Estimating the probability of loss reversal

Abstract

This study aims to examine loss reversals with an emphasis on the effect of research and development expenditures on the probability of experiencing loss reversals. This paper builds on previous research by examining a variety of company variables such as accruals, cashflows, dividends, company size, earnings and R&D expenses against the chance of experiencing loss reversals. This is done with a significantly larger dataset for US data then used in previous studies. It also looks at a more in depth analysis of the effects of post and pre R&D expenditures on the probability of loss reversal.

Previous studies such as Joos and Plesko (2005) find that R&D expenditures are considerably lower for persistent (more then one loss over the life of the firm) losses than transitory (one loss over the life of the firm) losses. However they do not analyze the impact of R&D expenditures on the probability of loss reversal. This study is done with the objective to see if earnings can explain the possibility of loss reversal once R&D is accounted for (added to earnings). The results provide evidence that R&D expenditures for the US markets do not have any significant impact on firms experiencing loss reversals.