The Effect of Earnings Permanence, Growth, and Firm Size on the Usefulness of Cash Flows and Earnings in Explaining Security Returns: Empirical Evidence for the UK

Abstract

This paper examines the relative information content of earnings and cash flows for security returns using a methodology incorporating contextual factors which may affect earnings and cash flow response coefficients. For our UK dataset, we provide evidence that the earnings coefficient is related to earnings permanence, growth and firm size and that the cash flow coefficient may be related to growth. Although our results emphasise the value relevance of earnings, they also suggest that both contemporaneous and prior period cash flow are positively related to security returns and that market-to-book and market value of equity have predictive power for returns. Copyright Blackwell Publishers Ltd 2001.

The Relationship between Accruals Quality, Earnings Persistence and Accruals Anomaly in the Canadian Context

“…Thus, errors arising from professional judgments while determining accruals affect their reliability. It implies that the earnings' accruals component is more affected by transitory events than a cash flow component to the extent that the response coefficient of the accrual component is greatly reduced than the response coefficient of the cash flow component (Charitou et al, 2001). Richardson et al (2005) show that an increase in accruals measurement error leads to an increase in their persistence coefficient bias compared to cash flow persistence coefficient.…”

“…Since the pioneering work of Ball and Brown (1968), several studies have documented a positive relationship between stock returns and earnings (Pfeiffer, Elgers, Lo, & Rees, 1998;Charitou et al, 2000Charitou et al, , 2001Easton & Harris, 1991;Collins & Kothari, 1989). This relationship is explained by the ability of earnings to reflect relevant information about firm performance.…”

“…However, when earnings consist mainly of permanent elements, its information content is more important. Accordingly, earnings' predictive power follows from its persistent component (Charitou, Clubb, & Andreou, 2001;Martinez, 2004). The persistent component is the part of unexpected earnings which continuously recurs.…”

“…The accruals component is more affected by transitory events than the cash flows component (Charitou et al, 2001). In contrast to cash flows that are real and less subject to distortion, determining accruals value is impregnated with high subjectivity (Bernstein, 1993).…”

Kemampuan Akrual Dan Arus Kas Memprediksi Harga Saham Melalui Persistensi Laba

“…Nilai tambah kandungan informasi arus kas diduga akan meningkat ketika laba dipengaruhi oleh praktik-praktik yang menyebabkan timbulnya komponen distorsi dalam laba (Charitou et al, 2001). Hodgson dan Clarke (2000) menyatakan bahwa kebutuhan informasi investor bukan dipenuhi oleh laba, tetapi oleh arus kas karena laba sangat rentan terhadap praktik manipulasi dan perubahan metode akuntansi.…”