Earnings guidance: market pressure or corporate governance? Evidence from corporate innovation in China

Abstract

Purpose This study aims to investigate whether and how earnings guidance affects corporate innovation. Design/methodology/approach Exploiting the setting of China, where the Shenzhen Stock Exchange has required all public firms listed on its ChiNext board to issue earnings guidance since 2012, this study uses a difference-in-differences (DID) methodology to examine the effect of earnings guidance on corporate innovation and further conducts cross-sectional analyzes from the information risk and monitoring demand perspectives. Moreover, the authors conduct path analysis to verify the possible channels through which corporate innovation is impeded by market pressure or improved through increased corporate transparency. Findings This study documents a positive relationship between earnings guidance and corporate innovation, as measured by the number of invention patents, indicating that the “corporate governance” hypothesis dominates in China. Cross-sectional analyzes show that this positive effect is more pronounced for firms subject to greater information risk and monitoring demand. Finally, the path analysis further confirms that earnings guidance improves innovation by increasing corporate transparency. Practical implications First, this study captures the bright side of mandatory earnings guidance and suggests that increasing the disclosure frequency can yield benefits for firms. Second, the findings imply that regulations, regardless of what they refer to, should be based on a country’s specific context. Originality/value First, this study provides evidence supporting the “corporate governance” argument based on the context of China and, thus contributes to the debate on earnings guidance. Second, this study enriches the literature on the economic consequences of earnings guidance. Third, the study extends research on the determinants of corporate innovation.