Earnings Quality and Stock Returns

Konan Chan, Louis K. C. Chan, Narasimhan Jegadeesh and Josef Lakonishok

No 8308, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: An exclusive focus on bottom-line income misses important information about the quality of earnings. Accruals (the difference between accounting earnings and cash flow) are reliably, negatively associated with future stock returns. Earnings increases that are accompanied by high accruals, suggesting low-quality earnings, are associated with poor future returns. We explore various hypotheses -- earnings manipulation, extrapolative biases about future growth, and under-reaction to business conditions -- to explain accruals' predictive power. Distinctions between the hypotheses are based on evidence from operating performance, the behavior of individual accrual items, and discretionary versus nondiscretionary components of accruals.

JEL-codes: G12 G14 (search for similar items in EconPapers)
Date: 2001-05
New Economics Papers: this item is included in nep-acc, nep-fin and nep-fmk
Note: AP
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (17)

Published as Chan, Konan, Louis K. C. Chan, Narsimhan Jegadeesh, and Josef Lakonishok. "Earnings Quality and Stock Returns." Journal of Business 79, 3 (May 2006): 1041-82.

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