Does Expectations Management Impair Firm Valuation?

Abstract

This paper examines the consequences of expectations management for the usefulness of analyst forecasts in firm valuation. Specifically, I compare the performances of valuation models estimated using manipulated versus non-manipulated forecasts to predict firms' intrinsic values. The results show that intrinsic value metrics estimated using manipulated forecasts have less ability to track stock prices and predict future returns. This suggests that management's downward forecast guidance introduces error in analyst forecasts and reduces their ability to proxy future expected earnings; consequently, valuation models estimated using these manipulated forecasts have less ability than those estimated using non-guided forecasts to predict firms' true intrinsic values. This study contributes to the literature in two major respects: (i) it introduces an improved measure of expectations management to meet or beat expectations (MBE); and (ii) it is the first study to document the negative impact of expectations management on firm valuation.

Keywords: Expectations Management, Firm Valuation, Analyst Forecast

JEL Classification: M41, M43, M43, G12, G14, G29