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Does the Stock Market See a Zero or Small Positive Earnings Surprise as a Red Flag?

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  • EDMUND KEUNG
  • ZHI-XING LIN
  • MICHAEL SHIH

Abstract

ABSTRACT This study shows that firms collectively incur a cost for managing earnings and analyst expectations to meet earnings forecasts. We compare the coefficient in the regression of abnormal stock returns on earnings surprise (the earnings response coefficient [ERC]) across ranges of earnings surprises. The ERC for earnings surprises in the range [0, 1¢] is significantly lower than ERCs for earnings surprises in adjacent ranges for firm-quarters in the early and mid 2000s, but not for those in the 1990s. The results are robust to controlling for the sign of estimated discretionary accruals and the trajectory of analyst earnings forecasts. We further find that investors are right to be skeptical about earnings surprises in the range [0, 1¢]. The relation of future earnings surprise with current earnings surprise is more negative for current earnings surprises in that range than for those in any other range. Evidence also suggests analysts react negatively to earnings surprises in that range. Copyright (c), University of Chicago on behalf of the Accounting Research Center, 2009.

Suggested Citation

  • Edmund Keung & Zhi-Xing Lin & Michael Shih, 2010. "Does the Stock Market See a Zero or Small Positive Earnings Surprise as a Red Flag?," Journal of Accounting Research, Wiley Blackwell, vol. 48(1), pages 91-121, March.
  • Handle: RePEc:bla:joares:v:48:y:2010:i:1:p:91-121
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    Cited by:

    1. repec:eee:advacc:v:31:y:2015:i:1:p:42-54 is not listed on IDEAS
    2. Minnick, Kristina, 2011. "The role of corporate governance in the write-off decision," Review of Financial Economics, Elsevier, vol. 20(4), pages 130-145.
    3. repec:taf:oabmxx:v:4:y:2017:i:1:p:1290331 is not listed on IDEAS
    4. Sanjay W. Bissessur & David Veenman, 2016. "Analyst information precision and small earnings surprises," Review of Accounting Studies, Springer, vol. 21(4), pages 1327-1360, December.
    5. repec:spr:reaccs:v:23:y:2018:i:2:d:10.1007_s11142-018-9442-6 is not listed on IDEAS
    6. Vincent Chen & Samuel Tiras, 2015. "‘Other information’ as an explanatory factor for the opposite market reactions to earnings surprises," Review of Quantitative Finance and Accounting, Springer, vol. 45(4), pages 757-784, November.
    7. repec:eee:advacc:v:41:y:2018:i:c:p:25-45 is not listed on IDEAS
    8. Lawrence Brown & Kelly Huang & Arianna Pinello, 2013. "To beat or not to beat? The importance of analysts’ cash flow forecasts," Review of Quantitative Finance and Accounting, Springer, vol. 41(4), pages 723-752, November.

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