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Do analysts predict managed or unmanaged earnings?

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Abstract

This study examines the analysts’ intentions on predicting the earnings forecasts, whether analysts predict managed or unmanaged earnings or in other words, predict accurate forecast or optimist/pessimist forecasts. This study introduces ex-post forecasts as the better proxy to explain analysts’ intentions on earnings forecasts. The important contribution to this line of research is the use of ex-post forecasts in a comparative study of ex-ante and ex-post forecasts. This study covers 3,294 US firm-year observations from 2006 to 2018 and uses various empirical analyses including system GMM to eliminate endogenous effects. Our results suggest that analysts predict the managed earnings to be accurate and to minimize earnings surprises. Results also suggest brokers’ actual estimates closely reflect managed earnings and forecast errors from managed earnings are distributed closer to zero than forecast errors from unmanaged earnings. This study provides value to investors in making investment decisions and for policymakers to provide stringent standards to minimize earnings management and any inside trading.

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Notes

  1. Levitt Jr (1998, p. 5) says that “even if a firm fails to meet the forecasting targets by a single penny, it can lose 6% or more of its stock prices in a single day” during his speech at New York University for Law and Business in September 1998.

  2. Atiase and Bamber (1994) explain information asymmetry as investors acquiring private pre-disclosure information which is at different levels of precision among them.

  3. Street earnings are referred to the non-GAAP realized earnings reported by analysts forecast tracking service (Christensen et al. 2011).

  4. The database Thomson Reuters’ Factset Actuals provide these forecasts or estimates of firms’ earnings per share (EPS) after extraordinary items as broker actuals.

  5. Please refer Table 1 for variable explanations.

  6. The relationship remains unchanged when we exclude the subprime crisis period from 2007 to 2010.

  7. In order to reverse the nature of discretionary expense cuts, Zang (2012) multiplies the residual from the discretionary expense model by -1.

  8. Richardson (2000) employs cross-section and time series analysis to measure the earnings management proxy. We adopt his strategy as well and discover comparable outcomes across all measuring modalities.

  9. Weaker significance from the wilcoxon test possibly stems from the tied and zero-valued differences between the observations that reduce statistical power.

  10. We apply panel regressions with fixed effects in both cases of cross-section and time-series EMs and the results appear to be unchanged.

  11. Our primary analysis includes the panel regression that is heteroscedasticity-consistent standard errors procedure, which eliminates the heteroscedasticity issues.

  12. The similar approach is also applied to the median absolute values of ex-ante and ex-post forecast errors and the results, not presented for brevity, are identical.

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Acknowledgements

We would like to thank Audrey MILTON for her helpful comments. We would also like to thank the two anonymous reviewers who provided us valuable comments on the manuscript. The study has benefited from presentation at the “Conference Internationale de Gouvernance (CIG) 2020” at Université Clermont Auvergne and from comments by Tiphaine Jerome and Cedric Poretti.

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Authors and Affiliations

  1. Department of Finance, Auditing, Accounting and Control, ICN Business School, Paris, France

    Qazi Ghulam Mustafa Qureshi

  2. IAE, Universite Clermont Auvergne, Clermont Ferrand, 63000, France

    Yves Mard & Francois Aubert

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  1. Qazi Ghulam Mustafa Qureshi
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  2. Yves Mard
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  3. Francois Aubert
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Contributions

QGMQ developed and tested the hypotheses and models and wrote the manuscript while YM and FA suggested the topic and designed the methodology and suggested improvements to the manuscript and approved the final manuscript.

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Correspondence to Qazi Ghulam Mustafa Qureshi.

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Qureshi, Q.G.M., Mard, Y. & Aubert, F. Do analysts predict managed or unmanaged earnings?. Eurasian Bus Rev (2023). https://doi.org/10.1007/s40821-023-00250-7

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