Earnings less risk-free interest charge (ERIC) and stock returns: ERIC’s relative and incremental information content in a European sample

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This study tests the information content of earnings less risk-free interest charge (ERIC) and analyses its ability to explain fluctuations in market-adjusted stock returns. Following Biddle et al. (1997) study design, we perform relative and incremental information content tests. Relative information content tests reveal that mandatory reporting metrics — such as earnings before extraordinary items (EBEI), cash flow from operations (CFO), and total comprehensive income (TCI) — are more highly associated with stock returns and firm values than ERIC or residual income (RI). A number of sensitivity analyses support our findings. To test incremental information content, we split ERIC into five components. Primary results indicated that components specific to ERIC — changes of net assets, after-tax interest expenses, and capital charge — do not add relative information content. Yet, sensitivity tests suggest that some ERIC components add incremental information, especially when accounting for market expectations. However, these findings are not economically substantial compared to CFO and EBEI. Overall, we conclude that mandatory metrics generally outperform ERIC and residual income. Our unique contribution lies in applying the established methodology of measuring economic value added (EVA’s) relative and incremental information content to ERIC
Original languageEnglish
JournalCorporate Ownership and Control
Issue number2
Pages (from-to)166-181
Number of pages16
Publication statusPublished - 13.02.2023

Bibliographical note

This publication was funded by the German Research Foundation (DFG)

    Research areas

  • Management studies - earnings less risk-free interest charge, relative information content, incremental information content, Economic Value Added, Shareholder Value, Value-Based Management