The End of Accounting and the Path Forward for Investors and Managers

Chapter 3The Widening Chasm between Financial Information and Stock Prices

If financial information is useful and affects investors’ decisions, then key financial indicators such as earnings, sales, and asset values should be associated (correlated) with stock prices—high earnings, high capitalization (think Apple). This indeed is the case, but we show in this chapter that the strength of this association, and by implication, the relevance of financial information to investors, deteriorated markedly over the past half century. Decades ago, financial data determined stock prices; now they lost their edge to more timely and meaningful information sources. This is counterintuitive, given the constant and costly efforts of accounting regulators worldwide to improve the usefulness of financial reports.

How to Measure the Usefulness of Financial Information

The information in corporate financial reports has various audiences: third parties contracting with the company (lenders, suppliers), labor unions, government, and regulatory agencies, among others. But capital market investors are undoubtedly the predominant group of financial information users. This is made clear by the 1933–1934 Securities Acts and the many Securities and Exchange Commission (SEC) regulations and enforcement actions that are aimed at ensuring that corporate financial reports both inform and protect investors. The Financial Accounting Standards Board (FASB)—the US standard-setter of accounting and reporting ...