Accrual, Cash Flow Data And Share Price: An Examination During Different Economic Conditions In Saudi Arabia

Abstract

There are two widely accepted approaches used to predict the stock price of a business’s equity. The accounting approach assumes that the predictive ability of a company's earnings out-performs the cash flows to predict share prices. A financial model assumes that cash flows are a better tool for forecasting future stock prices. The motivation of this paper is to discover whether the accrual accounting components or the cash flow components provide a better explanation for estimating the share price of non-financial companies listed on the Saudi Stock Exchange (SSE), an emerging capital market of Saudi Arabia during various economic conditions; pre-global financial crisis, during the global financial crisis and after the global financial crisis. Five hypotheses were developed and regression analysis was used to test the hypothesized relationships. Annual data used in this study were collected from the financial statements of 90 non-financial companies listed on the Stock Exchange of Saudi Arabia from 2007 to 2011. The regression results found that the accrual components have a better predictive power than cash flow components to forecast Saudi stock prices before, during and after the global financial crisis. In addition, accrual components are incrementally informative beyond cash flow components in predicting share prices during the crisis period and non-crisis. Furthermore, the results also led to a conclusion that there is sufficient evidence to prove that the accrual components are more persistent than the cash flow components in explaining the variations of the share price before, during and after the global financial crisis. The results of this thesis can be used as evidence to support the theory in financial analysis such as the efficient markets theory, the free cash flow theory, the traditional financial theory and the theory underlying the relationship between earnings and stock price.