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Abstract:
Using a sample of 18,253 firm-year observations from 1998 through 2003, we build on literature suggesting that more informative disclosures allow returns to better reflect future earnings, and test whether the issuance of management EPS forecasts and the characteristics of those forecasts influence the future earnings response coefficient (FERC). We find that FERCs are greater for firms that forecast earnings and for firms that forecast more frequently and/or more precisely. Our evidence suggests that more frequent and more precise forecasts assist investors in better predicting future earnings. Importantly, we also find that quarterly and short-term forecasts incrementally increase the association between returns and future earnings beyond annual and long-term forecasts, revealing that even short-term, quarterly forecasts allow investors to form better expectations about future earnings. This latter finding suggests a benefit of quarterly earnings forecasts that may have been overlooked in recent recommendations from the United States Chamber of Commerce, the CFA Institute, the Business Roundtable Institute for Corporate Ethics, and The Conference Board to eliminate quarterly earnings guidance.

Management forecasts, Future earnings response coefficient (FERC), Earnings guidance, Forecast characteristics

Abstract:
Studying the determinants of management forecast precision is important because a better understanding of the factors affecting management’s choice of forecast precision can provide investors and other users with cues about the characteristics of the information contained in the forecasts. In addition, as regulators assess the regulation of voluntary management disclosures, they need to better understand how managers choose among forecast precision disclosure alternatives. Using 16,872 management earnings forecasts collected from 1995 through 2004, we provide strong evidence that forecast precision is negatively associated with the magnitude of the forecast surprise and that this negative association is stronger when the forecast is bad news than when it is good news. We also find that forecast precision is negatively associated with the absolute magnitude of the forecast error, and that the negative association is stronger when forecast errors are negative. This result is consistent with greater liability concerns related to bad news forecasts and negative forecast errors, respectively. Our study provides educators and researchers with important insights into management’s choice of earnings forecast precision, which is a component of the voluntary disclosure process that is not well understood.

management forecasts, management forecast precision, management forecast surprise, management forecast error

Abstract:
Using a sample of 11,897 firm-year observations from 1998 through 2001, we build on literature suggesting that more informative disclosures allow returns to better reflect future earnings, and test whether the issuance of management forecasts and the characteristics of those forecasts influence the future earnings response coefficient (FERC). We find that FERCs are greater for firms that forecast earnings and for firms that forecast more frequently and/or more precisely, suggesting that more frequent and more precise forecasts assist investors in better predicting future earnings. Importantly, we also find that quarterly forecasts and short-term forecasts incrementally increase the association between returns and future earnings beyond annual and long-term forecasts, indicating that even short-term, quarterly forecasts allow investors to form better expectations about future earnings. This latter finding suggests a benefit of quarterly earnings forecasts that may have been overlooked in recent recommendations from the United States (U.S.) Chamber of Commerce, the CFA Institute, the Business Roundtable Institute for Corporate Ethics, and The Conference Board to eliminate quarterly earnings guidance.

Management forecasts, Future earnings response coefficient (FERC), Earnings guidance, Forecast characteristics

Abstract:
In designing an executive bonus compensation contract, a compensation committee, usually with help from a professional executive compensation consulting firm, uses measures of short-term accounting performance as proxies for which to base executive cash bonuses [Foulks, 1991]. Two measures commonly used are cash flows (CF) and accrual accounting income (INC). We show analytically that an implication of the Feltham, Ohlson framework is the relationship between CF and INC differs depending on whether cash investment is growing, constant or declining over some time period. Through simulation, we provide evidence of this differential relationship. We then demonstrate that executive cash bonuses can be excessive depending on this relationship. Our results provide insights into the propriety of using these measures. In addition, we develop a methodology to assess the degree to which "over compensation" may occur.

cash flows, earnings, economic income, executive bonuses