The value relevance of foreign currency translation adjustments in
the Italian Stock Exchange
1. Introduction
In September 2007, the International Accounting Standards Board (IASB) issued Statement of
International Accounting Standard No. 1 (IAS 1), ‘‘Presentation of Financial Statement’’. This
standard, effective for fiscal years beginning after December 31 2008, requires that comprehensive
income (CI) and its components, net income (NI) and other comprehensive income (OCI) be
reported in the financial statements in the period in which they are recognized, consistently with
what is already forseen in the U.S. context (Bragg, 1997; Carlson et al., 1999; Fitzsimmons and
Thomson, 1996; Luecke and Meeting, 1998; Stevens, 1997).
Al listed firms are required to clearly disclose, in an ad hoc document, unrealized gains and
losses on revaluation of property, plant, and equipment, actuarial gains and losses on defined
benefit post-employment plans, foreign exchange differences on monetary items and on net
investments in foreign entities, revaluation of intangible assets, gains and losses on available for
sale financial instruments, effective portion of gains and losses on derivatives used as hedging
instruments in a cash flow hedge. Of OCI, foreign currency translation adjustments (FCTA) are the
largest element for most firms (Dee, 1999) and on this element our research will focus.
The main research question in this study is whether reported FCTA are considered to be value
relevant by investors. An accounting value is value relevant if it is considered in the investor’s
business valuation process, therefore the main aim of the paper is to investigate whether the
reported FCTA numbers provide investors with an incremental value in terms of information
content with respect to NI.
Previous empirical studies in other countries document mixed evidence on the usefulness to
investors of OCI information, and the majority of the published archival research (Cheng et al.1993;
Dhaliwal et al.1999; Dehning and Ratliff, 2004) has not found consistent support for the value
relevance of OCI. It is important to point out that the majority of these studies use data from the
period before implementation of CI reporting according to accounting standards, and this could
have led to significant measurement errors and to a lack of information transparency. Differently
from previous prevailing research, we examine the value relevance of FCTA items using actual as
reported OCI numbers. As regards the specific literature review on FCTA value relevance,
empirical evidence presented in both the finance and accounting literatures has documented either
a weak or nonexistent link between foreign exchange rate movements and firm valuation (Pinto,
2005) probably due to a misspecification of econometric model used.
On the one hand our study contributes to the ongoing debate on OCI value relevance, in detail
FCTA value relevance, and on the other it is, to the best of our knowledge, the first empirical
research to investigate the value relevance of FCTA in the Italian context using as reported OCI
numbers, panel techniques and allowing FCTA to vary conditional to the amount of assets.
The analysis has been carried out for the two-year period 2008-2009 for all listed companies
on the Italian Stock Exchange, excluding companies belonging to the financial sector. This sample
of firms, therefore, provides a unique setting in which to inform Italian policy makers of the value
relevance of the additional information included in the new accounting standards.
We find that the as reported FCTA numbers are positively priced in the post-IAS 1 revised
2007 period. These results also have implications for the current accounting practice of FCTA. The
main issue is that the results of this study contradict the notion that foreign currency translation
adjustments are mere ‘‘bookkeeping’’ entries and thus do not affect valuation.
Our contribution to the literature is twofold. First, the choice of using the two year period 20082009 allowed us to employ in the analysis post-IAS 1 revised 2007 data, more appropriate for
assessing whether investors better understand the value implications of components of other
comprehensive income. Second, the findings of this study support the approach adopted by
standard setters to introduce fair value changes in the statement of other comprehensive income,
since the improved transparency of the information on OCI turned the negative findings of the OCI
value relevance into a positive and significant incremental value relevance of OCI information.
This paper is structured as follows. In section two, the main accounting novelties as regards CI
disclosure according to the IAS 1 revised 2007 are illustrated. Section three then develops a
review of the literature on the main previous studies on FCTA value relevance. The fourth section
illustrates the research hypotheses, together with the methodology used. Section 5 describes the
sample selection process, while section 6 reports the main results of the OCI incremental value
relevance regressions. The paper concludes with discussion of the main results and perspectives
for future research.
