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The Implications of Retained and Distributed Earnings for Future Profitability and Market Mispricing

Listed author(s):
  • George Papanastasopoulos

    ()

    (University of Peloponnese, Greece)

  • Dimitrios D. Thomakos

    ()

    (University of Peloponnese, Greece and The Rimini Centre for Economics Analysis, Italy)

  • Tao Wang

    ()

    (Queens College, City University of New York, USA)

Registered author(s):

    In this paper, we investigate the informational content of retained and distributed earnings for future profitability and market mispricing. We find that investors act as if the components of retained earnings (current operating accruals, non current operating accruals and retained cash flows) have similar implications for future profitability, leading to an overvaluation of their differential persistence. They also do not distinguish between the distinct properties of distributed earnings, correctly anticipate the persistence of net cash distributions to debt holders (net debt repayment) and underestimate the persistence of net cash distributions to equity holders (dividends minus net stock issues). Our evidence suggests that the accrual anomaly documented in the accounting literature and the anomaly on net stock issues documented in the finance literature could be a subset of a larger anomaly on retained earnings. Overall, our findings on the sources of this anomaly, indicate that it is primary attributable to investorÕs limited attention or limited cognitive power on understanding managerial empire building tendencies and managerial violation of accounting principles.

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    File URL: http://www.rcea.org/RePEc/pdf/wp46_07.pdf
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    Paper provided by The Rimini Centre for Economic Analysis in its series Working Paper Series with number 46_07.

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    Date of creation: Jul 2007
    Handle: RePEc:rim:rimwps:46_07
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