A Panel Data Analysis to Assess the Impact of Sustained Earnings on Stock Returns: A Special Reference to the Indian Financial Service Sector

Document Type : Research Paper

Author

Apeejay School of Management, Delhi, India

Abstract

This study was focused on addressing the comprehensive issue of sustainability with special emphasis on sustained earnings as a measurement of earnings. The research work attempted to define the operating and non-operating elements of the earnings model and then examine the variations in the normal profit margin. The sustained earnings were also estimated separately by adopting the Firm-Related Approach and Industry-Based Approach. Dynamic Panel Data-based approach was used for analysis. Findings suggested that the operating elements of earnings are significantly higher than the non-operating elements. In addition, measures related to the intensity of operating earnings were positively associated with sustained earnings. Therefore, this study contributes sizeable evidence on sustained earnings of the financial service sector of the Indian stock market and can potentially be of extensive use to investment companies for managing investors’ funds, security analysts, investors, and firms.

Keywords

Main Subjects

References

Agarwal, A., Aggarwal, S. P., & Gupta, S. (2019). Sustainable earnings: A new eye for emerging finance. Journal of Sustainable Finance & Investment, 9 (4), 325-348.
Agnes, C. S., Cheung, J. K., & Gopalakrishnan, V. (1993). On the usefulness of operating income, net income, and comprehensive income in explaining security returns. Accounting and Business Research, 23(91), 195-203.
Amir, E., Einhorn, E., & Kama, I. (2013). Extracting sustainable earnings from profit margins. European Accounting Review, 22(4), 685-718.
Barth, M. E., Cram, D. P., & Nelson, K. K. (2001). Accruals and the prediction of future cash flows. Accounting Review, 76(1), 27-58.
Barth, M. E., Elliott, J. A., & Finn, M. A. (1999). Market Rewards Associated with Patterns of Increasing Earnings. Journal of Accounting Research, 37 (2), 387–413.
Bartov, E., Gul, F. A., & Tsui, J. (2000). Discretionary accruals models and audit qualifications. Journal of Accounting and Economics, 30 (3),…, 421-452.
Beaver, W. H. (1966). Financial ratios as predictors of failure. Empirical Research in Accounting: Selected Studies, 34 (4), 71–102.
Beaver, W. H., & Morse, D. C. (1978). What determines price-earnings ratios? Financial Analysts Journal, 34 (4)…, 65-76.
Bowen, R. M., Burgstahler D., & Daley, L. A. (1986). Evidence on the relationships between earnings and various measures of cash flow. Accounting Review, 61(4), 713-725.
Chawla, N., & Sharma, C. P. (2020). Sustainable finance in emerging markets: Rational for Indian stock market and decision making for sustainable future. Journal of Commerce and Accounting Research, 9(4), 18-30….
Chen, C. (2004). Earnings persistence and stock price under and overreaction. Documento de trabajo - University of Wisconsin-Madison.
Collins, D. W., & Kothari, S. P. (1989). An analysis of intertemporal and cross-sectional determinants of earnings response coefficients. Journal of Accounting and Economics, 11 (2-3), 143-181.
Dechow, P. (2010). Understanding earnings quality: A review of the proxies, their determinants and their consequences. Journal of Accounting and Economics, 50 (2-3), 344–401.
Dechow, P., & Ge, W. (2005). The persistence of earnings and cash flows and the role of special items: Implications for the accrual anomaly, Review of Accounting Studies, 11(2), 253-296.
Dechow, P., & Schrand, C. (2004). Earnings quality. CFA Digest, 2004 (3)…, 82–85.
Dechow, P. M., Ge, W., & Schrand, C. M. (2009). Understanding earnings quality: A review of the proxies, their determinants and their consequences. Journal of Accounting and Economics, 50 (2-3), 344-401.
Dempsey, J. S., Harrison, M. D., & Sheng, H. (2015). Core earnings uncertainty, dividend change announcements and the reduction of covariance component risks. Journal of Business, Finance and Accounting, 42(9-10), 1075-1120.
