Analysts' selective coverage and subsequent performance of newly public firms

This study examines the ability of financial analysts to forecast future firm performance, based on their selective coverage of newly public firms. We hypothesize that the decision by analysts to provide coverage contains information about their true underlying expectation of the future prospects of firms. We extract this underlying expectation, which is otherwise unobservable, by obtaining residual analyst coverage from a model of initial analyst following for newly public firms. Our results demonstrate that in the three years subsequent to initial coverage, IPOs with high residual coverage have significantly better return and operating performance than those with low residual coverage. This evidence is consistent with analysts’ having superior predictive abilities and selectively providing coverage for firms about which their true expectations are favorable