Seemingly opportunistic management earnings guidance before stock option grants: does it misrepresent firms' underlying performance?

The exercise price of stock options is typically the closing stock price on the option grant dates, so managers can potentially benefit from low stock prices on those dates. Prior studies find that on average, managers issue more pessimistic guidance before than after grant dates. They interpret this asymmetric pattern as representing managers' opportunistic behavior. Nevertheless, it is not clear whether this pattern reflects managers' selective timing of bad news disclosures or a deliberate misrepresentation of underlying firm performance. This paper extends the literature by examining the effects of managerial stock option incentives on the accuracy and the information content of firms' voluntary earnings guidance. We find that pre-grant guidance significantly improves existing consensus earnings forecasts, and is similar in bias and accuracy to post-grant guidance. Moreover, investors and analysts react similarly to pre-grant vs. post-grant guidance, suggesting that the main consumers of earnings guidance view these two types of guidance to be equally informative. Our results are consistent with the notion that managers may opportunistically select the type or the timing of disclosures, but when they opt to disclose, they do not misrepresent the underlying firm performance. On the contrary, the seemingly opportunistic guidance before option grants improves overall firms' information environment, because it is at least as truthful and informative as post-grant guidance, and is issued more frequently than by managers who do not have incentives to report bad news before earnings announcements.