Disclosures, Capital market equilibrium, Information production, Signaling

Nicholas J. Gonedes, Corporate Signaling, External Accounting, and Capital Market Equilibrium: Evidence on Dividends, Income, and Extraordinary Items, Journal of Accounting Research, Vol. 16, No. 1 (Spring, 1978), pp. 26-79

Special items, Extraordinary items, Market efficiency, Disclosures

Information Content of accounting numbers, Financial Ratios, Asset pricing, Two-Parameter asset pricing model

Statistical models for accounting numbers, particularly income-related numbers, have attracted considerable interest. Some reasons for this interest are: (1) the potential use of forecasts of accounting numbers as inputs to decision models; (2) the need to secure proxies for unobservable expectations in order to test economic theories; (3) the need to use such statistical models within the context of studies dealing with the predictive ability or information content of accounting numbers, subjects that have been receiving increased attention during the past few years;' (4) the growing interest in examining the forecasting success of, for example, managers and financial analysts relative to statistical models that are appropriate for the accounting number series of interest;2 and (5) the need to use accounting numbers in testing hypotheses regarding industrial organization (e.g., market concentration), profitability,3 and the growth and decline of firms.4 The interest in statistical models for accounting numbers obviously induces a need for model-formulation efforts and empirical results regarding the properties of alternative statistical models. If, in fact, a statistical model used in a given study suffers from important misspecifications or if

The purpose of this paper is to extend the results of the analysis [9] on the optimal timing of messages.' The model and theorems [9] are applicable to a situation involving the of a single (or aggregated) decision-making unit's performance terms of a single (or aggregated) goal. This goal need not be constant over time. The model used [9] is a continuous-time finite horizon model whose formulation and optimization involved the use of a finite-state continuous-time Markov process and tools from continuous-time optimal theory. In the present paper, attention is restricted to a two-state process. This restriction decreases the generality of the results return for a more specific model and more specific theorems. A two-state process is typically chosen for analytical treatment because of expositional convenience or practical applicability. The two states of the process are defined by the usual general descriptions: in control or consistent with goal(s) and out of control or inconsistent with goal(s). This type of process has been analyzed using mathematical programming, quality-control, and Markov chain techniques.2

An important function of managerial accounting is the provision of information for controlling activities. In this regard, the data generated by the accounting process should facilitate: (1) evaluations of the degree of conformance between actual states of affairs and goals, (2) the selection of managerial actions that will contribute to the conformance of actualities and goals, and (3) evaluations of the need for exploratory efforts directed towards developing additional alternative actions, modifying managerial goals, or both. Several proposals have appeared which are designed to enhance the degree to which the accounting process facilitates managerial control. Most of these proposals focus upon two actions that may be initiated in order to a particular process, i.e., investigate or do not investigate. Also, most of these proposals only consider a probability distribution defined on the current state of the system (and, usually, conditional upon a set of observations or experimental outcomes).' Optimal action is defined by some of the proposed approaches by comparing a measurable characteristic of the process to be controlled with a stipulated managerial goal or a stipulated standard. Simple control chart schemes and schemes that embrace the use of information-theory measures are examples of such ap-

Nicholas J. Gonedes, The Significance of Selected Accounting Procedures: A Statistical Test, Journal of Accounting Research, Vol. 7, Empirical Research in Accounting: Selected Studies 1969 (1969), pp. 90-113

In Gonedes [5], the results of an empirical analysis of accounting-based and market-based estimates of systematic risk were presented. These results suggested that there is, in general, a “statistically significant” relationship between accounting-based and market-based estimates of systematic risk at the level of individual securities, if the accounting-based estimates are conditional upon first-differences or scaled first-differences of the accounting numbers. The differencing transformation seemed to induce relatively better specified models for the accounting numbers.

There exists a relatively large body of evidence that is consistent with the proposition that the market for securities (in particular, the New York Stock Exchange) is an efficient market in the sense that market prices react instantaneously and unbiasedly to new information and, therefore, market prices fully reflect all publicly available information. To what extent do accounting numbers reflect the kinds of information reflected in market prices? One might not, of course, expect accounting numbers to reflect all events reflected in current market prices. For example, if an economically significant piece of legislation is under discussion in, say, the United States Senate, then the expected effects (if any) of this legislation may be impounded in current market prices. One should not, however, expect these effects (if any) to be reflected in currently issued accounting numbers because of the nature of accepted accounting procedures. Yet, in general, over a period of time, there may be a systematic correspondence between some types of events reflected in market prices and accounting numbers. That is, over time, there may be a correlation between the information impounded in market prices and that impounded in accounting numbers.