2. The mandatory disclosure of other comprensive components by IAS 1 2007 revised
The main objective of the IAS 1 revised 2007 “Presentation of Financial Statements” is to align
European normative accounting standards to the principles of US SFAS 130. The Financial
Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards no. 130
“Reporting Comprehensive Income”, in June 1997, mandatory for fiscal years beginning after 15
December 1997. This standard intervened to settle the long-standing debate in the accounting
profession between the ‘all-inclusive’ (or ‘comprehensive income’) and ‘current operating
performance’ concepts by embracing the comprehensive income approach (Dhaliwal et al., 1999;
Biddle and Choi, 2006; Chambers et al., 2007). This approach became more and more relevant
due to the increased use of fair value in accounting standards, which generated, among other
things, changes in the valuation of items comprehended in the CI aggregate (Whittington, 2005).
Under the all-inclusive concept, unlike the current operating approach, income includes all
revenues, expenses, gains, and losses, whether extraordinary or otherwise. The idea behind this is
that income on a comprehensive basis is a better measure of firm performance than other
narrower summary income measures because it includes all changes in the net assets of a firm
during a period coming from non-owner sources.
As regards the disclosure rules, SFAS 130 mandates companies to report CI and its component
adjustments, collectively referred to as OCI, in firms’ financial statements.
In Europe prior to 2007, there were no accounting standards that regulated the disclosure of CI
and its components. In issuing IAS1 revised 2007, IASB adopted the CI approach, with the aim of
improving the usefulness of corporate performance information for investors and the transparency
of financial statements.
As a result, listed Italian companies have been obliged, for the fiscal years beginning after 31
December 2008, to disclose the CI in an ad hoc statement, that reports the NI figure, the OCI items
and the CI figure.
Conceptually, the disclosure of an income measure beyond the NI figure allows, on the one
hand, for measurement of the firm’s future performance because it also takes into consideration
the unrealized earnings, susceptible to the production of cash flow in the future, and on the other
hand it uses a fair value evaluation rather than the historical cost evaluation.
IAS 1 revised 2007 defines the OCI components. OCI consists of revenues, expenses, gains
and losses that are excluded from net income and are consistent with one of five classifications: (1)
changes in revaluation surplus (IAS 16 and IAS 38); (2) actuarial gains and losses on defined
benefit plans (IAS 19); (3) gains and losses arising from translating the financial statements of a
foreign operation (IAS 21); (4) gains and losses on available-for-sale financial assets (hereafter
IAS 39a); (5) the effective portion of gains and losses on hedging instruments in a cash flow hedge
(hereafter IAS 39b).
In particular our study focuses on the exchange rate changes, as measured by FCTA. Gains or
losses resulting from the process of expressing amounts denominated or measured in one
currency in terms of another currency by use of the exchange rate between the two currencies.
This process is generally required to consolidate the financial statements of foreign affiliates into
the total company financial statements and to recognize the conversion of foreign currency or the
settlement of a receivable or payable denominated in foreign currency at a rate different from that
at which the item is recorded. Translation adjustments are not included in determining net income,
but are disclosed as separate components of OCI. From an accounting point of view, is IAS 21 that
deal with issues such as which exchange rate(s) to use and how to report the effects of changes in
exchange rates in the financial statements. The objective of IAS 21 is to prescribe how to include
foreign currency transactions and foreign operations in the financial statements of an entity and
how to translate financial statements into a presentation currency.
3. Literature review on the value relevance of the foreign currency translation
adjustment
The issue of exchange rate exposure has been examined by accounting researchers for more
than a quarter century (Aliber and Stickney, 1975; Aggarwal, 1978; Beaver and Wolfson, 1982;
Houston, 1989; Boatler, 1992; Callaghan and Bazaz, 1992; Bartov, 1997; Louis, 2003). The extant
empirical evidence (Callaghan and Bazaz, 1992; Soo and Soo, 1994; Pourciau and Chaefer, 1995;
Bartov, 1997) provided mixed results.
