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Article
Publication date: 7 September 2015

Robert Hogan and Jocelyn D. Evans

This paper aims to advance the literature by extending the empirical relation between a firm’s strategy and socially responsible value drivers (customer/employee…

Abstract

Purpose

This paper aims to advance the literature by extending the empirical relation between a firm’s strategy and socially responsible value drivers (customer/employee relations) beyond firm performance to the impact on earnings persistence. Although existing research demonstrates that management’s effective implementation of a specific strategic orientation such as cost focus or product differentiation leads to better financial performance, no studies, to the authors’ knowledge, directly address the effect of strategic orientation on the persistence of earnings.

Design/methodology/approach

This paper utilized the evaluation of a firm’s focus on employee and customer relations through the rating provided by Kinder, Lydenberg and Domini. It uses linear regression analysis to identify statistically significant relations.

Findings

The findings demonstrate that simply focusing on socially responsible employee and customer relations alone does not result in higher earnings persistence. But rather, higher earnings persistence is associated with firms whose strategic orientation is aligned with the firm’s socially responsible value drivers. Additionally, we find that the capital market understands the importance of alignment between a firm’s strategy and its value drivers.

Research limitations/implications

The analysis was based on a large-scale sample, and the authors concede that as a consequence of this decision, the results are based on indirect assessments of the firm’s actions rather than direct feedback from the firm. However, the authors believe the large-scale, external assessment that they use increases the generalizability of the results.

Practical implications

The results provide guidance to management and boards of directors regarding the critical nature of disclosure regarding firm strategy and corporate social responsibility (CSR) as well as inform financial statement users as to useful relations beyond the actual reported accounting numbers.

Originality/value

Existing research has explored the relation between CSR and improved financial performance, but no studies, to our knowledge, examine the relation a firm’s strategy and value drivers (customer/employee relations) has on earnings persistence. Earnings persistence is worthy of study, as it captures the non-transitory nature of earnings, which is a useful attribute for both internal and external users of financial reporting.

Details

Sustainability Accounting, Management and Policy Journal, vol. 6 no. 3
Type: Research Article
ISSN: 2040-8021

Keywords

Article
Publication date: 17 May 2011

Kevin W. Hee

The purpose of this paper is to investigate whether earnings restatements have a larger effect on the earnings quality (proxied by persistence) of restating firms relative…

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Abstract

Purpose

The purpose of this paper is to investigate whether earnings restatements have a larger effect on the earnings quality (proxied by persistence) of restating firms relative to similar non‐restating firms and if restated earnings are more persistent than the originally reported earnings.

Design/methodology/approach

Cross‐sectional earnings persistence models are used to analyze how earnings persistence changes around restatements for both the originally reported earnings and the new restated earnings numbers. The study looks at restatements from 1997 through 2006.

Findings

The findings show that restating firms exhibit a larger increase in earnings persistence from the two‐year period before to the two‐year period after the restatements. Results also show that the restated portion of earnings is incrementally persistent relative to the originally reported earnings and the incremental persistence, although mitigated, is still significant after the passage of the Sarbanes‐Oxley Act. In addition, the evidence shows that core account restatements are associated with more persistent earnings relative to non‐core restatements in the two‐year period after the most recent restatement year.

Originality/value

The paper presents the first study to examine earnings restatements' impact on the future earnings persistence of restating firms in the context of the restated financial period as opposed to the restatement announcement period.

Details

Review of Accounting and Finance, vol. 10 no. 2
Type: Research Article
ISSN: 1475-7702

Keywords

Article
Publication date: 20 April 2020

Chwee Ming Tee and Puspavathy Rasiah

The purpose of this study is to examine whether institutional investors monitoring attenuate (exacerbate) weaker earnings persistence in politically connected firms…

Abstract

Purpose

The purpose of this study is to examine whether institutional investors monitoring attenuate (exacerbate) weaker earnings persistence in politically connected firms (PCFs). In addition, it investigates whether earnings persistence do vary according to different types of political connections.

