Earnings Quality and Stock Returns

38 Pages Posted: 3 Jun 2001 Last revised: 22 Oct 2010

See all articles by Konan Chan

Konan Chan

National Chengchi Unversity (NCCU) - Finance

Narasimhan Jegadeesh

Emory University - Department of Finance

Louis K.C. Chan

University of Illinois at Urbana-Champaign - Department of Finance

Josef Lakonishok

University of Illinois at Urbana-Champaign; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: May 2001

Abstract

An exclusive focus on bottom-line income misses important information about the quality of earnings. Accruals (the difference between accounting earnings and cash flow) are reliably, negatively associated with future stock returns. Earnings increases that are accompanied by high accruals, suggesting low-quality earnings, are associated with poor future returns. We explore various hypotheses -- earnings manipulation, extrapolative biases about future growth, and under-reaction to business conditions -- to explain accruals' predictive power. Distinctions between the hypotheses are based on evidence from operating performance, the behavior of individual accrual items, and discretionary versus nondiscretionary components of accruals.

Suggested Citation

Chan, Konan and Jegadeesh, Narasimhan and Chan, Louis K.C. and Lakonishok, Josef, Earnings Quality and Stock Returns (May 2001). NBER Working Paper No. w8308. Available at SSRN: https://ssrn.com/abstract=272119

Konan Chan

National Chengchi Unversity (NCCU) - Finance ( email )

No. 64, Chih-Nan Road
Section 2
Taipei, 11623
Taiwan
+886-2-29393091 ext 81239 (Phone)

Narasimhan Jegadeesh

Emory University - Department of Finance ( email )

Atlanta, GA 30322-2710
United States

Louis K.C. Chan (Contact Author)

University of Illinois at Urbana-Champaign - Department of Finance ( email )

1206 South Sixth Street
Champaign, IL 61820
United States
217-333-6391 (Phone)
217-244-3102 (Fax)

Josef Lakonishok

University of Illinois at Urbana-Champaign ( email )

1206 South Sixth Street
Champaign, IL 61820
United States
217-333-7185 (Phone)
217-244-3102 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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