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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In: Corporate Ownership and Control, Vol. 20, No. 2, 13.02.2023, p. 166-181.
Research output: Journal contributions › Journal articles › Research › peer-review
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TY - JOUR
T1 - Earnings less risk-free interest charge (ERIC) and stock returns: ERIC’s relative and incremental information content in a European sample
AU - Griskaite, Aurelija
AU - Lueg, Rainer
N1 - This publication was funded by the German Research Foundation (DFG)
PY - 2023/2/13
Y1 - 2023/2/13
N2 - 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
AB - 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
KW - Management studies
KW - earnings less risk-free interest charge
KW - relative information content
KW - incremental information content
KW - Economic Value Added
KW - Shareholder Value
KW - Value-Based Management
U2 - 10.22495/cocv20i2art14
DO - 10.22495/cocv20i2art14
M3 - Journal articles
VL - 20
SP - 166
EP - 181
JO - Corporate Ownership and Control
JF - Corporate Ownership and Control
SN - 1727-9232
IS - 2
ER -