Paradoxically, empirical evidence presented in both the finance and accounting literatures has
documented either a weak or nonexistent link between foreign exchange rate movements and firm
valuation. Jorion (1990) investigating US multinationals firms, finds a low rate of stock price
reaction to currency movements. Soo and Soo (1994) report earnings response coefficients of
FCTA significantly smaller relative to those estimated on net income.
As regards the researches on FCTA as an item of OCI, empirical results presented in both Dee
(1999) and Dhaliwal et al. (1999) suggest that FCTA are not value relevant.
Chambers et al. (2007) investigated OCI value relevance by using as-if OCI for the pre SFAS
130 years and as-reported OCI for the post SFAS 130 years. The results show that as if OCI
numbers are never value relevant (both in the pre- or in the post- SFAS period), but that the as
reported OCI numbers are value relevant in the post SFAS period. They also document that two
components of OCI, foreign currency translation adjustment and unrealized gains/losses on
available-for-sale securities are priced by investors.
‘O Hanlon and Pope (1999), in spite of their extension of the temporal interval investigated,
failed to prove, for UK firms, that OCI items are value-relevant. Cahan et al. (2000) succeeded in
proving the value relevance of CI for New Zealand companies, due to changes in currency
translation reserve, but failed to prove that OCI components have incremental value relevance
above their aggregate sum. Brimble and Hodgson (2004) failed to find evidence of the value
relevance of OCI items in Australia, similarly to Wang et al. in The Netherlands (2006). Kubota et
al. (2007) failed to prove that CI possesses superior information content with respect to NI for
Japanese firms, but succeeded in proving that the OCI items they chose, “changes in cumulative
foreign currency translation adjustments” and “changes in the balance of unrealized gains and
losses on securities available-for-sale” possess significant incremental information content. Also
Goncharov and Hodgson (2008), using a massive dataset for 16 European countries, found that
OCI provides incremental information to investors, due to unrealized available-for-sale security
components. Lin (2006), for UK firms, succeeded in proving that OCI items disclosed as required
by FSR3 (change in foreign currency translation gains and losses, change in assets revaluation
and changes in other recognised gains and losses) are value relevant beyond NI, as are
movements in shareholders’ funds, disclosed as well in compliance to UK accounting standard
(FRS3). Kanagaretnam et al. (2009) found that CI is more value relevant than NI for Canadian
firms, showing also that available-for-sale (SEC) and cash flow hedge (HEDGE) components are
significantly associated with price and market returns.
Several could be the probable reasons associated to the mixed evidence of the empirical
literature on FCTA value relevance. Among these, we can cite that previous studies do not employ
panel data techniques, they do not employ as-reported numbers and they, with the exception of
Pinto (2005), do not use an interacted model to allow the FCTA to vary conditioned on firm’s
assets. Pinto (2005), employing an equity valuation model allowing for the value relevance of
FCTA to vary conditioned on location of foreign direct investment, capital intensity and exchange
rate shocks, provide evidence that FCTA are significantly incrementally value relevant when their
parameter estimates are allowed to vary cross-sectionally according to such relevant factors.
For all these treason, we decided to test the FCTA value relevance by employing an Ohlson-like
valuation method, trying to establish a correlation between accounting variables and equity prices
using panel techniques, which allow to take into consideration individual heterogeneity. Moreover,
we decided to use as reported FCTA numbers and to include in the valuation equation an
interaction term to allow the FCTA to vary conditioned on firm’s assets.
4. Research Hypotheses and methodology
The main objective of this study is to investigate whether the as reported FCTA is incrementally
value relevant for Italian investors. Formally, we express the following research hypothesis:
H1: the as reported FCTA provide additional information for investors.
In investigating the value relevance of FCTA numbers, we used a panel estimates method, in
order to control for unobserved heterogeneity of companies.
