The authors are both from the Leavey School of Buisness, Santa Clara University, CA, USA. They gratefully acknowledge the helpful comments from an anonymous referee, Martin Walker (editor), David Burgstahler and participants at the 29th Annual Congress of the European Accounting Association and the 2008 American Accounting Association Western Regional and Annual Meetings for helpful comments on earlier drafts. Financial support was provided by the Accounting Development Fund at Santa Clara University.
Analyst vs. Market Forecasts of Earnings Management to Avoid Small Losses
Version of Record online: 30 MAY 2012
© 2012 Blackwell Publishing Ltd
Journal of Business Finance & Accounting
Volume 39, Issue 5-6, pages 649–674, June/July 2012
How to Cite
Eames, M. and Kim, Y. (2012), Analyst vs. Market Forecasts of Earnings Management to Avoid Small Losses. Journal of Business Finance & Accounting, 39: 649–674. doi: 10.1111/j.1468-5957.2012.02289.x
- Issue online: 3 JUL 2012
- Version of Record online: 30 MAY 2012
- (Paper received December 2008, revised version accepted February 2012)
- analyst forecasts;
- earnings management;
- market forecasts;
- small losses
Abstract: Burgstahler and Eames (2003) present evidence that analysts commonly anticipate earnings management to avoid small losses, but often incorrectly predict its occurrence. Here we consider whether the market's behavior mimics that of analysts. Our results suggest that analysts exhibit more forecast optimism in their zero earnings forecasts than in their other small earnings forecast levels, and markets exhibit less relative optimism at this point. At the 271–360 day forecast horizon, we find a reduction in the earnings response coefficient at analysts’ zero earnings forecasts and interpret this as reflecting less optimism in market earnings forecasts than in analyst forecasts when analysts forecast zero earnings. This evidence is consistent with the market not following analysts in erroneously predicting earnings management to avoid small losses. We do not find similar evidence for shorter forecast horizons, suggesting that market and analyst forecasts converge towards the end of the year. Finding differences in market and analyst earnings forecasts in this loss avoidance environment raises the possibility of differences in a variety of earnings management and other environments, and sends a general note of caution in using analyst forecasts issued early in the year to proxy market expectations.