Corporate investment is the ultimate driving force of value creation in an economy. Financial information production is crucial for capital allocation efficiency. The accounting system is clearly a source of information for managers to identify and distinguish between good versus bad investment projects. Higher accounting information quality will enhance efficiency by providing useful information that enables managers to identify value creation opportunities with less error (Bushman and Smith (2001)). However, few studies investigate how quality of accounting information affects use of accounting information in firms’ capital investments. This is partially because there is no role for accounting information in the traditional Q theory of investment. Under the efficient market hypothesis and other assumptions, Q theory postulates that Tobin’s Q should be a sufficient statistic for investment (Hayashi (1982)).

Thus any observed association between corporate investment and accounting variables (e.g. cash flows from operations) after controlling for Q, has been interpreted as evidence of capital market frictions (e.g. Fazzari, Hubbard, and Petersen (1988, 2000)). Recently, more studies have begun to recognize that the accounting system provides incremental information about investment opportunities in capital investment decisions (e.g. Morck, Shleifer, and Vishny (1990), Blanchard, Rhee, and Summers (1993), Gilchrist and Himmelberg (1995), Alti (2003), Liu and Qi (2002), Bond et al. (2004), among others). These studies suggest that accounting variables provide information about investment opportunities beyond market information. However, none of them examine the effect of accounting information quality on the use of accounting information in capital investment decisions.