Abstract:

Despite weaker earnings quality, enforcement, and institutional settings in developing countries, we find that earnings forecast accuracy is higher in developing than in developed countries. This presents a puzzling phenomenon, and we offer the ‘numbers game’ (managers gain by minimizing unfavorable surprises, while analysts gain by accessing private information) as a compelling explanation. We advance the prior literature on the ‘numbers game’ that has generally been limited to the stronger institutional setting of the United States, by exploring whether the ‘numbers game’ differs in weaker institutional settings. We find evidence of more accruals management, forecast walkdowns, and meeting or beating of earnings targets in developing countries. Together, this evidence suggests that in weaker institutional and regulatory settings, the ‘numbers game’ is played more aggressively likely due to lower costs in the form of prosecution threats and penalties to the participants, and that explains the higher analysts’ accuracy in developing countries. However, we predict and find that if the nexus involving trading favors between managers and analysts risk getting exposed (for financially stressed firms), these differences do not persist. As in such cases, the costs involved in continuing the game generally outweigh the benefits. Thus, in developing countries, there are limits to analysts’ and managers’ willingness to play the ‘numbers game.’

Please choose your submission type: Full Paper

Primary Track: Financial Management

Keywords: Corporate Finance ;Financial Strategy

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Dr. Fernando Galdi