Accounting Conservatism and the Relation Between Returns and Accounting Data

Peter Easton () and Jinhan Pae ()
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Peter Easton: The University of Notre Dame
Jinhan Pae: Queen’s University

Review of Accounting Studies, 2004, vol. 9, issue 4, No 6, 495-521

Abstract: Abstract This study adds change in cash investments and change in lagged operating assets to the regression of returns on earnings levels and earnings changes examined in Easton and Harris (1991). We argue that a positive coefficient on change in cash investments captures conservatism associated with investments in positive net present value projects the effects of which will not flow into the accounting statements until the expected future benefits are realized. A positive coefficient on change in lagged operating assets implies accounting conservatism associated with the application of accounting rules to operating assets in place. Our empirical results are, in general, consistent with these arguments. We examine differences in conservatism across samples with different market to book ratios, we compare firms with non-negative returns with firms with negative returns, we compare firms reporting losses with firms reporting profits, and we examine firms in different industries, firms with different levels of research and development expenditure, different amounts of depreciation, different amounts of advertising expense, and firms that adopt LIFO inventory valuation compared with those that adopt an alternative to LIFO.

Keywords: accounting conservatism; returns; earnings (search for similar items in EconPapers)
Date: 2004
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DOI: 10.1007/s11142-004-7794-6

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