A new CEO does not merely take over an office. The arrival can change a company's priorities, decision-making style and appetite for risk. Financial analysts therefore have plenty of work to do: They must learn how the new leader thinks and reconsider what the company might do next.
But attention is limited. When analysts spend more time studying one company, the quality of their work elsewhere may suffer.
New research from Cornell University shows how this trade-off plays out. When a company changes its CEO, analysts become less accurate at forecasting the performance of other companies they follow. The effect is not simply the result of distraction. It reflects a calculated decision about where their time and effort will be most valuable.
A demanding change at the top
Financial analysts often cover several companies at once. Their forecasts depend on more than numbers in a spreadsheet. Analysts also need to understand a company's goals, policies and everyday approach to decisions that affect its finances.
That understanding becomes less reliable when a new CEO arrives. Even a planned and orderly handover may bring a different management style. Analysts must rebuild relationships, assess possible strategic changes and reconsider the company's future earnings and risks.
Researchers examined 876,385 financial forecasts to see what happened during these transitions. They found that forecasts for companies without a CEO change became 1.15% less accurate when another company in the analyst's portfolio was going through one.
The difference may sound small, but the researchers estimate that it is comparable to losing the benefit of four years of forecasting experience.
Attention follows opportunity
Why do analysts allow their other forecasts to weaken? The study points to "rational inattention" — the idea that people consciously direct their limited mental resources toward whatever appears most important or rewarding.
A CEO transition can have major consequences, so giving it additional attention makes sense. Yet the researchers found that analysts did not distribute this attention evenly. They were especially likely to prioritize larger companies, which tend to attract more investors and offer greater professional rewards.
Smaller companies absorbed most of the resulting cost. Among companies below the middle of the sample by market value, forecast inaccuracy rose by 1.75%. For larger companies, however, the researchers found no significant decline.
The same pattern appeared among both junior and senior analysts. That matters because it suggests the problem is not simply inexperience. Analysts at different career stages appear to make similar choices because they face similar incentives.
The person behind the forecast
Financial forecasts are often treated as if they emerge directly from company reports and market data. In reality, information must pass through people — and people have limited time.
An analyst may make a sensible decision by concentrating on a major company undergoing leadership change. Collectively, however, many such decisions can leave smaller companies with less accurate coverage.
The study does not suggest that analysts can eliminate these trade-offs. Instead, it offers companies and investors a useful warning: A forecast reflects not only the available information, but also the attention of the person interpreting it. Sometimes a prediction becomes weaker not because the company has changed, but because something more rewarding happened elsewhere.