Does Earnings Guidance Contribute to Investor Short-Termism?

• In Event: Disclosure and Investors

Abstract

This study examines whether earnings guidance contributes to investor short-termism – excessive focus on a firm’s short term performance and insufficient consideration of its long-term value creation potential. Using an adaptation of Ohlson’s (1995) valuation model, I find that investors place significantly higher (lower) weight on short-term (long-term) earnings of quarterly guidance firms than on the corresponding earnings of non-guidance firms. Further tests indicate that the differential weighting cannot be fully explained by measurement errors, earnings properties, risk, or accuracy of analysts’ forecasts. For a sample of guidance initiating firms, I find no differential valuations of firm value components before the initiation of guidance, but large differential valuations after guidance initiation. In contrast, for guidance discontinuation firms, I find that investors shift their focus from short-term to long-term earnings after the discontinuation of guidance. Together, the results support critics’ claim that quarterly guidance contributes to short-term fixation in the market.

Author

• Brent (YiYi) Lao, Florida International University