ORGANIZACIÓN DE INSPECCIÓN

Extant research in accounting and finance has empirically demonstrated that market participants value analysts’ consensus EPS forecasts as an important indicator of firm performance. Firms that fail to achieve analysts’ EPS targets are punished through

8 _{In untabulated analyses I look at whether these results are robust to various controls for corporate}

governance quality. In three separate models I control for the size of the board of directors, the percentage of independent directors, and the percentage of institutional ownership. Results remain unchanged.

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negative stock price reactions, bad publicity, and a reassessment of firm-specific risk levels, whereas firms that meet these targets enjoy higher returns. There is no evidence, however, on whether market participants value the targets presented by CEOs’ AIPs in a similar manner. Prior studies have been able to show that the market reacts positively to the adoption of both short-term and long-term compensation arrangements, however to my knowledge no research has examined whether the market reaction surrounding earnings announcement is impacted by executives’ successes or failures in meeting the goals outlined by their AIPs. Furthermore, the question of whether market participants value analysts’ EPS forecasts more than AIP targets, or vice versa, still remains unanswered.

Performance metrics that constitute AIPs are selected by compensation

committees in order to increase shareholder wealth by motivating executives to improve short-term performance (Murphy, 1999). Furthermore, according to Demski and Feltham (1979), performance-based compensation arrangements are considered to be too risky for less successful individuals, and are used as a method of screening for high quality executives. Therefore, meeting AIP targets could be seen by market participants as being beneficial to shareholder wealth, and might be viewed as a signal of executive

competence.

Bennett et al. (2017) study the relation between compensation goals and firm performance and provide evidence that the probability of forced CEO turnover more than doubles if the executive has missed an accounting-based performance metric in the prior year. Research has demonstrated that forced CEO turnover can have detrimental

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TABLE 11

OLS Analyses of the Cumulative Abnormal Reaction Surrounding Earnings Announcements - Combinations of Meeting or Missing the Analysts' EPS Target

and Annual Incentive Plan Targets

Variable Estimate (p-value)

INTERCEPT 0.146*** (0.010) MB 0.465*** (0.000) GTE 50 PCT BONUS 0.029 (0.570) MB x GTE 50 PCT BONUS -0.017 (0.754) LT 50 PCT BONUS -0.072 (0.516) MB x LT 50 PCT BONUS 0.092 (0.469)

ANALYST FORECAST ERROR 0.072*** (0.006)

BOOK TO MARKET 0.040* (0.066)

MOMENTUM -0.034** (0.035)

PERSISTENCE 0.023 (0.135)

SIZE -0.043*** (0.001)

Industry Dummies YES

Year Dummies YES

Observations 6,688

R2 _0.069

Notes: Table 11 presents the results of estimating a modified version of Equation (2) and compares the cumulative abnormal reaction surrounding earnings announcements across firms that have

combinations of meeting or missing the analysts' EPS target and meeting or missing the annual incentive plan targets.

effects on firm investing and financial reporting decisions (Elliot and Shaw, 1988; Moore, 1973; Pourciau, 1993; Strong and Meyer, 1987; Weisbach, 1995). Therefore, missed AIP targets could send a negative signal to market participants regarding CEO and firm performance.

As there are tangible consequences to both meeting and missing the targets presented by the CEO’s AIP, it may be the case that AIP targets are as influential in market participants’ decision making processes as analysts’ EPS forecasts. I examine

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this issue in Table 11, which presents the results of estimating a modified version of Equation (2) and compares the cumulative abnormal reaction surrounding the earnings announcements (ANNCAR) of firms that have combinations of meeting or missing the analysts’ EPS target and meeting or missing the CEO’s AIP targets.

The variables of interest are indicator variables that track whether the firm has met the analysts’ earnings forecast at fiscal year-end (i.e. MB), and whether the CEO has received a bonus that is greater than or equal to 50 percent of the contractually promised target amount, or less than 50 percent of the contractually promised target amount at fiscal year-end (i.e. GTE 50 PCT BONUS and LT 50 PCT BONUS).9 _{The coefficient on}

MB is positive and significant, which is consistent with prior research that demonstrates market participants rewarding firms that achieve analysts’ earnings targets. The

coefficients on the main effects of the GTE 50 PCT BONUS and LT 50 PCT BONUS variables, as well as the coefficients on the interactions between MB and these variables are not statistically significant. This result is of interest because it indicates that meeting or missing the targets outlined by AIPs does not incrementally influence the market’s valuation decision. The results presented in Table 11 indicate that the analysts’ consensus EPS forecast is a much more significant indicator of firm performance for market participants. Even though the targets that make up the CEO’s AIPs might be chosen by the compensation committee in order to maximize shareholder value, this

9 _{In untabulated analyses I change the cut-offs for bonus payouts. I rerun these empirical analyses with}

controls to track whether greater than or equal to 75 percent, or less than or equal to 25 percent of the contractually promised bonus amount was paid out to the CEO. I rerun these analyses once more with controls to track whether greater than or equal to 90 percent, or less than or equal to 10 percent of the contractually promised bonus amount was paid out to the CEO. Results remain unchanged.

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analysis shows that the analysts’ EPS target takes precedence for the market, as it is factored into market participants’ decision making processes.