Annual earnings guidance and the smoothing of analysts’ multi-period forecasts

Co-authored with Joshua Ronen, Ron Shalev, and Michael (Minye) Tang. Journal of Accounting, Auditing & Finance 37 (4): 874–901

This article examines the use of annual earnings guidance as a mechanism used by managers to reduce the volatility of analyst earnings forecasts and allow them to report smooth earnings without missing quarterly analyst forecasts. Facing the pressure to meet or beat analyst forecasts and driven by the perceived capital market benefits of reporting a smooth earnings path, managers attempting to influence investors’ earnings expectations over a longer horizon can issue annual guidance to smooth the time-series path of analyst forecasts, a strategy we term as “expectation smoothing.” Our empirical results suggest that annual guidance reduces the volatility of analysts’ multi-period forecasts, which in turn contributes to a smoother actual earnings and higher likelihood of meeting analysts’ quarterly forecasts. We also find that issuing quarterly guidance does not affect the smoothness of analysts’ earnings expectations and that managers with longer horizons are more likely to issue annual guidance, consistent with the unique long-term effects of annual earnings guidance.

Estimating the influence of U.S. ethanol policy on plant investment decisions: A real options analysis with two stochastic variables

Co-authored with Todd M. Schmit and Jon M. Conrad. Energy Economics 33 (6): 1194–1205.

U.S. ethanol policies have contributed to changes in the levels and the volatilities of revenues and costs facing ethanol firms. The implications of these policies for optimal investment behavior are investigated through an extension of the real options framework that allows for the consideration of volatility in both revenue and cost components, as well as the correlation between them. The effects of policy affecting plant revenues dominate the effects of those policies affecting production costs. In the absence of these policies, much of the recent expansionary periods would have not existed and market conditions in the late-1990s would have led to some plant closures. We also show that, regardless of plant size, U.S. ethanol policy has narrowed the distance between the optimal entry and exit curves, implying a more narrow range of inactivity and indicative of a more volatile evolution for the industry than would have existed otherwise.

Ethanol plant investment using net present value and real options analyses

Co-authored with Todd M. Schmit and Loren W. Tauer. Biomass and Bioenergy 33 (10): 442–1451.

A real options analysis of entry–exit decisions for dry-grind corn ethanol plants is conducted to incorporate the impact of rising volatility in market prices. For a large plant, the estimated gross margins (ethanol price less corn price), in current dollars, that induce entry and exit were 0.35 US$ dm⁻³ and 0.03 US$ dm⁻³, respectively; nearly 207% (63%) above (below) their respective net present value estimates. Under baseline conditions, a large operating plant would become mothballed at 0.05 US$ dm⁻³ and reactivate if margins rebounded to 0.17 US$ dm⁻³. Growth in the variability of ethanol margins will lead to delays in new plant investments, as well as exits of currently operating facilities. To the extent that alternative renewable fuel technologies become viable, the model can be easily adapted to estimate and compare the results across alternative bioenergy investments.