Previous research based on panel models and addressing the market impact of accounting
information is scarce, especially on European markets (Naceur and Goaied, 2004). Panel models,
by combining at the same time cross-section and time series approaches, allow for the
consideration of the dynamic aspect of a relationship, since companies are monitored within time,
to control for time-invariant individual heterogeneity, thus reducing the omitted variable bias
problems and improving the efficiency of the estimates, by extending the number of observations
(Baltagi, 1995; Arellano, 2003). Karathanasis and Spilioti (2005), in testing the Ohlson model using
a combination of time-series and cross-section data, proved that only panel methods are able to
overcome statistical problems such as auto-correlation, collinearity among independent variables
and heterogeneous dispersion.
For all these reasons we have decided to employ panel models to investigate the value
relevance of FCTA numbers.
We use an incremental comparison test instead of a relative value relevance test. The
incremental test has to be applied when a measure is viewed as given and an assessment is
desired regarding the incremental contribution of another measure (van Cauwenberge and de
Beelde 2010). We think that assessing the value relevance of FTCA as component of OCI
numbers fits with this definition, since we are interested in investigating whether the supplemental
disclosure of FCTA has a relevant information content for investors beyond NI.
In the paper, we adopt the measurement perspective, unlike the majority of studies included in
the CI literature, mainly because it is grounded on a rigorous valuation model, validated by
academic literature. Kothari and Zimmermann (1995), comparing price and return models,
recognized that earnings coefficients are less biased in the price models than in return models,
only suggesting to researchers using price models to exercise more care in drawing statistical
inferences, by using standard errors estimates robust to heteroscedasticity problems. Unlike the
majority of literature ob FCTA value relevance, therefore, we use a price model. Our choice is
justified by the circumstance that simple return-earning models, used under the informational
approach, do not explicitly incorporate book value of equity as an explicative variable, and are thus
not well specified (Collins et al., 1999). Following them, as we did.
Within the measurement comprehensive income value relevance literature we refer to the
Ohlson model –OM (1995), by applying a Ohlson (1995) like model. The OM (1995) is considered
the main reference point in market based accounting research (Lo and Lys, 2000; Giner and
Iniguez, 2006) and its success amongst accounting scholars is due to its development of a
rigorous but simple theory for firm evaluation in terms of accounting values1.
Starting from the OM (1995) valuation equation, the model estimated in the research is the
following:
Pi ,t 6   0  1 BVPS i ,t   2 EPSi ,t   3 D1   4 D1* EPSi ,t   5 FCTAi ,t   6 APSH   7 FCTA * APSH  8 Dyear   i ,t
(1)
Due to recognition in the literature (“The Ohlson (1995) and Feltham and Ohlson (1995) studies stand among the most
important developments in capital markets research in recent years. The studies provide a foundation for redefining the
appropriate objective of [valuation] research.” Bernard (1995, 733); “The Ohlson (1995) and Feltham and Ohlson (1995)
papers are landmark works in financial accounting.” (Lundholm, 1995, 749)) and to the impact of the model on
contemporary accounting literature (Dechow et al., 1999), the Ohlson model (1995) is not just influential, but is
becoming a “classic” (Lo and Lys, 2000). Several subsequent versions of the model have been issued, but in this paper
we use the original version of the Ohlson model (1995), since a recent empirical study (Giñer and Iníguez, 2006) has
shown that models based on the original version are able to explain share prices with greater accuracy and fewer
distortions of the real data than more complex models, such as, for example, that of Feltham-Ohlson (1995).
1
Following Ohlson’s suggestions (Ohlson, 2000), all data are reported on a per-share basis,
dividing the total values for the number of shares outstanding at the company's year-end or directly
using the per-share values for data downloaded by the database Datastream. This is a technique,
known as scaling, that allows reduction of measurement error and/or omitted variable bias,
assuming that the number of shares is related to them (Barth and Clinch, 2005; Courteau, 2008).
