An Empirical Analysis of the Issue and Accuracy of Management Earnings Forecasts in IPO Prospectuses

Abstract

Information disclosure plays an important role in the well functioning of capital markets. While our understanding of the minimum disclosure required by regulation is good, our knowledge about the voluntary disclosure of information in excess of the minimum requirement is quite limited. The objective of this paper is to provide one more piece of evidence on the voluntary disclosure of earnings forecasts in IPO prospectuses by considering a small but homogeneous market in North America: the Canadian province of Qu?bec, where the inclusion of earnings forecasts in prospectus is voluntary. We propose an empirical analysis that focuses on firm specific characteristics known at the time of the IPO, and takes into account the endogeneity of the forecast decision and precision. Our results indicate that riskier and high growth firms are less likely to issue a management forecast in the prospectus. We also find that the firm's capacity to issue a forecast is negatively related to the precision of the forecast as proxied by ex-post forecast error. This error is also affected by firm's risk, by the forecast horizon and is reduced for older firms. Firms that appear to take good care at building their forecast, judging by the number of assumptions, are also experiencing lower forecast error. We construct an ex-ante measure of forecast credibility that we estimate concurrently with the impact of forecast on underpricing. Our results show that the issue of a forecast reduces underpricing, however, this effect disappears when we control for the ex-ante credibility of the forecast.