Thursday, December 11, 2008

Why I Hate Earnings Guidance

I was driving down to New Orleans earlier this week for an Energy conference when it occurred to me that I have a real hatred of earnings guidance and all its permutations.

The desire by management to meet earnings guidance encourages them to do stupid things like managing the company for short term rather than long term goals. One can even make the case that management obsession with hitting earnings guidance was the precursor to many illegal acts at public companies including Enron and Worldcom. I recently read a book about the scandal at Equity Funding back in the 1970's. The architects of that scandal were also obsessed with not disappointing the street, and eventually ended up creating fictitious insurance policies on on its books.

It seems that one of the original purposes of providing earnings guidance was to reduce stock price volatility. Analysts where given ranges were earnings were likely to be so they could put then in their models and reports. Can any one truly say that providing earnings guidance reduces stock price volatility in the market today? How many stocks have you seen in your investment portfolio go down 40% after missing earnings by a penny?

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