Long-term Earnings Growth Forecasts Research Articles

Analyst Conflicts and Research Quality

This paper examines whether the quality of stock analysts’ forecasts is related to conflicts of interest from their employers’ investment banking (IB) and brokerage businesses. We consider four aspects of forecast quality: accuracy, bias, and revision frequency of quarterly earnings per share (EPS) forecasts and relative optimism in long-term earnings growth (LTG) forecasts. Using a unique dataset that contains the annual revenue breakdown of analysts’ employers among IB, brokerage, and other businesses, we uncover two main findings. First, accuracy and bias in quarterly EPS forecasts appear to be unrelated to conflict magnitudes, after controlling for forecast age, firm resources and analyst characteristics. Second, relative optimism in LTG forecasts and the revision frequency of quarterly EPS forecasts are positively related to the importance of brokerage business to analysts’ employers. Additional tests suggest that the frequency of quarterly forecast revisions is positively related to analysts’ trade generation incentives. Our findings suggest that reputation concerns keep analysts honest with respect to short-term earnings forecasts but not long-term growth forecasts. In addition, conflicts from brokerage appear to play a more important role in shaping analysts’ forecasting behavior than has been previously recognized.

Do Analysts at Independent Research Firms Make Better Earnings Forecasts?

This study compares the earnings forecasts of analysts employed by independent research firms to those of analysts employed by investment banks along the dimensions of accuracy and optimism. We discuss the conflicts of interest faced by both groups and suggest that, despite incentives stemming from corporate financing operations, investment bank analysts may nevertheless provide superior forecasts. We provide evidence on this empirical question using a sample of analyst forecasts from 1998-2001. Our results reveal that short-term forecasts made by investment bank analysts are on average more accurate and less optimistic than those from analysts employed by independent research firms. Our results are robust to controlling for several relevant factors identified in prior research and are consistent across both annual and quarterly earnings forecasts. We also examine the optimism in long-term earnings growth forecasts and fail to find a significant difference between the two groups.

Analyst Following and Equity Offerings Subsequent to Initial Public Offerings

Analyst forecast information is collected for firms following their IPOs and is used in an examination of subsequent seasoned equity offerings (SEOs). Consistent with information asymmetry arguments, the analysis indicates that a larger percentage of firms conducting SEOs within three years of the IPO are covered by financial analysts than those without SEOs, and that analyst coverage is a significant predictor of subsequent SEOs. In addition, the results indicate that long-term earnings growth forecasts are larger for firms with subsequent SEOs, but growth forecasts decline significantly following the SEOs. Further, SEO abnormal returns exhibit a significant negative relationship with earnings growth forecasts. These results are consistent with “windows of opportunity” arguments since they suggest that SEOs are “timed” to coincide with the peak of earnings growth expectations, but that market participants compensate by reacting more negatively to offerings by firms with high growth forecasts.

The Relation between Analysts' Forecasts of Long‐Term Earnings Growth and Stock Price Performance Following Equity Offerings*

AbstractIn this paper we evaluate the role of sell‐side analysts' long‐term earnings growth forecasts in the pricing of common equity offerings. We find that, in general, sell‐side analysts' long‐term growth forecasts are systematically overly optimistic around equity offerings and that analysts employed by the lead managers of the offerings make the most optimistic growth forecasts. In additional, we find a positive relation between the fees paid to the affiliated analysts' employers and the level of the affiliated analysts' growth forecasts. We also document that the post‐offering underperformance is most pronounced for firms with the highest growth forecasts made by affiliated analysts. Finally, we demonstrate that the post‐offering underperformance disappears once we control for the overoptimism in earnings growth expectations. Thus, the evidence presented in this paper is consistent with the “equity issue puzzle” arising from overly optimistic earnings growth expectations held at the time of the offerings.

The Relation between Analysts' Forecasts of Long-Term Earnings Growth and Stock Price Performance Following Equity Offerings

We evaluate the role of sell-side analysts' long-term earnings growth forecasts in the pricing of common equity offerings. We find that, in general, sell-side analysts' long-term growth forecasts are systematically overly optimistic around equity offerings and that analysts employed by the lead managers of the offerings make the most optimistic growth forecasts. Additionally, we find a positive relation between the fees paid to the affiliated analysts' employers and the level of the affiliated analysts' growth forecasts. We also document that the post-offering under performance is most pronounced for firms with the highest growth forecasts made by affiliated analysts. Finally, we demonstrate that the post-offering under performance disappears once we control for the over optimism in earnings growth expectations. Thus, the evidence presented in this paper is consistent with the 'equity issue puzzle' arising from overly optimistic earnings growth expectations held at the time of the offerings.