Discussion of Comprehensive Income Reporting and Analysts' Valuation Judgments

Abstract

Hirst and Hopkins [1998] show that judgments of financial statement users may be affected by the calculation and display of comprehensive income in the presence of earnings management. Comprehensive income includes the firm's net income, foreign currency items (e.g., translation adjustments), the unrecognized pension liability, and unrealized holding gains and losses on certain debt and equity securities (e.g., available-for-sale [AFS] marketable securities).1 Earnings can be managed through the timing of sales of AFS securities, allowing holding gains and losses to become realized; such management affects net income but does not affect comprehensive income. This is the earnings management activity considered by Hirst and Hopkins. The authors compare stock price judgments of buy-side financial analysts faced with pre-SFAS No. 130 financial statements with those of analysts faced with income statement display of comprehensive income (CI). For both groups, the statements viewed by some subjects included earnings management (i.e., realizing holding gains on AFS securities), while others did not. Although pre-SFAS No. 130 financial statements contained the information necessary to calculate CI, it did not provide such calculations explicitly and, in fact, scattered the requisite information throughout statements and footnotes. The main issue investigated by Hirst and Hopkins is whether judgments will differ when users are provided with pre-SFAS No. 130 financial statements with scattered CI information (i.e., No-Cl statements)