Common and Idiosyncratic Earnings, Return Variance and the R&D Impact

• In Event: Financial Reporting--Quality

Abstract

We examine the effect of financial reporting information on R&D to the value relevance of common and idiosyncratic earnings. Specifically, we investigate the value relevance of common and idiosyncratic earnings through an extension of the Vuolteenaho (2002) model which decomposes return variance into its discount rate, idiosyncratic and common cash flow news. We demonstrate that the relative importance of idiosyncratic over common cash flow news in explaining return variance increases with firm-level R&D intensity. Extending this analysis, we find that this relation varies with the level of R&D investment concentration in the industry. Those results indicate that the market perceives that more pronounced R&D activity leads to outcomes that enable the firm to differentiate itself from its rivals. However, our results also suggest that the market perceives that this relation depends upon the underlying economics (investment concentration) of the industry where the firm operates.

Keywords: Idiosyncratic and common earnings, R&D, return variance decomposition, industry concentration.

JEL Classification: G12, G14, M40, M41.

Authors

• Dimos Andronoudis, University of Bristol

• Christina Dargenidou, University of Exeter

• Eirini Konstantinidi, University of Manchester