The effect of growth on the relevance of financial accounting data for stock valuation purposes

Abstract

This study investigates the impact of growth on the value relevance of accounting data. Indirect evidence in the contracting literature suggests differences in value relevance is negatively related to growth, but to date evidence to empirically document the relationship is mixed. In contrast to previous research, this study analyzes the effect of growth on value relevance from a security price perspective, using the recently developed Ohlson model, and uses the analysts' five-year growth in EPS forecast as the proxy for growth which focuses on growth in terms of value to the investor. This study also considers the effect of growth on the persistence of abnormal earnings as well as the incremental information content of book value beyond earnings. The results provide evidence that the value relevance of accounting data is decreasing in growth. These findings are robust to different samples, other growth proxies, and controls for size and the lead-lag structure of prices and earnings. The evidence relating growth to persistence is inconclusive, suggesting persistence is more sensitive to the characteristics of the individual firms which make up each growth portfolio than the quality of accounting data. The findings also indicate the incremental information content of book value is greater for low growth firms compared to high growth firm, further supporting the hypothesis that the accounting data of high growth firms does not capture value relevant events as well as the accounting data of low growth firms. Overall, this study contributes to the understanding of cross-sectional differences in the valuation of securities by providing evidence that growth negatively affects the quality of accounting information.