The Credibility of Management Forecasts of Annual Earnings

Abstract

In this study we investigate the credibility of unverified management annual earnings forecasts gathered from the 1986 to 1992 editions of the Wall Street Journal. Three hypotheses are examined. The first and second hypotheses concern the asymmetry of information between the firm's management and investors. This asymmetry affects the stock market reaction. Evidence supports the conclusion that less asymmetry implies less new information associated with the management forecast disclosure. The asymmetry is greater for bad news disclosures than it is for good news disclosures. Furthermore, the release of bad news forecasts results in a greater resolution of the asymmetry than does the release of good news forecasts. The third hypothesis concerns the ability of the investor to attribute credibility. Results indicate that more credible information is provided when the management forecast disclosure is released into more concentrated industries. In particular, the release of good news by firms in more concentrated industries results in larger mean market price reactions. This effect is not evident in the bad news sample.