Management of Earnings and Analysts' Forecasts to Achieve Zero and Small Positive Earnings Surprises

Abstract

This paper corroborates the finding of prior studies that managers avoid reporting earnings lower than analyst forecasts (i.e., negative earnings surprises) and provides new evidence of actions contributing to this phenomenon. Specifically, we provide empirical evidence of both (1) upward management of reported earnings and (2) downward 'management' of analysts' forecasts to achieve zero and small positive earnings surprises. Further analysis of the components of earnings management suggests that both the operating cash flow and discretionary accruals components of earnings are managed. Copyright 2006 The Authors Journal compilation (c) 2006 Blackwell Publishing Ltd.

Corporate Governance, Family Ownership and Earnings Management: Emerging Market Evidence

“…Executive compensation schemes which tie managers' incentives to company performance may encourage managers to manipulate accounting numbers (Bergstresser & Philippon, 2006;Cheng & Warfield, 2005;Guidry, Leon, & Rock, 1999;Healy, 1985;Holthausen, Larcker, & Sloan, 1995;Iatridis & Kadorinis, 2009;Shuto, 2007). Additionally, managers may opportunistically manipulate earnings to meet particular benchmarks, such as zero earnings (avoiding losses), prior period earnings (avoiding earnings decreases) and analysts' forecasts (Bartov, Givoly, & Hayn, 2000;Barua, Legoria & Moffitt, 2006;Burgstahler & Eames, 2006;Choi & Lin, 2006;Kasznik, 1999;Kasznik & McNichols, 2002;Matsumoto, 2002;Matsunaga & Park, 2001). Another incentive to manipulate earnings is debt covenants; managers are more likely to prefer accounting procedures that shift reported earnings from future periods to the current period when the firm is closer to violation of accounting-based debt covenants (Bartov, 1993;DeFond & Jiambalvo, 1994;Iatridis & Kadorinis, 2009;Sweeney, 1994).…”

Achieving Revenue Benchmarks Conditional on Growth Properties

“…Previous research shows that an increasingly high proportion of public companies are either meeting or beating financial analysts' forecasts (Brown [15]; Matsumoto [10]; Burgstahler and Eames [16]; Walker [17]). Research has also examined the impact of meeting or exceeding analyst forecasts on firm value in order to identify firm incentives to focus on forecasts as an important threshold.…”

“…Papers on this topic are heavily concentrated on two mechanisms: (1) the manipulation of reported accounting numbers in order to meet or beat analysts' forecasts (Dechow et al [20]; Payne and Robb [21]; Burgstahler and Eames [16]; and (2) the management of market expectations (Bartov et al [18]; Richardson et al [22]; Koh et al [23]; Athanasakou et al [24]). …”

Do financial expert directors affect the incidence of accruals management to meet or beat analyst forecasts?

“…12 Consistent with managers' incentives to beat the analyst forecast, prior studies have shown that managers adjust accruals to produce earnings that beat the target. Burgstahler and Eames (2006) find that managers manage earnings upward through accruals in order to avoid reporting negative earnings surprises. Ayers et al (2006) document a significant positive association between discretionary accruals and beating the analyst forecast benchmark.…”

“…1 For example, several studies document evidence that managers adjust accruals in order to beat consensus analyst forecast targets (Arya et al, 2003;Burgstahler et al, 2006), which is consistent with the evidence that managers have incentives to do so (Bergstresser et al, 2006;Cheng et al, 2005;Matsumoto, 2002;Matsunaga et al, 2001;McVay et al, 2006). 2 However, it is not clear whether adjusting accruals to beat the target increases or decreases earnings quality.…”