This paper compares the information investors have about a firm's future earnings, as reflected in its stock price, to that of the firm's management, as reflected in its management earnings forecast. Stock returns in the preforecast and forecast announcement period are positively associated with management earnings forecast errors, indicating that stock prices contain information beyond that reflected in management forecasts. This phenomenon can occur if management does not issue its true forecast or if investors have information about earnings that management does not have. The first hypothesis, that management forecasts do not fully reflect management's information, implies that forecasts will be biased in a directional or nondirectional manner. This study conducts tests for directional bias and develops and conducts a test for nondirectional bias, using a sample of management forecasts occurring in years 1979-1983. The hypothesis that management forecasts are biased is only rejected for forecasts made in 1982. Given the magnitude of economic changes occurring in 1982, post-forecast information may well have been negative, causing the average forecast error in 1982 to differ from zero. In the other years studied, the hypothesis that management forecasts are biased is not rejected. The data, thus, suggest that stock prices reflect information beyond that in management earnings forecasts because investors access some information that managers do not.

This paper examines whether firms manipulating their reported financial results make suboptimal investment decisions. We examine fixed asset investments for a large sample of public companies during the 1978–2002 period and document that firms that manipulate their earnings—firms investigated by the SEC for accounting irregularities, firms sued by their shareholders for improper accounting, and firms that restated financial statements—over-invest substantially during the misreporting period. Furthermore, following the misreporting period, these firms no longer over-invest, consistent with corrected information leading to more efficient investment levels. We find similar patterns for firms with high discretionary revenues or accruals. Our findings suggest that earnings management, which is largely viewed as targeting parties external to the firm, can also influence internal decisions.

Focuses on the relationship between firms' tendencies to access capital markets and to disclose earnings forecasts. Disclosure tendencies of companies with external financing; Relation between management forecasts and analysts' expectations.

We develop and estimate a two-sided matching model of auditors and clients. We find evidence that auditors and clients engage in matching based on their preferences on both observable and unobservable characteristics. This matching appears to partly explain the “Big 4 effect” on audit outcomes: after controlling for the effects of matching, we find that the positive influence of having a Big 4 auditor on serious restatements and serious comment letter conversations with the SEC either weakens or disappears. Collectively, our results highlight the importance of accounting for two-sided matching between auditors and clients in understanding the influence of auditors on clients’ financial reporting practices.