An evaluation of the accounting rate of return: evidence for Dutch quoted firms

Dick W. Feenstra, Carel A. Huijgen and Hua Wang
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Hua Wang: Groningen University

No 00E55, Research Report from University of Groningen, Research Institute SOM (Systems, Organisations and Management)

Abstract: Although the accounting rate of return (ARR) is traditionally regarded as an important profitability measure in ratio analysis, there has been relatively little theoretical and empirical analysis on its statistical properties and its intrinsic ability to explain market returns. This paper provides an empirical examination of the distributional properties and a time-series analysis of the ARR’s of listed Dutch companies for the years from 1978 to 1997. Furthermore we examine how the ARR is related to market return and risk. We investigate the distributional properties of the accounting rate of return. Our study confirms prior international research which concludes that ARR follows a non-normal distribution. Previous US and UK studies suggest that time series earnings or ARR can be characterized by a random walk or a mean-reverting process. The time series results of our sample are characterized by mean reversion. This paper extends the empirical research on ARR by deriving a panel data analysis that yields more reliable estimates. Researchers using US data found that the ARR was deficient as a representation of market returns and was not related to systematic risk. We find the opposite.

Date: 2000
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