Accepted by Steve Salterio. An earlier version of this paper was presented at the 2011 Contemporary Accounting Research Conference, generously supported by the Canadian Institute of Chartered Accountants. We appreciate Steve Salterio and two anonymous reviewers for their guidance. We also thank Ben Ayers, Brad Badertscher, Linda Bamber, Jeff Burks, John Campbell, Dan Givoly, Zhaoyang Gu, Jackie Hammersley, Carla Hayn, Leslie Hodder, Steve Kachelmeier, Bill Kinney, Stephannie Larocque, Reuven Lehavy, Chee Yeow Lim, Claudine Mangen (discussant at 2011 CAR conference), John McInnis, Rich Paterson (PwC), Santhosh Ramalingegowda, Rich Shepard (PwC), Tom Stober, Ram Venkataraman, brownbag participants at the University of Texas at Austin, workshop participants at the University of Georgia and the University of Notre Dame, and conference participants at the 2010 HKUST Accounting Research Symposium and the 2011 Contemporary Accounting Research Conference for helpful comments. Professor Call is grateful for research support provided by a Terry-Sanford Research Award.
Are Analysts' Cash Flow Forecasts Naïve Extensions of Their Own Earnings Forecasts?†
Version of Record online: 26 FEB 2013
© 2012 The Canadian Academic Accounting Association
Contemporary Accounting Research
Volume 30, Issue 2, pages 438–465, Summer 2013 (June)
How to Cite
Call, A. C., Chen, S. and Tong, Y. H. (2013), Are Analysts' Cash Flow Forecasts Naïve Extensions of Their Own Earnings Forecasts?. Contemporary Accounting Research, 30: 438–465. doi: 10.1111/j.1911-3846.2012.01184.x
- Issue online: 13 JUN 2013
- Version of Record online: 26 FEB 2013
- Accepted manuscript online: 6 JUN 2012 12:16PM EST
We examine the sophistication of analysts' cash flow forecasts to better understand what accrual adjustments, if any, analysts make when forecasting cash flows. As a preliminary step, we first demonstrate that prior empirical tests used to evaluate the sophistication of analysts' cash flow forecasts are not diagnostic. We then present three sets of evidence to triangulate our conclusion that analysts' cash flow forecasts incorporate meaningful accrual adjustments. First, we review a stratified random sample of 90 analyst reports and find that the majority of these analysts include explicit adjustments for working capital and other accruals in their cash flow forecasts. Second, using a large sample of analysts' cash flow forecasts from 1993–2008, we find that these forecasts outperform time-series cash flow forecasts in correctly predicting the sign and magnitude of accruals. Finally, we find a significant market reaction to analysts' cash flow forecast revisions, suggesting that investors find these revisions informative. Collectively, our findings demonstrate that analysts' cash flow forecasts are not simply naïve extensions of their own earnings forecasts, but that they reflect meaningful and useful accrual adjustments. These findings are relevant to researchers who examine analysts' cash flow forecasts in a variety of settings, and to investors and practitioners who employ these forecasts for valuation purposes.