Pit+6 is the stock price 6 months after the end of the fiscal year. Consistently with other studies
(Agostino et al., 2010), we chose to take the price into the model six months after, since annual
accounts are not publicly available for investors at the end of the year; the investors have to wait
for the approval (due, according to first call, for the end of April), and then for the publication of the
annual accounts (one month later). All other variables are taken at the end of the year. BVPSit is
book value per-share cum dividends, EPSit is earnings per share, D1 is a dummy coded 1 when
EPS is negative and 0 otherwise. D1*EPS is the interaction term. In this way, we controlled for the
well known differential valuation of negative earnings (Hayn, 1995; Sin and Watts, 2000; Giñer and
Iníguez, 2006; Kodadadi and Reza Emami, 2010). In fact, the use of the dummy variable and the
multiplicative interaction term (Braumoeller, 2004) controls for the timelier recognition of losses in
comparison to gains which is often referred to as conditional conservatism (Basu, 1997). We also
include as control variable the size of the companies, measured through the assets per share
(APSH). Controlling for company size has the aim of avoiding that results be primarily driven by
larger firms, biased by scale differences. Moreover, in the model we take into consideration that
assets controlled by the firm may provide a shield against exchange rate risk (Collins and Salatka,
1993), by introducing, consistently with Pinto (2005), an interaction term (APSH*FCTA). This
parameter is expected to have a negative coefficient. Finally, temporal dummies (Dyear) are
included in order to take into consideration unexpected shocks in the economy. The error (εit
=vi+uit) is a composite error, where the individual effect (vi) summarizes unobserved company
characteristics that are time-invariant, while the second term (uit) captures idiosyncratic shocks to
the dependent variable. The appeal of such an error term decomposition derives from the
opportunity it offers to control properly for unobserved individual company heterogeneity, by
factoring out a different fixed effect for each one. OLS regressions on pooled data, by contrast,
would estimate a single intercept for all the companies, thus omitting all those characteristics that
are peculiar to each company and tend not to vary in a relatively short period of time. The omission
of unobservable, yet relevant factors, would make the model misspecified from an econometric
point of view, and would produce OLS biased (or inconsistent) estimates.
Panel models can be applied hypothesizing individual effects which are fixed (FE) or random
(RE)2. The fixed effects estimator is the natural candidate for application to our sample, since the
companies belonging to it are specific (in the sense that their identification is relevant) and cannot
be considered a random selection from a wider population.
5. Data and sample
Our sample includes all listed firms on the Italian Stock Exchange, excluding the financial
sector, in the period 2008-2009. The Italian market has been chosen because, due to the recent
introduction of the IAS 1 2007 revised, comprehensive income value relevance literature lacks
studies based on this market. To the best of our knowledge, there are few studies that examine CI
value relevance (Bertoni et al., 2005, Azzali et al., 2010, Mechelli, 2011), but no study focused on
the FCTA value relevance. Moreover, the selection of the Italian market allows us to test a value
2
The FE approach is conditional to the vi values and therefore it is appropriate when individuals in the sample are
“particular” and cannot be considered as random extractions from a population. This happens, for example, when I
indicates states or regions (as often occurs in macro economic panels), large businesses (eg. multinationals) industrial
sectors. In all such cases, the inferences that we can make are necessarily conditional (and relative) to the individuals
included in the sample. The case is different when the individuals in the sample can be considered as random
extractions from a population: here, the individual characteristics become a component of the variability of the population
and the inferences of an RE approach are therefore relative to the population itself. In short, one first reason for which an
FE estimator can be preferred over the RE resides in the interest towards the vi. This takes place typically (and has
sense) if the individuals in the sample are relatively reduced in number and have a specific nature, so that their
identification is important. Notwithstanding this, there are situations in which the FE approach is preferable even if the
number of individuals in the sample is relatively high and we are concerned with inferences regarding the population.
