In a thorough review of market-based research on the information content of accounting earnings, Lev (1989) concludes that the explanatory value of earnings for stock returns, and therefore the usefulness of earnings disclosures, tends to be embarrassingly low. A number of nonmutually exclusive explanations have been advanced for these disappointing results, including: (1) poor specification of the estimating equation, such as a failure to allow for cross-sectional variation in the regression parameters; (2) inappropriate choice of the assumed proxy for expected earnings; (3) the availability of more timely sources of the value-relevant information in earnings statements (Beaver et al. 1980); and (4) poor informational properties (quality) of reported earnings because of biases induced by accounting measurement practices or creative "abuses" of the earnings measurement process. Lev (1989) speculated that the last of these explanations was the most likely cause of the poor statistical performance consistently found in returns-earnings research. In contrast, the present study shows that a considerable improvement in statistical performance can be achieved by working with a more general specification of the returns-earnings relation. Lev's article has resulted in serious questioning of the contribution of market-based research, but we believe that the present study provides grounds for a more positive assessment. We use a panel regression approach to examine the association between annual stock price returns and reported earnings figures of industrial companies in the United Kingdom. We combine several recent advances in market-based accounting research design to produce a specification of the relation between earnings and price changes that subsumes the following key features: 1. Contemporaneous earnings yield is included in addition to the deflated first difference in earnings that is normally included in models of the returns-earnings relation. 2. Regression parameters are allowed to vary both cross-sectionally and over time. 3. Parameter values are allowed to vary across components of earnings to accommodate differences in the degree of persistence; in particular, we model the explanatory power resulting from attempts by accountants to distinguish extraordinary and exceptional items from the other components of earnings. We introduce these features in a general model in a way that allows us to assess the incremental explanatory power of each individually as well as the joint effects of two or more combined. Each methodological improvement contributes significantly to our ability to explain security price changes, and we show that the best fit is achieved by incorporating all three features in a single general model. In moving from the standard model, which regresses a measure of abnormal returns on earnings changes, to the most general model, the adjusted A-squared increases from 0.10 to 0.38.

Peter F. Pope, Martin Walker, International Differences in the Timeliness, Conservatism, and Classification of Earnings, Journal of Accounting Research, Vol. 37, Studies on Credible Financial Reporting (1999), pp. 53-87

Consistent with the prevailing socio-political ideology of China, the Chinese government offers financial assistance to firms, including many listed companies. Government subsidies are provided for several reasons including support for investment, support to enable firms to pursue social objectives, and support to prop up ailing firms in order to protect jobs. We examine the value relevance of government subsidies for Chinese listed companies and structure our study around three questions. First, whether the subsidies received by Chinese listed companies are value relevant consistent with their time-series properties. Second, whether the value relevance of subsidies depends on the purpose for which they are used. Third, whether the value relevance of subsidies depends on the channel through which they are granted. We motivate these research questions through interviews of accountants, managers, academics, government officials and financial analysts. Through large sample analyses, we confirm that subsidies are positively related to firm value, but less so for distressed firms and subsidies granted through non-tax channels. Our study contributes to improved understanding of Chinese-style capitalism.

We extend standard models of conditional earnings conservatism and adaptation value to the context of the corporate refocusing activities of UK listed companies. This analysis is interesting because refocusing activities are: (1) commonly anticipated by significant negative returns in the financial year(s) before the refocusing event; (2) typically associated with large material charges; and (3) likely to be part of a strategic plan with the internal decision preceding the formal public announcement. We complement Burgstahler and Dichev [1997] by showing how their nonlinear relation between share prices and earnings changes around refocusing events as adaptation options are exercised. Because refocusing events also involve large realized losses and major changes to firms’ strategic plans, we expect to see systematic changes in the timing relations between stock returns and reported earnings. To capture this, we show how the coefficients of Basu's [1997] model of conditional conservatism change around refocusing events.