The Quality of Management Forecasts of Capital Expenditures and Store Openings in MD&A

Abstract

We study the quality of retailers’ forecasts of planned capital expenditure and store openings provided in Management’s Discussion and Analysis (MD&A). These are important examples of forward-looking information included in MD&A. To examine the quality of these forecasts, we evaluate whether they possess five desirable attributes of management forecasts, namely, unbiasedness, efficiency, high explanatory power, incremental informativeness, and sufficient-statistic efficiency (meaning that the forecasts incorporate all available information). We find no evidence of bias in the forecasts. We find that the forecasts have high explanatory power and substantial incremental informativeness relative to historical information. In our in-sample tests, we find evidence of inefficiency and sufficient-statistic inefficiency, but our out-of-sample tests find no significant evidence of either, which suggests that it is difficult to improve on these management forecasts. Overall, the evidence indicates that the forecasts are of high quality. These findings contribute to our understanding of the general quality of MD&A information and our results help explain findings that MD&A disclosures are associated with future accounting results and reduced cost of capital.