This occurs when the individual effects and the explicative variables are correlated.
relevance model on a financial market not yet fully investigated under this profile and which has
features which are different in real terms if compared with the benchmark U.S stock exchange
market, such as the small number of listed firms and the lower financial maturity of investors
(Brealey et al., 2007).
In accordance with previous studies, we excluded banks, insurance companies and other
financial firms from our industry sample because disclosure requirement accounting rules reflect on
the annual account content and would not allow for comparison of companies (Devalle, 2010).
Since implementation of IAS 1 2007 revised began in 2009, and due to the consideration that
our objective is to test the value relevance of as reported FCTA numbers, we consider only the two
year period 2008-2009, the only period for which the as reported FCTA information is available.
Information on share prices, book value and earnings are drawn from the Datastream
database. Given that during our investigation we found that Datastream does not propose OCI
related items, data related to the as reported FCTA has been “hand collected” from the financial
statements of listed groups.
After excluding financial firms, the following criteria have been adopted for the selection of the
final sample:
 Sample firms should have enough data to compute required variables
 The book value of shareholder equity should be positive
 The firm’s fiscal year should end in December.
This selection procedure yields 108 Italian firms. The panel is balanced and spans the years 2008–
2009.
Table 1 shows the distribution of observations by industry, in line with the classification adopted
by the Italian Stock Exchange.
Table 1 - Sample distribution by industry sector
Sectors
No.
%
FTSE Italia All-Share Oil and Gas
1
1%
FTSE Italia All-Share Basic Materials
1
1%
FTSE Italia All-Share Industrials
36
33%
FTSE Italia All-Share Consumer Goods
35
32%
FTSE Italia All-Share Health Care
5
5%
FTSE Italia All-Share Consumer Services
9
8%
FTSE Italia All-Share Telecommunications
4
4%
FTSE Italia All-Share Utilities
9
8%
FTSE Italia All-Share Technology
8
7%
108
100%
Total
Table 2 reports the summary statistics of the variables that are employed in the estimations
Variables
June closing price
Book value per share (BVPS)
Earnings per share (EPS)
Foreign Currency Translation Adjustment (FCTA)
Dummy for negative EPS
Assets per share (APSH)
Mean
5.457
4.301
.375
-0.071
.327
4.188
SD
7.961
5.056
3.400
1.153
0.470
4.861
Min
0.051
2.771
-20.69
-16.310
0
.02
Max
61.45
39.12
30.32
3.284
1
38.09
6. Main results
This section examines the incremental value relevance of as reported FCTA numbers and the
incremental value relevance of the single components of as reported OCI numbers.
Table 3 reports the results of the fixed effects panel model. All estimates are calculated with
standard errors robust to heteroscedasticity.
Table 3 – Fixed effects panel estimates
Book value per share (BVPS)
Earnings per share (EPS)
Dummy for negative earnings
Interaction_EPS
Foreign Currency Translation Adjustment (FCTA)
Assets per share (APSH)
Interaction_FCTA
Dummy_year
Cons
Number of observations
R2(overall)
F test
F test (Eps and its interaction)
F test (FCTA and its interaction)
Equation (1)
Coeff
t-test
2.52**
2.95
3.24***
0.77
0.31
0.13
-1.06 -3.61***
3.19***
4.71
-1.86*
-1.98
-0.47 -3.26***
1.78*
0.39
0.23
0.15
216
0.98
47.51***
-0.29
-3.4***
4.2
3.18***
(*), (**), (***) denote statistical significance at the 10, 5 and 1% level, respectively
As we can see in table 3, the two basic accounting variables in the Ohlson model, BVPS and
EPS, are significant and vary in the predicted direction. In detail, we also verified the different
valuation of negative earnings, tested through an F test for the joint significance of the two
coefficients. The same procedure has been carried out for the FCTA interacted term, and both the
FCTA term and its interaction term are significant. Its negative sign, consistent with Pinto (2005)
and Louis (2003), means that assets may be thought as an hedge against exchange rate
depreciations.
