Why do firms forecast earnings for multiple years simultaneously?

Abstract

By issuing earnings forecasts for both current and future years simultaneously, managers provide the multi-year data required for many valuation models and help investors sort out transitory and permanent shocks. We find that firms that are overpriced and have more transitory earnings tend to issue multi-year forecasts simultaneously. Overpriced firms are more likely to issue both short- and long-term bad news than only short-term bad news forecasts. Mispricing tends to be corrected after firms' multi-year forecasts, especially when overpriced firms issue both long- and short-term bad news forecasts. We also find a more linear current period earnings—return relation when firms issue multi-year forecasts, which suggests that investors underreact less to extreme news because the future year forecasts embed earnings persistence information.