The Value Relevace Of Accounting Information And The Usefulness Of Publicly Available Information For Investment Decisions In Emerging Stock Market In Sri Lanka

Capital markets have become one of the main organizational setup of investment for the development of every economy. It contributes a lot on capital formation which is one of the most essential parts of economic development. Most economies identify the requirement of active and efficient capital market and use different techniques and methods to upgrade and develop it. Due to this reason, especially developing countries concern much about the capital market development and information requirements of investors. On the other hand, Investors' quick and rational decisions will increase the liveliness of market. In other words, the development of the capital market mainly influence by investors and their long term and short term decision behavior. Hence information has become very much essential factor for encouraging and stimulating foreign as well as domestic investors in any stock markets in the world. Mainly information is provided by various organizations such as, individual companies, Government, regulatory authorities, and other organizations. Information provided by these organizations can be broadly categorized as firm specific information and macro-level information. Among them, firm specific accounting information is one of the main investment related information source to the stock market investors. Consequently, the quality of accounting information system depends on the amount of reliable information provided by the system for the rational decision making. Thus, the financial statements are the main information that firms publish about themselves, and investors are primary users of financial statements (Penman,2001, p.2). Accordingly, the financial reporting is followed the different types of major qualitative characteristics to provide relevant and useful information for shareholders of the organization. Relevance, comparability and understandability are identified as key quality requirements of financial reporting. In the mean time, international level financial accounting standards setting bodies have devoted their attention on the present and potential investors as key information users since late 1970s(FASB, 1978). With removing the barrier for international capital mobilization among different capital markets in the world, the common accounting system and standards are become significant during the last decade. Consequently, enhancing the relevance of financial statements, improving the quality of financial reporting and facilitating comparability are major stated objectives of International Financial Reporting Standards (Cormier and Magan,2010, p.2).Due to this emphasis, the empirical researches on the association between capital market indicators and the financial statements are much popular among academics and professionals. In present context, this area of research is separately developed as the Capital Market Based Accounting Research (CMBAR). In other words, many value relevance studies have been conducted by many academic and professional researchers in the world, especially on the basis of developed stock markets. The value relevance research measure the usefulness of accounting information from perspective of equity investors (Beisland,2009).In the Sri Lankan context, although the content of information is regulated by the Government and the other various authorities like Institute of Chartered Accountants of Sri Lanka (ICASL), still there is a dilemma with the investors as well as information providers regarding the relevance and usefulness of the information for decision making. However, the validity of information in financial statements, accounting and financial measures depends on the level of applicability of those information for profitable investment decision in the capital markets.This thesis mainly address the dilemma between the accountants view point and investors view point on value relevance of accounting and financial information. The primary purpose of this thesis is to investigate the relevance of information especially accounting information under two different approaches. One is empirically testing of how much accounting based information and measures affect to the market value/returns of equity using quantitative approach. Second is the structured questionnaires and interview based investigation to identify the real consensus beliefs and use of accounting and other investment related information. This study provides answers for how accounting and finance information affect market value of equity in the Sri Lankan context and the important elements or line items of the financial statements which use by the investors.The secondary data for testing the value relevance of accounting information were collected from 70 listed companies in the Colombo Stock Exchange (CSE). The study collected accounting based information and measures through the annual reports of individual companies listed in the CSE. It mainly comprised earnings, cash flows, book value (BV), and other related data to measure the Economic Value Added (EVA) and Market Value Added (MVA) measures. In parallel, stock prices and other stock market related information were gathered from the CSE reports and the CSE web. On the other hand, the study tries to confirm the validity of quantitative results of the study by conducting surveying the opinion of the investors. Hence, the study collected data from 255 investors and 34 investment consultants and brokers, using a well structured questionnaire. In addition to the questionnaire, the study handles a number of interviews with stock market investors, brokers and stock market officials.The study employed the Ordinary Least Square (OLS) regression model for testing the value relevance of the accounting and financial information and also correlation coefficient employs for measuring the relationship among the variables. The study identified Earnings per share (EPS), Operating Cash flows (OCF), Book values (BV), EVA and MVA as the main independent variables. Further the methodology of the study applied, both price and return models for determining the value relevance of accounting based information, is in consistent with Easton and Hariris (1991), and Ohlson(1995).The results of the study show that EPS is the most significantly and positively correlated variable with respect to the equity value. In addition to that, operating earnings (OE), BV and MVA are also correlated significantly with equity value but it can be seen weaker positive relationship than that of EPS. When considering regression results, price model shows better results. Accordingly, it shows that 40 percent of variations of equity prices are explained by overall accounting based information; OE, BV, Investing Cash Flows (ICF), and Financial Cash Flows (FCF). On the other hand, modern value based measures altogether EVA and MVA are explained approximately 2 percent.However, the explanatory power is increased by combining traditional accounting measures together with modern value based measures in explaining equity prices. These findings are in consistent with previous studies (Biddle, Bowen, and Wallace,1997; Farsio et al.,2000; and Khalid, 2001 Abuzar Kyriazis and Anastassis (2007). When comparing the survey results, majority of investors use accounting information such as EPS, Profits after tax(PAT), and Price earnings ratio(PER) for decision making in the stock market which is consistent with the results from regression results.According to the survey results, the most useful information for investment decisions in stock market is the firm specific financial information (97.6%). Even under the comments of investors such as timeliness problem, doubt on accuracy and uncommon format use for preparing financial statements still they mainly use firm specific information for decision making. The second highest consensus was given to the peace and fair condition prevailing in the country after thirty years disastrous civil war.The third important determinant identified by the investors is the political stability of the country. In addition to that, brokers' recommendations, Industry trends and firms qualitative information are also supplementary important determinants for making investment decisions in the stock market.When considering macro-level factors separately, peace conditions and stock market trend have become most important determinants for selecting investment opportunities among various types of opportunities. On the other hand, when considering the firm specific financial information, EPS is the most popular performance indicator among the investors. The second useful firm specific information for investment decision is the Price Earnings Ratio (PER). According to the brokers comment PER is commonly use as a payback measure in the stock market investment decisions. However, the third important firm specific factor considered by investors is the information regarding new announcement of the company. In addition, Dividend per Share (DPS) and Profit after Tax (PAT) are the other important line items in the financial statements. However, the concepts of EVA and MVA are still not much popular among the investors. It is confirmed both by questionnaire survey as well as from the interviews with the investors and brokers. However,51 percent of investors use official Web site of CSE for information but the number of investors who use individual company's Wed sites is even less than 20 percents. The study also finds that the most popular information provided by the CSE is the weekly summary. In addition to that daily price lists and stock market announcements are also used as useful information. However, the EVA and MVA measures are not popular among the CSE investors. The outcome of the results shows that the importance of using traditional accounting information with combining modern value based information.