secured, senior unsecured, and subordinated debts. We hypothesise that the existence of ICWs reduces accounting information quality and increases firm risk and default risk. Therefore, bank debt is borrowed to provide better monitoring. Additionally, the presence of ICW is also positively associated with the usage of secured debts, which are collateralised by assets. Our findings are consistent with our predictions. Our findings suggest that ICW information provides incremental value to creditors and that changes in debt selection are one economic consequence of companies reporting ICWs.

Keywords: debt structure; ICW; internal control weakness; secured debt; senior unsecured debt; subordinated debt; bank debt; bonds; program debt; private placement; convertible debt.

DOI: 10.1504/IJAAPE.2022.130392

International Journal of Accounting, Auditing and Performance Evaluation, 2022 Vol.18 No.3/4, pp.199 - 226

Accepted: 09 Mar 2021
Published online: 19 Apr 2023 *

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