R&D expenditures and the informativeness of accounting information: Evidence from earnings announcements

In this study, I investigate the relationship between R&D expenditures and the informativeness of earnings announcements. Prior research suggests that the expensing of R&D expenditures distorts financial information degrading its ability to reflect firm value and performance. Consequently, the distortion in financial information should tend to reduce the informativeness of earnings announcements. In contrast, I find that the informativeness of earnings announcements increases with R&D intensity. I argue that investors in R&D firms face more uncertainty about firm's prospects prior to earnings announcements; hence accounting information is more informative for these firms. Thus, even though financial information may be distorted in R&D firms, earnings announcements are more informative due to greater pre-announcement uncertainty. I also find that R&D intensity is positively related to earnings response coefficients. In line with this argument, I document that the informativeness of earnings announcements increases substantially following a large increase in R&D intensity. Additionally, I find that increases in R&D intensity over time contribute to the intertemporal increase in the informativeness of earnings announcements. Finally, I find that the premium to meeting and beating analysts' forecasts and discount for failing to do so is larger for R&D firms than other firms. The findings in this paper indicate that the rise in intensity of R&D expenditures in the economy has made substantial impact on the use of accounting numbers by investors. Standard setters should take into consideration the impact of this change in the economy to improve the financial reporting system.