Earnings Conservatism and Value Relevance Across the Business Cycle

Abstract

Abstract: Prior research has demonstrated higher value relevance of current earnings during economic expansions relative to contractions. We largely attribute such a result to expected growth prospects being captured in the current earnings coefficient when a direct proxy for expected future earnings is omitted from the returns‐earnings model. We demonstrate that the conservatism and value relevance of current earnings is actually higher during economic contractions when including a proxy for future earnings expectations. We further demonstrate that the value‐relevance of expected future earnings is higher during expansions, when the association between historical accounting information and future growth opportunities likely weakens.