The nexus between product market competition and the quality of analysts’ forecasts: empirical evidence from Chinese-listed firms
| DOI | https://doi.org/10.1108/JABS-02-2018-0035 |
| Pages | 15-30 |
| Date | 21 January 2020 |
| Published date | 21 January 2020 |
| Author | Amjad Iqbal,Khalil Jebran,Muhammad Umar |
| Subject Matter | International business,Strategy |
The nexus between product market
competition and the quality of analysts’
forecasts: empirical evidence from
Chinese-listed firms
Amjad Iqbal, Khalil Jebran and Muhammad Umar
Abstract
Purpose –This study aimsto explore the relationship between productmarket competition (competition
hereafter)and the quality of analysts’ forecasts.
Design/methodology/approach –This study uses industry-level (i.e. Herfindahl–Hirschman index), as
well as firm-level (i.e. Lerner index)measures of competition and uses forecast accuracy and forecasts
dispersion as proxies for analysts’ forecast quality. Further, this study considers a sample of Chinese-
listed manufacturing companies for the period spanning 2005 to 2016 and uses various estimation
techniquesto empirically test the hypothesized relationship.
Findings –The results show that firms in highly competitive industries are characterized by greater
accuracy and smaller dispersion in forecasts. Further, this positive association is more pronounced in
SOEs as compared to NSOEs, and in industries characterized by intense competition. The sensitivity
analysisfurther endorses the main results.
Practical implications –Presenting theoretical and empirical evidence, this study suggests that
regulatory bodies should take steps to promote the competitive environment in China. This can help
financial analysts in developing more accurate and reliable forecasts and ultimately can bring
informationalefficiency to the market. Finally, investorswould be able to perform their business valuation
processin a better way and make economic-useful decisionsregarding their capital resourceallocation.
Originality/value –The contribution of the current research is threefold: first, it adds to the limited
literatureavailable on this specific topic; second, this study examinesthe issue in China and further single
out the influence of state-ownershipand intensity of competition on the relationbetween competition and
forecast properties; and third, this study provides theoretical arguments for the positive association
between competition and forecasts quality while setting directions for future researchon the topic and
suggests the potential channels such as the reporting quality channel and the information disclosure
channel that need to be explored further, to better understand the mechanism where competition
influencesthe quality of analysts’ forecasts.
Keywords China, Product market competition, Forecast accuracy, Analyst following,
Forecast dispersion
Paper type Research paper
1. Introduction
Extant literature identifies product market competition (competition hereafter) as a key
factor in explaining firms’ information uncertainty and earnings volatility (Gaspar and Massa,
2006;Hou and Robinson, 2006;Peress, 2010;Valta, 2012). Similarly, numerous theoretical
and empirical papers investigate the notion that how competition affects a firm’s disclosure
activities and shape a firm’s information environment (Bamber and Cheon, 1998;Botosan
and Stanford, 2005;Cheng et al.,2013;Harris, 1998;Markarian and Santalo, 2014;
Amjad Iqbal is a
Postdoctoral fellow at the
School of Management,
Fudan University,
Shanghai, China.
Khalil Jebran is a Doctoral
Student, at the School of
Accounting, Dongbei
University of Finance and
Economics, Dalian, China.
Muhammad Umar is based
at the School of Foreign
Languages, East China
Jiaotong University
Nanchang, Jiangxi, China.
Received 8 February 2018
Revised 1 December 2018
1 May 2019
Accepted 27 August 2019
DOI 10.1108/JABS-02-2018-0035 VOL. 14 NO. 1 2020, pp. 15-30, ©Emerald Publishing Limited, ISSN 1558-7894 jJOURNAL OF ASIA BUSINESS STUDIES jPAGE 15
Verrecchia, 1983;Verrecchia and Weber, 2006). Further, financial analysts develop their
forecasts on the basis of these corporate disclosures and earnings reports. Given the
above cited theoretical and empirical research, evidencing the impact of competition for a
company’s disclosure practices and profit volatility, we intuit that competition may affectthe
analysts’ forecast quality. In an attempt to explore this link, Ali et al. (2014) find that
companies in high concentrated setups are characterized by a low frequency of
management forecasts, shorter horizons, poor disclosure ratings by financial analysts and
greater errors and higher dispersion in forecasts. On the contrary, Datta et al. (2011) and
Haw et al. (2015) show that firms operating in concentrated industries are characterized by
fewer forecast errors, greater analyst coverage, and lower forecast dispersion. Given the
lack of empirical research and mixed findingsof these empirical studies, the nexus between
competition and the quality of analysts’forecast is still an open question.
This study attempts to further investigate this unresolved issue in the emerging market of
China. Prior studies in this area as cited earlier are mostly conducted in the developed
markets. Given the differences in the product market structure, business environments and
legal institutions of a developed economy and those of the emerging markets of a
transitional economy, the results in the earlier may not be easily generalizable to the later.
We consider the case of China for two reasons. First, given the important role of transitional
economies such as China, Brazil, India, etc. in the world economy, China being the largest,
makes it compelling to investigate and understand how competition influences the quality of
analysts’ forecasts in China. Second, the Chinese economy, which initially was a state
monopoly, has rapidly developed into an economy with the intense market competition
since the beginning of the 1978’s economic reforms. This unique and rapid transition
occurred in China in the past three decades, which may take centuries in other countries,
and thus, exhibits a huge variation in the level of competition. These unique features make
China a more suitable context to explorethe association between competition and analysts’
forecast quality.
Literature related to competition and analysts’ forecasting presents two contradictory lines
of arguments. On the one hand, companies in concentrated industries possess market
power, are capable of securing huge profit margins, exhibit lower uncertainty in their
earnings and future performance (Shepherd, 1972;Strickland and Weiss, 1976;Eaton and
Lipsey, 1981;Cheng, 2005;Hou and Robinson, 2006;Irvine and Pontiff, 2009) and enjoy
larger trading volumes (Peress, 2010). Accordingly, such firms are more predictable and
enable analysts to do more accurate forecasting, while offering them greater incentives for
their forecasting efforts and bringing information to the current, as well as prospective
stockholders (O’Brien and Bhushan, 1990;Barth et al., 2001). Further on, financial analysts
exhibit greater consensus in their forecasts for firms associated with lower earnings
uncertainty (Barron et al., 1998). On the other hand, companies in competitive industries
show greater information uncertainty (Hou and Robinson, 2006;Nickell, 1996), and hence,
are less predictable. However, there may be greater demand from investors for private
information about these less predictable firms, and may also offer greater profits to financial
analysts for their investment recommendations. The argument is that in such situations,
where information complexity is higher and earnings are less predictable, financial analysts
while considering greater profits may exert more efforts to obtain private information and
produce more quality earnings forecasts (Das et al.,1998;O’Brien and Bhushan, 1990).
Another convincing argument is that companies in concentrated industries release less
information as compared to their counterparts in the competitive industries (Gal-Or, 1985).
Furthermore, competition discourages financial misreporting and improves earnings quality
(Cheng et al., 2013) by mitigating both real and accrual earnings management (Laksmana
and Yang, 2014).
This research uses the Herfindahl index and the Lerner index as proxies for competition,
while uses forecast accuracy and forecasts dispersion as proxies for analysts’ forecast
PAGE 16 jJOURNAL OF ASIA BUSINESS STUDIES jVOL. 14 NO. 1 2020
To continue reading
Request your trial