Discussion of“Pricing of Accounting Accruals Informationand the Revisions of Analyst Earnings
Forecasts: Evidence from Tokyo Stock
Exchange Firms”
by Professors Kubota, Suda, and Takehara
Douglas J. Skinner
University of Chicago
February 2006
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Overview: Interesting setting
 We know a great deal about the accruals anomaly using
US data. Very robust phenomenon.
 We know very little about the accruals anomaly in othercountries.
 Advantages of looking at Japan:– One of the few countries where the economy is large
enough to generate sample sizes that yield sufficientstatistical power.
– Good time-series and cross-sectional variation.
SloanSkinner– Different institutions than US.
– Economically significant in its own right.

3Overall Results

4

Some More Ideas While the accrual anomaly is very robust, it is still notvery well understood. Perhaps this study can help us
understand it better.

 Authors find evidence of accruals anomaly in Japan andthat analysts fail to incorporate the information inaccruals about future earnings. They also find thestrongest evidence when accruals are measured asabnormal accruals.

 Studies are largely conducted in the US where there islittle variation in institutional framework. Moreover,Pincus et al. (2005) report strongest evidence of accrual
anomaly in other similar countries, like Australia, Canada,and the UK.

 This is interesting given my previous remarks.
 In addition, I think the authors can also look at what they
have done in a way that might make the study evenmore interesting to researchers in Japan and elsewhere.

 But Japan is very different.

5 Moreover, I think a different way of thinking about theauthor’s evidence is that it is interesting because theresults are actually quite different to those in othercountries – magnitude of hedge portfolio returns seem
quite a lot smaller.

61Some More Ideas

Some More Ideas I would be interested to see the “first stage” Sloan-type
regressions – that is, regressions of accruals and cash
flows on future earnings. Is the differential persistence
evident in the US also found in Japan? (Pincus et al.
find no difference in the coefficients, but their sample
size is small and Global Vantage data are not as good.) Perhaps the authors could exploit time-series and crosssectional variation in factors likely to help explain
efficiency:

 If this is not observed, then that is interesting in its ownright.

– Is result related to firm size, analyst following, orinstitutional ownership of different firms?

 Pincus et al. find that Japanese firms have high BM, lowROA, low OCF but sample is only 1993-2001. Perhaps
authors could provide more descriptive information about
how their sample compares, say, to US firms?

– Is there more or less earnings management inJapan? Results show stronger correlation between
accruals and cash flows in Japan than in othercountries (annual correlations are -.9) – suggests
greater income smoothing? (See Lang, Ready,Wilson JAE conference paper.)– Is result related to extent of foreign participation in
Japanese equity markets?

7Aside: The relation between incomesmoothing and the accruals anomaly

Aside: The relation between incomesmoothing and the accruals anomaly If income smoothing is indeed much more prevalent inJapan, perhaps this reduces the likelihood of finding
support for the accrual anomaly. Why?

 But income smoothing is a different story (do not expect
periods of consistently positive accruals, followed byperiods of negative accruals, or vice versa), making it
harder to predict time series pattern of accruals.

 Under accruals anomaly, I think we expect earnings to
be overstated by accruals management over a period ofyears. Because market focuses on the earnings
increase (and does not understand that accruals are “lowquality” earnings and will reverse) stock becomes
overpriced.
 Subsequently, higher earnings cannot be sustained as
accruals inevitably reverse. Stock prices then decline,
causing the underperformance that forms the basis of
the accruals anomaly.

9Some More Ideas

810More Generally Perhaps the authors could exploit time-series and crosssectional variation in factors likely to help explain
efficiency: My own research on Japanese banks as well as
anecdotes from Japan (Livedoor being the most recent)suggest that even though accounting rules are ostensibly
similar in Japan and US, the way rules are actuallyapplied in practice may yield quite different results.

– Japan’s equity market performed very differently
during 1980s and 1990s. Perhaps this variation canalso be exploited to help explain the results.

 Disclosure practices may also be quite different: doreturns lead earnings to a greater or lesser extent inJapan than in the US?
 Perhaps there is something inherently different about therelation between earnings and returns in Japan, which isdue to institutional differences.
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In Conclusion
 Most interesting paper given how little we know about
the accruals anomaly outside of the US.
 I think the authors could do some things that could help
us better understand the accruals anomaly, by further
exploiting the richness of their data.

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