Accounting Variables and Stock Returns: The Impact of Leverage

Posted: 30 Oct 2000

See all articles by Peta Stevenson-Clarke

Peta Stevenson-Clarke

Griffith University - Dept of Accounting, Finance and Economics

Allan Hodgson

University of Queensland - Faculty of Business, Economics and Law; Financial Research Network (FIRN)

Abstract

The fundamental relationship between accounting variables and firm valuation is a recurring theme in capital market research. This paper investigates this relationship within a balance sheet context and highlights the importance of controlling for relevant economic factors. We do this by conditioning explanatory power on the firm's relative financial leverage position, after controlling for cashflows and firm size, and using an arctan regression model to take account of temporary components in cash and earnings flows. Using data for 743 firm-years for Australian Stock Exchange listed stocks, we find that for firms which are 'above optimal leverage': (i) earnings contain a greater level of transitory items, particularly when firm size is small; and (ii) cashflows provide higher incremental information. Our results are consistent with investors perceiving earnings as progressively less informative as the probability of failure increases, and the likelihood of earnings manipulation for the purpose of reducing proximity to debt covenants increases.

JEL Classification: G12, G33, M41, M43

Suggested Citation

Stevenson-Clarke, Peta and Hodgson, Allan C., Accounting Variables and Stock Returns: The Impact of Leverage. Available at SSRN: https://ssrn.com/abstract=247893

Peta Stevenson-Clarke (Contact Author)

Griffith University - Dept of Accounting, Finance and Economics ( email )

Kessels Road
Nathan, Queensland 4111
Australia
+61 7 373 53547 (Phone)
+61 7 373 57760 (Fax)

Allan C. Hodgson

University of Queensland - Faculty of Business, Economics and Law ( email )

4072 Brisbane, Queensland
Australia

Financial Research Network (FIRN)

C/- University of Queensland Business School
St Lucia, 4071 Brisbane
Queensland
Australia

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