The Credibility of Management Earnings Forecasts for Firms that Meet or Beat Analysts’ Forecast Benchmarks

Based on Graham et al.’s (2005) survey, CFOs believe financial performance impacts the credibility of their forecasts. We examine this link by testing whether management earnings forecasts (MEFs) of firms meeting/beating analysts’ forecast benchmarks exhibit greater credibility than MEFs of firms missing these benchmarks, based on the informativeness of forecast news. We find for meet/beat firms, the association of forecast news with cumulative abnormal returns is stronger than for miss firms, thus providing evidence of the credibility meeting/beating forecasts provides, but the difference diminishes when firms narrowly beat their benchmarks. Finally, we test whether meet/beat firms use the increased credibility to provide credible guidance about future performance, finding that the association of forecast news with forecast errors is smaller for meet/beat firms than for miss firms, which supports the beliefs of the CFOs surveyed in Graham et al. (2005) that meeting/beating AF benchmarks increases the credibility of their forecasts