Management Earnings Guidance as a Commitment Device

Abstract

This paper examines whether issuing management earnings guidance motivates a firm to raise its level of performance. The failure of management to attain a forecast may reflect poorly on its industry understanding, knowledge of the firm, and management capability. Accordingly, we hypothesize and find that management, having issued guidance, are motivated to hone the firm’s production function to raise firm performance. We find that firms alter their operating activities to increase performance rather than manipulating their accruals. The enhancement in firm performance from using managerial earnings guidance as a commitment device is accomplished by reductions in operating leverage and is strongest among firms issuing moderately aggressive forecasts. Inconsistent with concerns that forecasting causes myopia, performance improvements persist for several years.