This paper provides evidence that conditional conservatism reduces the usefulness of GAAP earnings for valuation by investors. We find that conditional conservatism reduces GAAP earnings persistence and informativeness, makes income smoothing more difficult, and makes forecasting GAAP earnings more difficult for analysts. We also find that analysts forecast Street earnings numbers with less conditional conservatism. The decrease in conditional conservatism from adjusting GAAP earnings to Street earnings leads to improvements in persistence, smoothing, and informativeness and reduces analysts’ forecast errors and dispersion. Furthermore, as GAAP conditional conservatism increases, (1) Street earnings more likely differ from GAAP, and (2) the magnitude of the difference between Street and GAAP earnings increases. Finally, we find that exclusions (from GAAP to Street) are of higher quality for firms with higher GAAP conditional conservatism. Our results suggest that, as the conditional conservatism of GAAP earnings increases, analysts’ exclusions make Street earnings more useful to investors.
Review of Accounting Studies – Springer Journals
Published: Oct 21, 2014
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