So which group of outsiders exerts a more positive effect on the corporate finance function: Stock analysts or activist hedge funds?

One could argue that both groups ought to have the effect of holding financial executives' feet to the fire, demanding strong performance. But a recent paper by two University of Arizona management professors, noted by AllAboutAlpha.com, suggests that while activist hedge funds exert a generally salutary effect on CFO performance, stock analysts may have the opposite effect.

The study takes a look at discretionary accruals, that is, income-increasing or income-decreasing accrual decisions that are designed to manage quarterly earnings. This sort of earnings management--fudging?--is frowned on in many quarters  for obvious reasons. It turns out that activist hedge funds are associated with less of this sort of earnings management.

Why? The mechanism may be indirect and somewhat general. The authors theorize that activist investors tend to agitate for corporate governance enhancements and stronger director-level oversight, and that may have the effect of discouraging CFOs from engaging in earnings management via accruals. One could also argue that stock analysts are hyper-focused on quarterly results, and that encourages CFOs to manage earnings via accruals and other discretionary items.

This is worth additional study. But the conclusions are certainly something for hedge funds to crow about.

For more:
- here's the article

Related article:
As chief risk officers' stature rises, conflicts with CFOs loom