Searching for value relevance of book value and earnings: a case of premium versus discount firms

Searching for value relevance of book value and earnings: a case of premium versus discount firms We examine the premium/discount firm characteristic that fundamentally affects the value relevance of two key accounting line items, earnings and book values. We argue that from the perspective of both the residual income and option-style valuation models, the relative valuation roles of earnings and book values differ fundamentally between firms that trade at a premium vis-à-vis discount to book value. We find that book values play a significantly more important role in equity valuation than earnings when firms trade at a discount. We also find that other known influential conditions, such as the sign of earnings (Collins et al. in Acc Rev 74(1):29–61, 1999) or the relative levels of earnings and book value (Burgstahler and Dichev in Acc Rev 72(2):187–215, 1997), become inconsequential when the premium/discount condition of the firm is controlled for. The discovered relationships between the relative valuation roles of book values and earnings and the discount/premium characteristics of the firm are robust to the effect of time, information environment and the industry of the firm. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Review of Quantitative Finance and Accounting Springer Journals

Searching for value relevance of book value and earnings: a case of premium versus discount firms

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Publisher
Springer US
Copyright
Copyright © 2012 by Springer Science+Business Media, LLC
Subject
Economics / Management Science; Finance/Investment/Banking; Accounting/Auditing; Econometrics; Operations Research/Decision Theory
ISSN
0924-865X
eISSN
1573-7179
D.O.I.
10.1007/s11156-012-0318-8
Publisher site
See Article on Publisher Site

Abstract

We examine the premium/discount firm characteristic that fundamentally affects the value relevance of two key accounting line items, earnings and book values. We argue that from the perspective of both the residual income and option-style valuation models, the relative valuation roles of earnings and book values differ fundamentally between firms that trade at a premium vis-à-vis discount to book value. We find that book values play a significantly more important role in equity valuation than earnings when firms trade at a discount. We also find that other known influential conditions, such as the sign of earnings (Collins et al. in Acc Rev 74(1):29–61, 1999) or the relative levels of earnings and book value (Burgstahler and Dichev in Acc Rev 72(2):187–215, 1997), become inconsequential when the premium/discount condition of the firm is controlled for. The discovered relationships between the relative valuation roles of book values and earnings and the discount/premium characteristics of the firm are robust to the effect of time, information environment and the industry of the firm.

Journal

Review of Quantitative Finance and AccountingSpringer Journals

Published: Sep 16, 2012

References

  • An aggregation theorem for the valuation of equity under linear information dynamics
    Ashton, D; Cooke, T; Tippett, M
  • Scale effects in capital market-based accounting research
    Barth, M; Clinch, G
  • Relative valuation roles of equity book value and net income as a function of financial health
    Barth, M; Beaver, W; Landsman, W

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