The association between unexpected earnings and capital expenditure.

Abstract

It has been well established in the literature that there is a positive relationship between unexpected earnings and subsequent abnormal returns. There has been little research as to whether current unexpected earnings influence investment decisions which are known to be associated with abnormal returns. The objective of this dissertation is to test whether unexpected changes in earnings are associated with changes in investment, and then whether changes in investment are associated with abnormal returns. Specifically, the empirical tests examine (i) the association between investment and subsequent unexpected earnings, (ii) the association between unexpected earnings and subsequent changes in investment, and (iii) the association between changes in investment and abnormal security returns. The results are mixed. The results do not support an association between investment and subsequent unexpected earnings. The results also fail to support an association between changes in actual investment and abnormal security returns. The evidence is generally consistent with a positive association between unexpected earnings and subsequent changes in investment. This association is stronger for firms with available debt capacity.