A new approach to empirical analysis of the relation between change in value and earnings


Speaker


Abstract

We suggest and show the effects of two fundamental changes to the methodology at the core of the vast empirical literature examining the extent to which accounting captures concurrent changes in market value. First, we focus on the part of the earnings/returns relation that is not dollar-for-dollar because, at best, the part that is recorded dollar-for-dollar is uninteresting empirically and, at worst, including this part may lead to incorrect inferences. Second, we suggest the inclusion of an omitted variable, capturing transactions with owners, in the earnings/change in value relation. Absent unconditional conservatism, this additional variable should provide no explanatory power in the model we propose. However, our empirical analyses demonstrate that this added variable contributes similar explanatory power for earnings to that provided by returns, and that the sign of this variable also affects estimates of conditional conservatism derived from either our model or that of Basu [1997].