Design/methodology/approach

This study employs earnings persistence as measure of earnings quality and ordinary least squares (OLS) model to examine: (1) the moderating effect of institutional investors’ ownership on the association between earnings persistence and PCFs and (2) the association between different types of political connections and earnings persistence.

Findings

This study finds that institutional investors' ownership attenuates weaker earnings quality in PCFs, indicating effective monitoring. However, stronger earnings persistence is associated with PCFs with longer political ties, audited by big four audit firm and with higher CEO power.

Originality/value

This study reveals the lower earnings persistence in PCFs can be attenuated by institutional investors monitoring. However, findings also suggest that earnings persistence in PCFs is affected by duration of political ties, big four audit firm and CEO power. This suggests that PCFs should not be viewed as a homogeneous group of firms.

Details

Asian Review of Accounting, vol. 28 no. 3
Type: Research Article
ISSN: 1321-7348

Keywords

Article
Publication date: 1 April 2006

Sharad C. Asthana and Yinqi Zhang

This paper sets out to test the effects of firms’ and industry's R&D intensity on persistence of abnormal earnings.

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Abstract

Purpose

This paper sets out to test the effects of firms’ and industry's R&D intensity on persistence of abnormal earnings.

Design/methodology/approach

Ohlson's valuation model is used with pooled regressions along with Fama–Macbeth methodology on yearly regressions and partitioning on Herfindahl index to conduct the tests.

Findings

It was found that firms’ and industries’ R&D intensities are both positively correlated with persistence of abnormal earnings. The evidence suggests that the positive effect on earnings persistence caused by R&D's effectiveness in mitigating competition dominates the negative effect brought by more risk from R&D projects

Practical implications

The fact that the firm's own R&D investment leads to incremental earnings persistence beyond that of the industry suggests the importance of incorporating both industry and firm's R&D intensity in earnings persistence. While industry R&D investment leads to competition mitigation via creation of entry barriers, a firm's own investment in R&D differentiates its products from those of its competitors, and thereby results in further competition mitigation by creating replacement barriers.

Originality/value

Finally, since R&D intensity is correlated with earnings persistence, inclusion of R&D intensity in future earnings persistence studies may lead to better model specification by reducing the problem of correlated omitted variables.

Details

Review of Accounting and Finance, vol. 5 no. 2
Type: Research Article
ISSN: 1475-7702

Keywords

Article
Publication date: 1 December 2007

Hai Wu and Neil Fargher

Recent research examines the implications of components of accruals for future profitability. Because the persistence of earnings varies with the level of company…

Abstract

Recent research examines the implications of components of accruals for future profitability. Because the persistence of earnings varies with the level of company profitability, we expect differences between profitable and loss‐making companies in the association between components of accruals and future profitability. Using the approach adopted by Richardson, Sloan, Soliman and Tuna (2006) we find evidence suggesting that the components of accruals related to revenue growth and to change in asset turnover are less persistent than the cash flow component of earnings for profitable Australian companies. For loss‐making companies, however, the persistence of the accrual component of earnings is found to be higher than for the cash flow component of earnings, suggesting that the accrual component is more informative than the cash flow component in explaining period ahead profitability for many currently unprofitable companies.

Details

Accounting Research Journal, vol. 20 no. 2
Type: Research Article
ISSN: 1030-9616

Keywords

Article
Publication date: 1 May 2009

Kristen Anderson, Kerrie Woodhouse, Alan Ramsay and Robert Faff

The purpose of this paper is to test the persistence and pricing of earnings, free cash flows (FCF) and accruals using Australian data. In response to arguments concerning…

Abstract

Purpose

The purpose of this paper is to test the persistence and pricing of earnings, free cash flows (FCF) and accruals using Australian data. In response to arguments concerning omitted variables in the Mishkin test, it seeks to explore asymmetric effects by incorporating categoric variables capturing firm size (microcap, small, medium and large); industry (industrial/mining); profit making (profit/loss); and dividend paying (contemporaneous dividend/no contemporaneous dividend) into forecasting and pricing equations.

