Analysts' Compensation Contracts and Information Revelation

This paper considers the information content of stock reports when an investment bank offers her affiliated analyst a compensation contract that may induce him to misrepresent his stock report under uncertainty in investment banking opportunities. Our results suggest that the information content of the analyst's stock report strongly depends on whether or not investment banking opportunities are known to investors. If there is no uncertainty in such opportunities, the truthful revelation of information is always an optimal strategy. On the other hand, if there is uncertainty in investment banking opportunities and if their realization is unknown to investors when the analyst issues his stock report, the truthful revelation of information is an optimal strategy only in their absence. In the presence of investment banking opportunities, the analyst with an unfavorable signal tends to issue a more favorable report with greater frequency than a less favorable report although the analyst with a favorable signal issues a truthful report. Our results also show that the truthful revelation of information is more likely to be achieved if the investment bank needs to offer the analyst an incentive compensation contract in order to induce him to issue a profitable reporting for her than if she can directly control the analyst's report while maintaining the other constraints