Consistency As a Path to Comparability: Benefits and Costs

Abstract

This paper analyzes the benefits and costs of financial statement comparability from an information perspective. We first show analytically that comparability yields both information gains and losses because it enhances the correlation among firms' reported earnings (common informativeness) at the expense of firms' own reporting precision (individual informativeness). We then provide theoretical justification for the comparability measure of De Franco, Kothari, and Verdi (2011) and show that it is negatively associated with implied volatility at annual earnings announcements. This result suggests that comparability, on average, improves earnings informativeness. More importantly, consistent with our model predictions, comparability's net information benefits decrease when firms' economic fundamentals are highly correlated and/or volatile. These results are robust to using financial crises and industry merger waves as instrumental variables for fundamental correlation and fundamental volatility, respectively. Overall, this paper provides a framework for studying comparability and highlights the potential information cost of increased comparability.