Design/methodology/approach

The paper examines a large sample of hand‐checked Australian earnings, accruals and cash flow data. It analyses these data using a series of piecewise linear regressions.

Findings

The results indicate that asymmetry is a valid concern since the extent and nature of mispricing of earnings components vary considerably across the categories included in the model. For example, the base case firms (microcap, loss‐making, resource companies that pay no contemporaneous dividends) exhibit no evidence of significant differences between the actual and implied persistence of FCF and accruals. Conversely, for industrial firms, the implied persistence of FCF and accruals from the pricing equation significantly underestimates the persistence of both earnings components as shown in the forecasting equation.

Originality/value

The study extends the research investigating the accruals anomaly by accommodating different factors that might induce asymmetric effects. Based on the evidence, such effects represent an important consideration for work conducted in this and related accounting research areas.

Details

Pacific Accounting Review, vol. 21 no. 1
Type: Research Article
ISSN: 0114-0582

Keywords

Article
Publication date: 2 March 2015

Thanyaluk Vichitsarawong and Sompong Pornupatham

– The purpose of this paper is to examine the association between audit opinion and earnings persistence of listed companies in Thailand from 2004 to 2008.

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Abstract

Purpose

The purpose of this paper is to examine the association between audit opinion and earnings persistence of listed companies in Thailand from 2004 to 2008.

Design/methodology/approach

We use archival data and hand collected data in regression analysis. Content analysis was used to perform decomposition analysis of audit modifications.

Findings

Firms receiving modified opinions have lower earnings persistence than firms receiving unqualified opinions, and the degree of earnings persistence varies among types of modifications. We find that firms with a qualified opinion or a disclaimer have lower earnings persistence than firms receiving an unqualified opinion with an emphasis of matter (UEM). However, we find no difference in earnings persistence between firms receiving a qualification and a disclaimer. Content analysis reveals that there is information in certain types of modified opinions with respect to earnings quality. Firms receiving a scope limitation qualification and a going concern disclaimer have lower earnings persistence than firms receiving an UEM due to going concern issues.

Research limitations/implications

Audit modifications reflect different degrees of problematic issues in clients’ firms, resulting in different impacts on earnings persistence. Thus, policymakers and regulators should emphasize the importance of using auditors’ reports. Strengthened enforcement by regulators makes individual auditors more aware of reputation risk and more likely to express appropriate audit opinions.

Originality/value

We examine a broader set of modified audit opinions than those used in prior research. Our study offers the opportunity to examine the association between earnings persistence and different types of modified opinions, especially a disclaimer, which has been rarely found in prior research.

Details

Managerial Auditing Journal, vol. 30 no. 3
Type: Research Article
ISSN: 0268-6902

Keywords

Article
Publication date: 1 December 2007

Stephen Kean and Peter Wells

Forecasting future period profitability is widely identified as an aim of financial statement analysis, and these forecasts are typically relied upon for the estimation of…

Abstract

Forecasting future period profitability is widely identified as an aim of financial statement analysis, and these forecasts are typically relied upon for the estimation of firm value. To facilitate this, the decomposition of earnings into its components or drivers, is typically advocated. This paper investigates the existence of systematic differences in persistence across the components of earnings. If components of earnings experience differences in persistence, this may provide insights into the determinants of aggregate earnings level and persistence. This paper provides evidence of differences in persistence between components of earnings. Differences are found between components formed on the basis of: financial ratios; operating and financing activities; and cash and accruals. Furthermore, there is evidence that earnings components improve the explanatory power of models evaluating aggregate earnings persistence, with this result being strongest for firms with extreme income decreasing accruals. Due to the pivotal role of earnings in firm valuation, the results from this paper have direct implications for valuation.

Details

Accounting Research Journal, vol. 20 no. 2
Type: Research Article
ISSN: 1030-9616

Keywords

Article
Publication date: 2 November 2010

Georgios Papanastasopoulos, Dimitrios Thomakos and Tao Wang

The purpose of this paper is to examine the informational content of retained and distributed earnings for future profitability and stock returns.

