The Stock Price Effects from Downward Earnings Guidance Versus Beating Analysts' Forecasts : Which Effect Dominates?

This paper provides evidence on the net stock price effects associated with managers following a disclosure strategy of guiding earnings down to a level where they can report a positive earnings surprise. Prior literature documents a stock price premium when firms meet or beat analysts' forecasts. However, studies also show a substantial negative price response to downward earnings guidance that can potentially negate any benefit from reporting a positive earnings surprise. We find that the negative stock price effect for firms that release downward earnings guidance is substantially larger than the stock price premium from meeting analysts' forecasts. Further, this downward guidance stock price penalty persists after explicitly controlling for other news that might be disclosed by managers that voluntarily provide guidance. These findings challenge conclusions made in some prior research that the optimal disclosure strategy is to ensure a positive earnings surprise at the earnings announcement date