The Market Pricing of Special Items that are Included Versus Excluded From 'Street' Earnings
Hong Kong University of Science & Technology
State University of New York at Buffalo - Department of Accounting
July 20, 2010
We re-investigate the market pricing of special items, with particular emphasis on how managers “frame” them via their inclusion or exclusion from “street” earnings. When managers include the special items in “street” earnings (i.e., “street” = GAAP), the market overprices them, believing the special items to be more persistent than they actually are. As a result, there is a negative relationship between the special items and future stock returns in the following year. However, when managers exclude special items from “street” earnings (i.e., “street” ≠ GAAP), the market recognizes their transitory characteristic and the relationship between special items and returns is insignificant in the following year. We also demonstrate that the decision to include (exclude) special items with (from) “street” earnings is associated with whether inclusion or exclusion of special items a) increases earnings numbers, b) smoothes the earnings series, or c) helps managers to meet earnings benchmarks.
Number of Pages in PDF File: 49
Keywords: Special Items, Mispricing, Street Earnings, Management Framing
JEL Classification: G14, M41working papers series
Date posted: October 12, 2010
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