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Credit Rating Agency and Equity Analysts' Adjustments to GAAP Earnings

55 Pages Posted: 8 Feb 2011 Last revised: 29 Dec 2016

George E. Batta

Claremont McKenna College - Robert Day School of Economics and Finance

Volkan Muslu

C.T. Bauer College of Business University of Houston

Date Written: February 18, 2016

Abstract

Moody’s analysts and sell-side equity analysts adjust GAAP earnings as part of their research. We show that adjusted earnings definitions of Moody’s analysts are significantly lower than those of equity analysts when companies exhibit higher downside risk, as measured by volatility in idiosyncratic stock returns, volatility in negative market returns, poor earnings, and loss status. Relative to the adjusted earnings definitions of equity analysts, adjusted earnings definitions of Moody’s analysts better predict future bankruptcies, yet they fare significantly worse in predicting future earnings and operating cash flows. These findings persist after controlling for optimism incentives of analysts, reporting incentives of companies, credit rating levels, and industry and year effects. Our findings suggest that credit rating agencies cater to their clients’ demand for a more conservative interpretation of company-reported performance than what is offered by equity analysts.

Keywords: Credit rating agencies, analysts, street earnings, conservatism

JEL Classification: G24

Suggested Citation

Batta, George E. and Muslu, Volkan, Credit Rating Agency and Equity Analysts' Adjustments to GAAP Earnings (February 18, 2016). Contemporary Accounting Research, Forthcoming. Available at SSRN: https://ssrn.com/abstract=1756945 or http://dx.doi.org/10.2139/ssrn.1756945

George E. Batta (Contact Author)

Claremont McKenna College - Robert Day School of Economics and Finance ( email )

500 E. Ninth Street
Claremont, CA 91711
United States

Volkan Muslu

C.T. Bauer College of Business University of Houston ( email )

4750 Calhoun Road
Houston, TX 77204
United States
713 7434924 (Phone)

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