Publication Type
Working Paper
Version
submittedVersion
Publication Date
9-2012
Abstract
Conservatism in earnings does not have a direct impact on the present value of future cash flows. This paper examines whether financial analysts correctly undo the effect of accounting conservatism incorporated in their own earnings forecasts in arriving at their target price forecasts. Based on prior findings, we consider alternative valuation models/heuristics that may be used by analysts to estimate target prices, e.g. the forward P/E and the PEG ratio. Our evidence suggests that analysts fail to fully undo the effect of accounting conservatism embedded in their forecasts of earnings and earnings growth when estimating their target price forecasts. More sophisticated analysts undo the effect of conservatism to a greater extent than other analysts, although their target price forecasts also exhibit conservatism-induced bias. In contrast, the market on average appears to correctly unravel the conservatism in future earnings when pricing securities. However, for extreme levels of conservatism, our evidence suggests that the under/over-statement of target prices leads to a distortion of market prices.
Discipline
Accounting | Portfolio and Security Analysis
Research Areas
Financial Performance Analysis
First Page
1
Last Page
48
Citation
KIM, Jae Bum; Nekrasov, Alexander; Shroff, Pervin; and Simon, Andreas.
Do analysts understand the valuation implications of accounting conservatism when forecasting target prices?. (2012). 1-48.
Available at: https://ink.library.smu.edu.sg/soa_research/902
Copyright Owner and License
Authors
Creative Commons License
This work is licensed under a Creative Commons Attribution-NonCommercial-No Derivative Works 4.0 International License.