Valuation Weights and Accounting Conservatism

32 Pages Posted: 7 Jul 2008

See all articles by David J. Ashton

David J. Ashton

University of Bristol - Department of Economics

Pengguo Wang

Xfi, University of Exeter

Date Written: July 7, 2008

Abstract

In this paper we develop a general framework for evaluating the impact of conservative accounting on the structure of residual income models of equity valuation. This affords a theoretical understanding of the signs and sizes of the valuation weights observed in regression studies of the relationship between prices, book values, earnings and dividends. We proceed to generalize our model of conservatism and are able to show theoretically the likely numerical impact of conservatism on book values, price-earnings ratios and under valuations produced by residual income models. The analysis also affords an understanding of the limitations of empirical investigations of conservatism using linear information dynamics and hence to explain the failure of many such studies to detect conservatism.

Keywords: Accounting conservatism, Equity valuation, Book value, Residual income

JEL Classification: M41, M44, G12

Suggested Citation

Ashton, David John and Wang, Pengguo, Valuation Weights and Accounting Conservatism (July 7, 2008). Available at SSRN: https://ssrn.com/abstract=1156490 or http://dx.doi.org/10.2139/ssrn.1156490

David John Ashton

University of Bristol - Department of Economics ( email )

8 Woodland Road
Bristol BS8 ITN
United Kingdom
+44 (0)117 928 8423 (Phone)

Pengguo Wang (Contact Author)

Xfi, University of Exeter ( email )

Streatham Court
Exeter, EX4 4PU
United Kingdom

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