The Effects of Earnings and Firm Characteristics on Differential Interpretation of Earnings Announcements

Abstract

This study examines whether differential interpretation of earnings announcements is affected by earnings and firm characteristics. We find that Kandel and Pearson's (1995) forecast measures of differential interpretation are: 1) negatively related to earnings predictability, firm size, and price-to-book ratio, and 2) positively related to earnings surprise, negative earnings, and analyst coverage. This evidence suggests that differential interpretation of earnings announcements is decreasing in the quality of the earnings, the quality of pre-announcement disclosure, and the cost of analyzing a firm's value.

Keywords: differential interpretation, earnings precision, prior information

JEL Classification: G10, G14, G29, M41, M43, G32