Beyond Accounting and Back: An Empirical Examination of the Relative Relevance of Earnings and 'Other' Information

Abstract

Ohlson (1995) models firm value as a function of book value, earnings, and analysts’ earnings forecasts which capture “other” information not yet reflected in the financial statements. Within this framework, stock returns reflect information from earnings and forecasts, each of which is different in terms of reliability and timeliness. For the period 1984–2012, this paper examines time trends and the influence of aggregate market conditions on the relative relevance of earnings and forecasts. In this context, relative relevance is defined as the incremental explanatory power of earnings or forecasts, relative to their combined explanatory power with respect to the cross-section of stock returns. This inquiry is motivated by anecdotal evidence and recent research, which suggests that aggregate market conditions influence the usefulness of accounting information for investors. The findings show that while the relative relevance of earnings has remained stable, the relative relevance of forecasts has increased over time. I also find that the relative relevance of earnings is higher in bad years, i.e. years with low market returns or elevated market uncertainty. Overall, the results reported in this study suggest that despite the increase in the relevance of timely “other” information, investors tend to rely more on reliable accounting information during bad years.

Keywords: Forward-looking information, Analysts' forecasts, Value-relevance, Market conditions