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Dissecting Earnings Recognition Timeliness
Author(s) -
BALL RYAN T.,
EASTON PETER
Publication year - 2013
Publication title -
journal of accounting research
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 6.767
H-Index - 141
eISSN - 1475-679X
pISSN - 0021-8456
DOI - 10.1111/1475-679x.12018
Subject(s) - earnings , revenue , element (criminal law) , relation (database) , economics , premise , stock (firearms) , revenue recognition , business , matching (statistics) , actuarial science , financial economics , accounting , financial accounting , accounting information system , computer science , mechanical engineering , linguistics , philosophy , statistics , mathematics , database , political science , law , engineering
We dissect the portion of stock price change of the fiscal year that is recognized in reported accounting earnings of the year. We call this portion earnings recognition timeliness (ERT). The emphasis in our dissection is on empirical identification of two fundamental precepts of financial accounting: (1) the matching principle, which is manifested in the recognition of expenses in the same period as the related benefits (i.e., sales revenue) accrue; and (2) recognition of expenses in the current period due to changes in expectations regarding earnings of future periods (we refer to these expenses as the expectations element of expenses). Although the expectations element has implicitly been at the core of much of the recent empirical literature on asymmetry in the earnings/return relation, it has not been explicitly identified. This recent literature is based on the premise that bad news about the future leads to more recognition of expenses in the current period (such as write‐downs) whereas good news about the future tends to have a much lesser effect on expenses of the current period; asymmetry in the expenses /return relation is captured implicitly via the observation of asymmetry in the earnings /return relation (i.e., asymmetry in ERT). Since the ERT reflects the relation between sales revenue and returns, matched expenses and returns, as well as the relation between the expectations element of expenses and returns, a focus on the expectations element may lead to sharper inferences. Our straightforward empirical procedure permits a focus on this element.