Accounting Diversity and Firm Valuation

Abstract

This study examines the relation between accounting numbers and stock prices across three countries: Germany, Norway, and the United Kingdom (UK). The analysis follows the residual income valuation model. Accounting in the three countries varies in faithfulness to clean surplus accounting and in bias (conservatism). We address three questions. Are there differences across countries in the value relevance of accounting? Second, are there differences in the incremental and relative value relevance of book values and earnings per share (EPS)? Third, do future earnings realizations explain current stock prices? We find book value and EPS are positively and significantly related to stock prices across all three countries. German accounting numbers have the lowest relation with stock prices (R2 40%), while UK and Norwegian accounting numbers explain 70% and 60% respectively of variation in stock prices. Second, the incremental and relative value relevance of book value and of EPS differs across time and countries. Book values explain more than EPS in Germany and Norway, but less in the UK. Finally, future income realizations explain little about market prices not explained by current book value and EPS.

JEL Classification: M41, G12