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Abstract

Purpose

The purpose of this paper is to examine the informational content of retained and distributed earnings for future profitability and stock returns.

Design/methodology/approach

The paper utilizes firm‐level cross‐sectional persistent regressions, Mishkin's econometric framework and portfolio‐level analysis.

Findings

The paper shows that investors act as if the components of retained earnings (current operating accruals, non‐current operating accruals and retained cash flows) have similar implications for future profitability, leading to an overvaluation of their differential persistence. It also appears that while they cannot distinguish between the distinct properties of distributed earnings, they correctly anticipate the persistence of net cash distributions to debt holders (net debt repayment) but underestimate the persistence of net cash distributions to equity holders (dividends minus net stock issues). Overall, the findings of the paper suggest that the accrual anomaly documented in the accounting literature and the anomaly on net stock issues documented in the finance literature could be a subset of a larger anomaly on retained earnings.

Originality/value

The paper enhances one's understanding of the conflicting market's reaction to the accrual and cash flow component of earnings.

Details

Review of Accounting and Finance, vol. 9 no. 4
Type: Research Article
ISSN: 1475-7702

Keywords

Article
Publication date: 11 December 2019

Ivana Raonic and Ali Sahin

The purpose of this paper is to revisit the question of whether analysts anticipate accruals’ predicted reversals (or persistence) of future earnings. Prior evidence…

Abstract

Purpose

The purpose of this paper is to revisit the question of whether analysts anticipate accruals’ predicted reversals (or persistence) of future earnings. Prior evidence documents that analysts who provide information to investors are over optimistic about firms with high working capital (WC) accruals. The authors propose that empirical models using WC accruals alone may be incomplete and hence not entirely appropriate to assess the level of analysts’ understanding of accruals. The authors argue that analysts’ optimism about WC accruals might not be due to their lack of sophistication, but rather driven by incomplete accrual information embedded in forecast accuracy tests.

Design/methodology/approach

The authors use non-financial US firms for the period between 1976 and 2013. The authors define earnings forecast errors as the analysts’ consensus earnings forecasts minus the actual earnings provided by IBES deflated by share price from CRSP. The authors carry out forecast error regressions on individual accrual components by decomposing total accruals into categories. The authors perform the tests across 12 months starting from the initial analysts’ forecasts, which are generally issued in the first month after the prior period earnings announcement date. The final sample contains 48,142 firm–year observations per month.

Findings

The empirical tests show no correlation between analysts’ forecast errors and revised total accruals. The findings are robust to different samples, periods, model specifications, decile ranked accruals, high accruals, absolute forecast errors, controlling for cash flows (CF) and high accounting conservatism. The findings imply that if analysts are to achieve more accurate forecasts, they should be considering all rather than some accrual components. The authors interpret this evidence as an indication of analysts’ relative sophistication with respect to accruals.

Research limitations/implications

The authors recognise that analysts’ correct anticipation of accruals’ persistence does not mean that their earnings forecasts are entirely free of bias. Analysts can make forecast errors for various reasons including strategic biases. For instance, the tests show pessimistic forecast errors with respect to CF, which is in line with similar findings in prior research (Drake and Myers, 2011). Hence, the authors suggest that future research examine this correlation in greater depth as CF components are with the highest level of persistence, and hence should be predicted most accurately.

Practical implications

The results imply that the argument about analysts’ lack of sophistication with respect to accruals’ persistence is not warranted. The results imply that forecasts appear to contribute to market efficiency. Another implication is that analysts seem to utilise all relevant accrual information in their forecasts, hence traditional accrual definition should be revised in future studies. Key inferences of the paper imply that the growing use of analysts’ reports by institutional investors and money managers in their decision-making processes is justified despite the debate in the prior literature on the role and the reputation of analysts as surrogates of market expectations.

Originality/value

The research sheds a new light on the question whether sell-side security analysts are able to anticipate the persistence of accruals in future earnings.

Details

Journal of Applied Accounting Research, vol. 21 no. 1
Type: Research Article
ISSN: 0967-5426

Keywords

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