Our research hypothesis regarding the incremental value relevance of FCTA is proved by the
significance of the FCTA coefficient and by the significance of the F test, a statistical diagnostic
which assesses the conjoint significance of the regression model’s coefficients.
7. Discussions
This study has examined whether disclosure of FCTA numbers as required by IAS1 revised
2007 provided price-relevant information for investors’ decision making.
Previous literature on FCTA value relevance provided mixed evidence, but previous studies
must be interpreted with caution because of they do not employ panel data techniques, they do
employ as-if numbers and they, with the exception of Pinto (2005), do not use an interacted model
to allow the FCTA to vary conditioned on firm’s assets.
In this paper, we have examined data for companies listed on the Italian Stock Exchange in
periods immediately after the adoption of IAS 1 revised 2007. The idea is that there are statistically
significant differences for investors when information is clearly disclosed.
Recent archival research on the value relevance of OCI numbers has provided mixed evidence
of the value relevancy of OCI numbers. According to Chambers et al. (2007) one of the potential
reason for this is that these studies used mainly as if measures of OCI and its components in their
tests of value relevance rather than as reported numbers from financial statements. Use of this
data could have introduced a measurement error that could have affected inferences. Consistently
with them, we use as reported FCTA numbers for Italian listed firms on the Milan Stock Exchange
(excluding the financial sector) to avoid measurement error and provide evidence of its incremental
value relevance.
We provided evidence that the as reported FCTA is incrementally value relevant for Italian
investors. These results also have implications for the current accounting practice of FCTA. The
main issue is that the results of this study contradict the notion that foreign currency translation
adjustments are mere ‘‘bookkeeping’’ entries and thus do not affect valuation. Therefore, ‘‘other
items of comprehensive’’ income, of which foreign currency translation adjustments are the largest
element for most firms (Dee, 1999), are a significant source of incremental value-relevant
information for investors.
As regards the two basic Ohlson variables, the BVPS is more value relevant with respect to
earnings variables. A possible reason for the relative lesser relevance of the earning variable could
be explained by the existence of the negative earnings for some companies in the sample. The
study by Collins et al. (1999) suggests that, in the presence of loss firms, the role of BVPS as a
proxy for expected future normal earnings is heightened because earnings are not useful in
forecasting future earnings.
The main limitations of the study lie in the small size of the sample and the narrowness of the
period investigated, which should induce caution in interpreting the results, since our findings could
be sensitive to the volatility of FCTA, as it is a component of OCI, to which several authors ascribe
a lesser persistence with regards to the core earnings (Ohlson, 1999). Therefore, it is, at the best
of our knowledge, the first study on the Italian stock exchange investigating the incremental value
relevance of FCTA using the panel estimates method.
One possible reason for the higher value relevance of FCTA in the Italian contest could be
founded on the functioning of the markets. In fact, the main features of the Anglo-Saxon
accounting system are principles-based and equity capital market-oriented. Managerial discretion
over accounting recognition and disclosure has played an important role in this accounting system
and it is likely that it could have had an impact on the recognition of CI and its components and
therefore a significantly reverse effect on their potential link with firm value. In contrast, continental
European countries such as Italy have adopted a more rules-based and credit capital market- and
tax-oriented accounting system, where managerial discretion has played a less important role in
deciding comprehensive income and its components. On the basis of this, consistently also with
the literature that has found that the impact of adoption of the IAS/IFRS is greater in civil code than
in common law countries (Morais and Curto, 2007; Agostino et al., 2010), we found confirmation
for our idea that Italian investors could be able to understand and correctly use the information in a
more efficient and effective way, compared to Anglo-Saxon investors.
In the future, we need to verify the robustness of our findings, by enlarging the sample to other
countries whose markets have features similar to those of the Italian market, by extending the
range of years investigated, when data becomes available, also considering that the new IAS 1
revised 2010 will heighten the transparency of the disclosed information on CI, by comparing the
as reported results with as-if results, to include in the valuation model the other OCI components.
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