Association between extraordinary items and stock prices and the use of extraordinary items to smooth income in publicly quoted companies in Kenya

Abstract

The focus of this study was twofold: 1. To determine which of the two figures, earnings before extraordinary items or earnings after extraordinary items has a stronger relationship with stock prices. 2. To determine whether publicly quoted Companies in Kenya use extraordinary items to smooth income. The literature reviewed brought out the requirements of the various accounting standards as regards treatment and presentation of extraordinary items. A section dealing with the association between earnings per share and stock prices is included. Lastly, literature on smoothing of income is included. The population of interest for this study comprised of the publicly quoted companies in Kenya, quoted as at 31st December 1988. Out of the 56 Companies, only 31 Companies were included in this study. The rest had not reported extraordinary items during the period covered by the study. The findings of the study suggested that there is no significant difference between the strengths of the relationship between earnings before extraordinary items and stock prices and earnings after extraordinary items and stock prices. the findings also suggested that there is no difference between the smoothness of earnings before extraordinary items and earnings after extraordinary items. This indicates publicly quoted Companies in Kenya do not use extraordinary items to smooth income. It also raises questions about the usefulness of a standard whose effect is,probably,minimal.