Chapter 11 Bankruptcy Impact on Earnings Forecasts

Abstract

 Studies in the area of management forecasts contain a common characteristic: they assess voluntary earnings disclosures during normal operating periods, when the incentive structure is generally routine and on-going.  This research tests whether voluntary earnings disclosures released during Chapter 11 protection are significantly different from those forecasts released after emergence from Chapter 11 protection. From a biased perspective, results indicate that managers exert greater upward earnings management on the forecast during Chapter 11 protection periods. From an information content perspective, results indicate the presence of information content during both of these periods.  When firms are engaged in Chapter 11 protection, the information content is significantly negative indicating that investors have a tendency to discount the forecast.  After emergence from Chapter 11, the information content is significantly positive, indicating that investors have a tendency to not discount the forecast.                With the number of bankruptcies steadily rising today, these findings have practical implications for not only users of forecast information, but also for the managers generating the forecasts.