Earnings Expectations and Employee Safety May Not Mix

The pressure to meet earnings expectations has grown intense for U.S. companies, and may be damaging the health and safety of workers. Missing analyst estimates, even by a small amount, can lead to significant negative reactions from investors. For example, eBay’s share price plunged 22 percent when it missed its fourth-quarter 2004 consensus estimate by just one penny. Facing such market pressures, managers may look for ways to improve their firm’s bottom line. They can create incentives for employees to become more productive, reduce discretionary expenditures, or seek ways to boost profits in the short term. These actions often come at a high cost, however. In a study forthcoming in the Journal of Accounting and Economics, we find that one such cost is that managers and employees pay insufficient attention to safety.

Our study examines firms that meet or just beat analyst expectations. Prior research has shown that such firms manage earnings more often than do firms that comfortably exceed expectations without engaging in any unusual financial behavior. We obtain injury data from the Occupational Safety and Health Administration (OSHA), which tracks relatively severe injuries that result in time away from the job or professional medical attention. We combine the OSHA data with companies’ financial data to examine the relation between injuries and earnings expectations.

We find that firms that meet or just beat expectations have a roughly 12 percent higher injury rate for employees than other firms do. To shed light on the reasons for the higher injuries, we examine company spending and worker output. We find that cuts to discretionary expenditures are associated with higher injuries in firms that meet or just beat expectations, which is consistent with conclusion that companies reduce safety-related expenditures such as oversight and training. We also find that higher employee output is associated with higher injuries in firms that meet or just beat expectations, which is consistent with the conclusion that employees work faster or for longer hours when companies are striving to meet earnings goals. A faster work pace can be associated with injuries because safety precautions take time, while longer hours can lead to injuries if they come at the expense of rest and recovery time.

We also identify three factors that affect the relation between injuries and meeting or just beating expectations. First, the relation is weaker in highly unionized industries, which relates to unions’ role in negotiating for and enforcing safety measures. Second, the relation is weaker in states where injuries translate into higher workers compensation costs. Third, the relation is weaker in firms with a large amount of government contracts, which relates to the common practice of governments restricting or even precluding contract bids from firms with poor safety records. These three settings each includes a consideration that makes the costs of injuries more salient to managers and workers, which makes it more difficult to lose sight of safety considerations when pursuing financial targets.

Our results are consistent with managers and employees overlooking safety when striving to meet financial performance goals. The costs of injuries tend to be opaque and indirect. For example, injuries may complicate efforts to recruit workers or lead to demands for higher pay, but with a time lag. Furthermore, the pressure of an impending earnings target may be more salient than a perceived remote likelihood of injury. As a result, safety concerns may be overlooked.

The consequences of safety lapses can be severe, particularly to the injured worker, and our study suggests that managers and workers can lose sight of that when focusing on meeting financial targets. Managers and workers may not be cognizant of how efforts to increase output can lead to injuries if not done carefully. A policy implication of our study is that managers and employees may need to be more aware of safety concerns while pursuing high financial performance. Another implication is that timely workplace safety disclosures could be informative about overall corporate culture and, specifically, a myopic focus on earnings targets that may be associated with other forms of earnings management.

This post comes to us from Professor Judson Caskey at the University of California at Los Angeles’ Anderson School of Management and Professor N. Bugra Ozel at the University of Texas at Dallas’ Jindal School of Management. It is based on their recent article, “Earnings Expectations and Employee Safety,” available here.