Annual Report Readability, Earnings, and Stock Returns

This paper examines the relationship between annual report readability and firm performance. This is motivated by the Securities and Exchange Commission’s plain English disclosure regulations that attempt to make corporate disclosures easier to read for ordinary investors. I measure the readability of public company annual reports using the Fog Index and the Kincaid Index from computational linguistics. I find that the annual reports of firms with lower earnings are harder to read. Moreover, the positive earnings of firms with annual reports that are easier to read are more persistent in the next one to four years. This suggests that, consistent with the motivation behind the plain English disclosure regulation of the Securities and Exchange Commission, managers may be opportunistically choosing the readability of annual reports to hide adverse information from investors. However, I do not find any correlation between annual report readability and future stock returns, suggesting that the market does impound the implications of disclosure readability into stock prices.http://deepblue.lib.umich.edu/bitstream/2027.42/39149/1/1028.pdfhttp://deepblue.lib.umich.edu/bitstream/2027.42/39149/4/1028-Li.pd