Dhaliwal, D., Subramanyam, K. R., & Trezevant, R. (1999). Is comprehensive income superior to net income as a measure of firm performance? Journal of Accounting and Economics, 26(1-3), 43-67.
Dichev, I. D., & Tang, V. W. (2009). Earnings volatility and earnings predictability. Journal of Accounting and Economics, 47(1-2), 160-181.
Doukakis, L. C. (2010). The persistence of earnings and earnings components after the adoption of IFRS, Managerial Finance, 36(11), 969-980.
Easton, P., & Harris, T. (1991). Earnings as an explanatory variable for returns. Journal of Accounting Research, 29, 19–36.
Easton, P., & Zmijewski, M. (1989). Cross-sectional variation in the stock market response to accounting earnings announcements. Journal of Accounting and Economics, 11(2-3)…, 117-141.
Eccles, R. G., Herz, R. H., Keegan, E. M., & Phillips, D. M. H. (2001). The value reporting revolution: Moving beyond the earnings game. Wiley.
Fairfield, M. P., Sweeney, R. J., & Yohn, T. L. (1996), Accounting classification and the predictive content of earnings. The Accounting Review, 71, 337-55.
Fairfield, P., Ramnath, S., & Yohn, T. (2009). Do industry-level analyses improve forecasts of financial performance? Journal of Accounting Research, 47(1), 147-178.
Fairfield, P. M., & Yohn, T. L. (2001). Using asset turnover and profit margin to forecast changes in profitability. Review of Accounting Studies, 6(4), 371-385.
Fama, E. F., & French, K. R. (1993). Common risk factors in the returns on stocks and bonds. Journal of Financial Economics, 33(1), 3–56.
Fama, E.F., & Macbeth, D. J. (1973). Risk, Return and Equilibrium. Journal of Political Economy, 81(3), 607-636.
Frankel, R., & Litov, L. (2009). Earnings persistence. Journal of Accounting and Economics, 47(1-2), 182-190.
Ghosh, A., Gu, Z., & Jain, P. C. (2005). Sustained earnings and revenue growth, earnings quality, and earnings response coefficients. Review of Accounting Studies, 10, 33–57.
Gladwin, T., Kennelly, J., & Krause, T. (1995). Shifting paradigms for sustainable development: Implications for management theory and research. Academy of Management Review, 20(4), 874-907.
Graham, J. R., Harvey, C. R., & Rajgopal, S. (2005). The economic implications of corporate financial reporting. Journal of Accounting and Economics, 40 (1-3), 3–73.
Greenberg, R. R., Johnson, G. L., & Ramesh, K. (1986). Earnings versus cash flows as a predictor of future cash flow measures. Journal of Accounting, Audit and Finance, 1(4), 266-277.
Gujarati, D. N., Porter, D. C., & Gunasekar, S. (2012). Basic econometrics (5th ed.). McGraw Hill.
Healy, P. M. (1985). The effect of bonus schemes on accounting decisions. Journal of Accounting and Economics, 7 (1-3), 85-107.
Helleiner, E. (2011). Understanding the 2007–2008 global financial crisis: Lessons for scholars of international political economy. Annual Review of Political Science, 14, 67-87.
Hevas, D. L. (2007). The value relevance of the income components: An empirical study using Greek data. Investment Research and Analysis Journal, 9 (2), 16-27.
Hogan, R. S. (2013). The effect on earnings persistence and the market’s reaction to the alignment of employee and customer relations with competitive strategy. Louisiana State University.
Jian, M., & Wong T. J. (2004). Earnings management and tunneling through related party transactions: Evidence from Chinese corporate groups [Working Paper No. …]. Nanyang Technological University and Hong Kong University of Science and Technology. …
Jones, J. J. (1991). Earnings management during import relief investigations. Journal of Accounting Research, 29(2), 193–228.
Kormendi, R., & Lipe, R. (1987). Earnings innovation, earnings persistence, and stock returns. The Journal of Business, 60 (3), 323-345.
Kundu, S., & Banerjee, A. (2021). Predictability of earnings and its impact on stock returns: Evidence from India. Cogent Economics & Finance, 9 (1), 1-24.
Lee, J. M. (2019). Regional heterogeneity among non-operating earnings quality, stock returns, and firm value in biotech industry. Agricultural Economics – Czech, 65 (1), 10–20.
