The Credibility Consequences of Managers' Decisions to Provide Warnings About Unexpected Earnings

Abstract

This study provides a theoretical framework and experimental evidence on how managers' disclosure decisions affect their credibility with investors. Further, I examine whether investors' judgments of management credibility are based on different factors in the short- and longer-term. My results show that in the short-term, management disclosure decisions regarding negative news have larger effects on perceived management credibility than disclosure decisions regarding positive news. Specifically, managers who warn investors about unexpected negative news are rewarded with greater credibility increases than managers who warn about unexpected positive news, and managers who fail to warn about unexpected negative news are penalized with greater credibility decreases than managers who fail to warn about unexpected positive news. The results also show that these short-term credibility effects do not persist over time. In the longer-term, managers who report positive earnings news are rated as having higher credibility than managers who report negative earnings news, regardless of their disclosure decisions.