ATJ Asian Tax Journal

Asian Tax Journal

Print ISSN 1738-3323 Online ISSN 2733-9270

The Persistence and Pricing of Earnings, Accruals, and Cash Flows When Firms rely on Large External Financing in the KOSDAQ Market

  • Sung-Yong Ryu Soonchunhyang University
  • YunBok-Yook Hongik University

Asian Tax Journal Vol. 8 No. 2 (2007), pp. 89-112

Abstract

Prior research reveals that the accrual component of profitability is less persistent than the cash flow component, and that investors fail to fully appreciate their differing implications for future profitability(Sloan 1996). We investigate the roles of the external financing and the capital investments in indicating the persistence of earnings, accruals, and cash flows for the one-year ahead earnings. This paper also examines whether the levels of the external financing and the capital investments influence investors' assessments of future earnings persistence. Using the multiple regression and the Mishkin(1983)-test that Sloan(1996), Xie(2001), and Hanlon(2005) employ, we find that firm-years with small capital investments have earnings that are less persistent than firm-years with large capital investments. we also find that the market irrationally estimates the persistence, or one-year ahead earnings implications of earnings, cash flows, and accruals and consequently overprices these earnings and components of earnings. We find that firm-years with large external financing have earnings that are less persistent than firm-years with small external financing. we also find that the investors irrationally estimate the one-year ahead earnings implications of earnings, cash flows, and accruals and consequently underprice these earnings, cash flows, and accruals. Our results suggest that generally the market irrationally estimates the persistence, or one-year ahead earnings implications of the earnings, cash flows, and accruals and consequently under or over reacts the persistences of earnings and the components of earnings in KOSDAQ market.

Keywords

  • external financing
  • earnings persistence
  • accruals
  • cash flows
  • pricing

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