Lev, B. (1989). On the usefulness of earnings and earnings research: Lessons and directions from two decades of empirical research. Journal of Accounting Research, … (Supplementary issue), 27, 153-192.
Levine, R. (2005). Finance and growth: Theory, mechanisms and evidence. In P. Aghion & S. N. Durlauf (Eds.), Handbook of economic growth (pp. 865-923). Elsevier, Amsterdam.
Lintner, J. (1965). Security prices, risk and maximal gains from diversification. The Journal of finance, 20 (4), 587-615.
Mendenhall, R. R. (2004). Arbitrage risk and post-earnings-announcement drift. The Journal of Business, 77(4), 875–894.
Mezher, T., Jamali, D., & Zreik, C. (2002). The role of financial institutions in the sustainable development of Lebanon. Sustainable Development, 10(2), 69-79.
Monahan, S. J. (2017). Financial statement analysis and earnings forecasting. Foundations and Trends in Accounting, 12(4), 1-111.
Mossin, J. (1966). Equilibrium in a capital asset market. Econometrica: Journal of the Econometric Society, 34(4), 768–783.
Ohlson, J., & Gao, Z. (2006). Earnings, earnings growth and value. Foundations and Trends in Accounting, 1(1), 1-70.
OICV-IOSCO (2019). Sustainable finance in emerging markets and the role of securities regulators. The International Organization of Securities Commissions, FR08, 1-19.
Patell, J., & Wolfson M. (1984). The intraday speed of adjustment of stock prices to earnings and dividend announcements. Journal of Financial Economics, 13 (2)… 223-252.
Penman, S. (1996). The articulation of price-earnings ratios and market-to-book ratios and the evaluation of growth. Journal of Accounting Research, 34(2), 235–259.
Penman, S., & Zhang, X. (2004). Modeling Sustainable earnings and P/E ratios with financial statement information. SSRN Electronic Journal, …. https://doi.org/10.2139/ssrn.318967
Porter, M. E. (1980). Competitive strategy: Techniques for analyzing industries and competitors. Free Press (Republished with a new introduction, 1998).
Rajgopal, S., & Venkatachalam M. (2011). Financial reporting quality and idiosyncractic volatility over the last four decades. Journal of Accounting and Economics, 51 (1-2), 1–20.
Richardson, S. A., Sloan, R. G., Soliman, M. T., & Tunaa, I. (2005). Accrual reliability, earnings persistence and stock prices. Journal of Accounting and Economics, 39(3), 437-485.
Sayari, S., Mraihi, F., Finet, A., & Omri, A. (2013). The impact of earnings management on stock returns: The case of Tunisian firms. Global Journal of Management and Business Research, 13(10), 51-65.
Schadewitz, H. J., & Kanto, A. J. (2002). The impact of disclosure on the market response to reported earnings. Scandinavian Journal of Management, 18(4), 521–542.
Schoenmaker, D. (2017). From risk to opportunity: A framework for sustainable finance. Rotterdam School of Management, Erasmus University, Rotterdam.
Schoenmaker, D., & Schramade, W. (2019). Principles of Sustainable Finance. Oxford University Press.
Scholtens, B. (2008). Corporate social responsibility in the international banking industry. Journal of Business Ethics, 86 (2), 59–175.
Scholtens, B. (2011). Corporate social responsibility in the international insurance industry. Sustainable Development, 19(2), 143–156.
Sharpe, W. (1964). Capital asset prices: A theory of market equilibrium under conditions of risk. The Journal of Finance, 19(3), 425–442.
Sloan, R. G. (1996). Do stock prices fully reflect information in accruals and cash flows about future earnings? The Accounting Review, 71(3), 289–315.
Wiek, A., & Weber, O. (2014). Sustainability challenges and the ambivalent role of the financial sector. Journal of Sustainable Finance & Investment, 4(1), 9-20.
Yousaf, R., & Ali, D. S. (2021). Sustainable core earnings & stock performance: An evidence of the pharmaceutical sector of Pakistan. Journal of Finance and Accounting Research, 3(2), 59-101.
Iranian Journal of Management Studies
Volume 16, Issue 2
April 2023
Pages 337-354

Files

Share

How to cite

Statistics