Earnings Management and Forecast Guidance as Mechanisms to Meet or Beat Analysts' Earnings Forecasts

Abstract

Firms can use both earnings management and forecast guidance to meet or beat analysts' earnings forecasts. I examine if earnings management and forecast guidance to meet or beat analysts' earnings forecasts are influenced by context-specific factors such as accounting flexibility and information asymmetry. I expect that firms with less accounting flexibility in the sense that they are more constrained to manage earnings are less likely to use earnings management as a mechanism to meet or beat analysts' earnings forecasts. Furthermore, I expect firms with greater information asymmetry are more likely to use forecast guidance to meet or beat analysts' earnings forecasts. I consider the gap between unmanaged earnings and unguided analysts' earnings forecasts as the information asymmetry between management and analysts. To test these predictions, I examine the likelihood of meeting or beating analysts' earnings forecasts for 36,366 firm-quarters during 1993-2002. Consistent with my expectations, I find when firms are constrained by their degree of accounting flexibility they use less of earnings management, and when firms have more information asymmetry they use more of forecast guidance to meet or beat analysts' earnings forecasts.