Analyst Monitoring of Opportunistic Firm Behavior

Abstract

Prior literature presents mixed evidence about analyst monitoring of opportunistic firm behavior. We find that analysts reduce annual earnings forecasts as well as target prices around earnings announcements of the first three quarters of the fiscal year as if they punish a firm’s accrual-based and real earnings management during the quarters. The forecast reductions are more pronounced when analysts have less conflicts of interest with the firm (i.e., when analysts are employed by smaller brokers and when they are less experienced) and when analysts are less influential and less accurate. We also find that the firm responds to analyst monitoring by reversing its opportunistic behavior during the subsequent quarter. The reversals are more pronounced when the firm relies more on analyst optimism (i.e., when the firm has a lower market capitalization, higher market-to-book ratio and greater use of external financing). Collectively, our findings shed light on the dynamics of analyst monitoring by documenting sequential actions of analysts and the firm after the firm’s opportunistic behavior.