Ley, in his article “On the Usefulness of Earnings” (1989), points out the low ability of reported net income to explain variations in security prices around the date of release of earnings information. Lev attributes this low value relevance of earnings to low earnings quality.

Required

a. Define earnings quality. Relate your answer to the concept of an information system in single-person decision theory.

What other reasons than low earnings quality might there be for the low value relevance of earnings?

c. How might an increased measurement approach to financial reporting increase earnings quality, and hence the impact of earnings on security prices?