The Effects of Fair Value on the Matching of Revenues and Expenses : The Case of Asset Revaluations

Researchers and practitioners have expressed concern that matching has declined over time, as evidenced by a decreasing association between revenues and expenses. They attribute this decline to the shift in financial reporting from a revenue-expense view that emphasizes matching, to an asset-liability view that emphasizes the measurement of economic resources that incorporates more fair values. When revenues rise with inflation but the expenses remain tied to historical costs, the two streams tend to diverge. We hypothesize that upwardly revaluing the long-lived fixed operating assets resets the expense stream; thus, changes in revenues will be more closely associated with changes in expenses for firms that revalue than firms that do not upwardly revalue. Based on a sample of United Kingdom firms, we find evidence supporting our expectations, particularly in those higher inflationary industries