If the Earnings Per Share of a Company is $385

journal commodity

The Explanatory Ability of Earnings for Stock Returns

The Bookkeeping Review

Vol. 68, No. 2 (Apr., 1993)

, pp. 385-399 (15 pages)

Published By: American Accounting Clan

The Accounting Review


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In a thorough review of marketplace-based research on the information content of accounting earnings, Lev (1989) concludes that the explanatory value of earnings for stock returns, and therefore the usefulness of earnings disclosures, tends to be embarrassingly low. A number of nonmutually sectional explanations accept been avant-garde for these disappointing results, including: (1) poor specification of the estimating equation, such equally a failure to allow for cross-exclusive variation in the regression parameters; (2) inappropriate pick of the assumed proxy for expected earnings; (3) the availability of more timely sources of the value-relevant information in earnings statements (Beaver et al. 1980); and (four) poor informational backdrop (quality) of reported earnings because of biases induced past accounting measurement practices or artistic “abuses” of the earnings measurement process. Lev (1989) speculated that the last of these explanations was the near likely cause of the poor statistical performance consistently found in returns-earnings enquiry. In contrast, the present study shows that a considerable comeback in statistical performance can be achieved by working with a more general specification of the returns-earnings relation. Lev’s commodity has resulted in serious questioning of the contribution of market-based research, simply we believe that the present study provides grounds for a more than positive cess. We use a panel regression approach to examine the association between almanac stock cost returns and reported earnings figures of industrial companies in the United Kingdom. We combine several recent advances in market-based accounting research design to produce a specification of the relation between earnings and price changes that subsumes the post-obit key features: i. Contemporaneous earnings yield is included in addition to the deflated beginning difference in earnings that is normally included in models of the returns-earnings relation. 2. Regression parameters are allowed to vary both cross-sectionally and over time. iii. Parameter values are allowed to vary across components of earnings to suit differences in the degree of persistence; in particular, we model the explanatory power resulting from attempts by accountants to distinguish extraordinary and exceptional items from the other components of earnings. We introduce these features in a general model in a manner that allows u.s. to assess the incremental explanatory power of each individually as well every bit the articulation effects of two or more combined. Each methodological improvement contributes significantly to our ability to explain security price changes, and we show that the best fit is achieved by incorporating all iii features in a unmarried full general model. In moving from the standard model, which regresses a measure of abnormal returns on earnings changes, to the most general model, the adapted R-squared increases from 0.ten to 0.38.

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Journal Data

The Bookkeeping Review is the premier journal for publishing articles reporting the results of accounting research and explaining and illustrating related research methodology. The scope of adequate articles embraces whatsoever inquiry methodology and any accounting-related subject. The primary benchmark for publication in The Bookkeeping Review is the significance of the contribution an article makes to the literature.

Publisher Data

The American Accounting Association is the world’s largest clan of accounting and business organisation educators, researchers, and interested practitioners. A worldwide organization, the AAA promotes education, research, service, and interaction betwixt education and practice. Formed in 1916 every bit the American Association of University Instructors in Accounting, the clan began publishing the start of its ten journals, The Accounting Review, in 1925. 10 years later, in 1935, the association changed its name to become the American Bookkeeping Association. The AAA now extends far across accounting, with 14 Sections addressing such issues as Information Systems, Artificial Intelligence/Skillful Systems, Public Interest, Auditing, taxation (the American Taxation Clan is a Section of the AAA), International Accounting, and Teaching and Curriculum. About 30% of AAA members live and work outside the Us.

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The Accounting Review © 1993
American Accounting Association

If the Earnings Per Share of a Company is $385

Source: https://www.jstor.org/stable/248407