Evidence on the Relative Usefulness of Accruals and Cash Flows: The Case of Depreciation

37 Pages Posted: 26 Feb 1998  

Dennis J. Chambers

Kennesaw State University; Professor of Accounting

Ross Jennings

University of Texas at Austin - Department of Accounting

Robert B. Thompson

American University

Abstract

Investment professionals often suggest that current accounting earnings can be improved upon as an indicator of share values by substituting capital expenditures for reported depreciation. To provide evidence on the effect of this substitution, we compare the ability of earnings measures based on accrual- and cash-basis accounting for property and equipment to explain the cross-sectional distribution of stock prices for a large sample of manufacturing firms. We find that earnings based on expensing current capital expenditures explains a much smaller fraction of the variation in share prices than earnings based on reported depreciation. This result holds even for stable firms with a relatively smooth year-to-year pattern of capital expenditures.

JEL Classification: M41, G12

Suggested Citation

Chambers, Dennis J. and Jennings, Ross and Thompson, Robert B., Evidence on the Relative Usefulness of Accruals and Cash Flows: The Case of Depreciation. Available at SSRN: https://ssrn.com/abstract=55514 or http://dx.doi.org/10.2139/ssrn.55514

Dennis J. Chambers

Kennesaw State University ( email )

560 Parliament Garden Way
MD #0402
Kennesaw, GA 30144
United States
470-578-6375 (Phone)
470-578-9018 (Fax)

Professor of Accounting ( email )

1000 Chastain Rd
Kennesaw, GA 30144
United States

Ross Jennings (Contact Author)

University of Texas at Austin - Department of Accounting ( email )

Austin, TX 78712
United States
512-471-5340 (Phone)
512-471-3904 (Fax)

Robert B. Thompson

American University ( email )

4400 Massachusetts Avenue NW
Washington, DC 20816-8044
United States

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