Forward Versus Trailing Earnings in Equity Valuation

This article articulates how forward earnings are more accurate valuation attributes than trailing earnings. First, I show that, while linear accrual rules cannot achieve accurate trailing earnings-value relations in a setting with unobserved information, they can achieve accurate forward earnings-value relations. Second, I prove that, even when accrual rules are restricted so that forward earnings fails to be an exact valuation attribute, more-forward earnings are more accurate valuation attributes than less-forward earnings or trailing earnings. In conclusion, even under deficient accrual policies, more-forward earnings are more accurate valuation attributes - the more forward, the more accurate.