The Real Effects of Managerial Narratives: Evidence from a Quarter-Billion Words (original) (raw)
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SSRN Electronic Journal, 2012
This paper develops a theory of information disclosure with disagreement, and then examines its implications for financial and non-financial firms. Managers of firms are voluntarily communicating objective and subjective information, and prior beliefs about the strategy to maximize project value are rational but heterogeneous, creating the possibility of fundamental disagreement. Four main sets of results are derived. First, not all firms disclose (subjective) information about strategy that can potentially increase disagreement with investors. Second, more valuable firms voluntarily disclose less information in equilibrium. Third, information disclosure has real consequences because it interacts with investor relations and corporate governance. Banks optimally disclose less strategic information than non-financial firms, and mandatory information disclosure may make banks more fragile, which exposes a potential tension between information transparency and greater fragility in banking. Improvements in corporate governance will lead banks to voluntarily disclose less strategic information and become less fragile. 1 INFORMATION DISCLOSURE AND FUNDAMENTAL DISAGREEMENT: IMPLICATIONS FOR FINANCIAL AND NON-FINANCIAL FIRMS "For as the interposition of a rivulet, however small, will occasion the line of the phalanx to fluctuate, so any trifling disagreement will be the cause of seditions." Aristotle in Aristotle's Politics: A Treatise on Government 1. INTRODUCTION Firms − both financial and non-financial− frequently voluntarily disclose information about their strategies. These disclosures are sometimes in the narrative section of the company's annual report and sometimes in communications with the press or analysts 1. Such information is inherently qualitative and subjective in nature, and therefore associated with multiple interpretations related to whether these strategies are best for the firm (see, for example, Santema, Hoekert, van de Rijt and Van Oijen (2005)). For example, whereas most western companies see emerging markets as a major component of their growth strategy, Maas (2008) reports Lars Sorensen, CEO of Denmark's pharmaceutical firm Novo Nordisk, as expressing disagreement that this was best for his firm. He communicated his company's growth strategy as being focused on developed markets: "… going to see our main growth in the U.K., in the U.S., central Europe and Australia, as these countries use considerable resources to deal with inflammatory diseases". There is also considerable heterogeneity in the amount of such disclosure (see Broberg, Tagesson and Collin (2009), and Santema, Hoekert, van de Rijt and van Oijen (2005)). Why do companies sometimes voluntarily choose to disclose subjective information about strategy and sometimes prefer not to? This is the first question studied in this paper. The focus is on information that is subject to multiple interpretations and hence potentially generates disagreement even 1 There is substantial in communication between the CEO and analysts that occurs outside of the written communication in the Annual Report. In the Annual Report, this communication typically appears in Section 7 (Management's Discussion and Analysis of Financial Conditions and Results of Operations) and in Section 7a (Quantitative and Qualitative Disclosures about Market Risk). See Kogan, Routledge, Sagi and Smith (2009) for empirical evidence that such disclosures are informative for predicting the firm's future stock return volatility.
2000
Despite the importance of profit forecasts to investors, little attention has been given so far to their publication, presentation and content. The object of the paper is two-fold: • Firstly, the paper examines disclosures in profit forecasts and in takeover documents from the perspective of rhetoric and argument to show how managements use accounting information to defend their own position and rebut the arguments of the other side. Persuasion in forecasts, and the verbal jousting and argument between bidder and target managements during contested bids, is considered. • Secondly, the paper reproduces and discusses examples concerning disclosures in profit forecasts and in takeover documents. This is intended as useful precedent material for practitioners involved in preparing profit forecasts. This paper reviews financial reporting in profit forecasts, based on a systematic analysis of the disclosure practices in 250 profit forecasts disclosed during 701 public company takeover bids in the UK in the 5 year period 1988 to 1992. There were 74 examples selected from the 250 forecasts to illustrate particular practices which are commented on and discussed in the text. The examples shown do not necessarily illustrate best practice. It is intended that they highlight the wide variety of disclosure-related issues to be taken into consideration in preparing a forecast for publication. It is hoped these examples will act as useful precedent material to be consulted by practitioners involved in preparing profit forecasts for publication in the future. In selecting material to reproduce, there was particular emphasis on disclosures used by management for rhetorical purposes – to persuade shareholders or to attack the other side in the bid. The research showed that there was some evidence of strategic information disclosures by management both in the accounting practices employed in preparing forecasts, in the variability of levels of disclosure and the choice of wording used in some disclosures. In particular, the choice of disclosure practices by management may be used to provide protection if the forecast is not subsequently achieved, thus serving management’s own self-interest. The following recommendations are made to improve reporting practices: • Specification of minimum levels of disclosure in forecasts would reduce the flexibility in reporting practices which would result in greater consistency between companies in forecast items disclosed. • The role of the reporting accountants and financial advisors should be expanded to require them to consider and report on the objectivity and consistency of disclosures in takeover documents.
