The complexity of readability : the effect of industry complexity on annual report readability

We challenge the empirical relationship between annual report readability and subsequent stock return volatility, used to validate readability measures’ ability to reflect the effective communication of valuation-relevant information. We establish that vocabulary most indicative of higher and lower readability scores are words specific to selected industries, and that both readability measures and stock return volatility hold strong time trends. When controlling for the unobserved time-varying heterogeneity across industries we find that both the magnitude and the statistical significance of the association between readability and volatility mitigates. Overall, the results support the notion that this association reflects the underlying complexity of the firm’s business rather than the effective communication of valuation-relevant information