Financial Market Pricing of Earnings Quality: Evidence from a Multi-Factor Return Model

Abstract

Although earnings quality has been an important part of literature in accounting and financial economics for some time, there are relatively few examples of empirical work designed to isolate the effects of variation in earnings quality on the returns to equity ownership in the marketplace. Building on the previous literature, we conduct a robust analysis of these effects by employing earnings restatements as a proxy for quality of earnings in a multi-factor return model. Our results indicate that material misstatements of earnings are priced risk factors that have persistent (long-run) impacts on equity returns. Applications to business practice are discussed in the light of these results.

Does Earnings Quality Affect Companies’ Performance? New Evidence from the Jordanian Market

“…Recent literature (e.g. Dempster & Oliver, 2019) discussed that earnings quality is an important indicator for the reliability of financial information that used by interest parties, such as investors, lenders, creditors and others. It contributes in providing great benefits for these decision makers (Schipper managing the magnitude of investors' uncertainty, where earnings quality provides information about the company assets in place and future earnings.…”

“…Mitra (2016) added that earnings quality is highly negatively associated with company-specific return volatility. The managerial discretionary behavior and economic fundamentals have an effect on company-specific return volatility, and the current earnings provide useful information to predict future earnings and future dividend-paying ability (Dempster & Oliver, 2019;Schipper & Vincent, 2003). Thereby, we can note that users consider earnings quality as one of the reliable and most important indicators in preparing financial forecasts about the returns, as well as it provides indicator about information asymmetry.…”

“…Based on the contingency theory, the company performance is affected by managerial behavior and internal environmental contexts (Bloom & Reenen, 2007;Lucas, 1978). Dempster and Oliver (2019) discussed that earnings quality represents an expensive and important aspect of managerial behavior, and it's an ethical issue in the companies. In fact, managerial behavior is affected by accounting methods, estimates made, judgments, and decisions by standard setters (Teets, 2002).…”

The impact of innate accruals quality on the future market value moderated by dividend policy

“…Referring to Mart ınez et al (2016) and Dichev et al (2016), the accruals have misleading information and distortion in financial reporting, so the investor has been alert of opportunistic behavior. Shin and Kim (2019), Dempster and Oliver (2019) and Pompili and Tutino (2019) underlined that the high obedience on accounting standard consistently illustrates the real condition; theoretically this research uses innate accruals quality values as an indicator of the company's fundamental ability to maintain the level of existence. Lebert et al (2019) stated that by using a proxy of earnings quality with innate accruals quality, this value is at a high standard, reflecting the low level of use of accruals.…”

“…Investors can react to low earnings quality; this is related to the estimated level of expectations in the coming period, including encouragement for management to perform high earnings quality. Dempster and Oliver (2019) show that investors focus on measuring earnings quality, including negative perceptions of the use of accruals. A positive attitude is seen in positive movements of the market price.…”