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Market Underestimation of the Implications of R&D Increases for Future Earnings: The US Evidence
Author(s) -
Ali Ashiq,
Ciftci Mustafa,
Cready William M.
Publication year - 2012
Publication title -
journal of business finance and accounting
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.282
H-Index - 77
eISSN - 1468-5957
pISSN - 0306-686X
DOI - 10.1111/j.1468-5957.2012.02282.x
Subject(s) - earnings , economics , monetary economics , stock (firearms) , stock market , financial economics , accounting , biology , mechanical engineering , paleontology , horse , engineering
This study shows that future abnormal returns to R&D increases are concentrated around subsequent earnings announcements. It further shows that market expectations, implied from stock prices, underestimate the future earnings benefits of increase in R&D. Finally, it documents that in their forecasts of future earnings, security analysts also underestimate the effect of increase in R&D spending. These results suggest that future abnormal returns following R&D increases are at least in part due to the market's underestimation of the earnings benefits of R&D increases. The finding in this study contributes to the longstanding debate in accounting on whether the US GAAP requirement to expense R&D costs when incurred causes investors to underestimate the benefits of R&D.