Managing Investors' Perception Through Strategic Word Choices in Financial Narratives
Journal of Corporate Accounting & Finance, 2015
he financial statement reporting process includes the dissemination of both requisite (i.e., financial statement footnotes) and discretionary (i.e., press releases with management forecasts, the President's Letter, and Managements' Discussion and Analysis [MD&A]) narrative disclosures to interested parties (e.g., investors and regulators). While the requisite narrative disclosures are mostly canned and the word choice is standardized by industry, the content of the discretionary narrative disclosures is at the "discretion" of management. These narratives are not subject to independent third-party assurance (i.e., auditing), thus providing an opportunity for managers to
Corporate Investments: Learning from Restatements
This study analyzes the information conveyed by the restatements of financial reports. We argue that restatements contain news about the investment projects of the restating firms' competitors. This news causes competitors to revise their beliefs about the projects' value, and to modify their subsequent investment decisions. Accordingly, we hypothesize that changes in competitors' investments after restatement announcements are related to news in the restatements. Consistent with our prediction, we find that changes in competitors' investments following restatement announcements are significantly related to various proxies for news in the restatements, such as competitors' and restating firms' abnormal returns at the restatement announcements. We conclude that restatements convey information about the investment projects of restating firms' competitors. * McGill University; †Concordia University. We are grateful for helpful comments and suggestions from an anonymous referee, Douglas J. Skinner (editor),
Journal of Accounting Literature, 2007
The purpose of this paper is to review and synthesize the literature on discretionary narrative disclosures. We explore why, how, and whether preparers of corporate narrative reports use discretionary disclosures in corporate narrative documents and why, how, and whether users react thereto. To facilitate the review, we provide three taxonomies based on: the motivation for discretionary narrative disclosures (opportunistic behavior, i.e. impression management, versus provision of useful incremental information); the research perspective (preparer versus user); and seven discretionary disclosure strategies. We also examine the whole range of theoretical frameworks utilized by prior research, and we put forward some suggestions for future research.
Earnings-Announcement Narrative and Investor Judgment
Accounting Horizons, 2018
SYNOPSISThis study examines how emphasis framing in narrative disclosures, and the investor characteristics of numeracy and persuadability, affect investors' ability to discriminate between firms' better and worse financial performance. In an experiment with 264 participants from the general population, we manipulate emphasis framing in earnings announcement narratives as neutral, consistent, or inconsistent with the firm's performance. We find that investors are better able to distinguish between good and poor firm performance when the accompanying disclosure emphasizes information that is consistent with the firm's performance. Further, persuadability reduces, but numeracy increases, investors' ability to distinguish between good and poor performance. However, our results also indicate that the inclusion of biased numerical information in narrative disclosures may have a greater negative effect on higher numerates than on lower numerates, consistent with theory...
Neutrality of narrative discussion in annual reports of UK listed companies
Journal of Applied Accounting Research, 2004
This paper reports the results of an investigation into the neutrality of the narrative discussion of financial performance and position, as evidenced in 179 annual reports of UK listed companies. Neutrality of narrative discussion was determined by comparing the average proportions of good and bad news contained in the narrative and statutory accounts sections of the annual reports. The results of a comparison of the proportion of good news in the two sections of the annual reports suggest that the narrative sections contained a significantly higher proportion of good news than the statutory accounts sections. Comparison of proportions of bad news, however, indicates that the narrative sections contained a significantly lower proportion of bad news compared to the statutory accounts sections. Finally, the results also suggest that the proportion of good news as compared to bad news in the narrative sections is significantly higher than the proportion of good news compared to bad news in the statutory accounts section. The results are consistent with the suggestion that company management highlights good news in narrative discussions. The implications of the findings for company management, users, auditors and regulators are discussed. 2
The Real Effects of Disclosure Tone: Evidence from Restatements
SSRN Electronic Journal, 2011
This study analyzes whether the tone of financial disclosures affects corporate investments, using texts released by firms that publicly announce restatements of their financial reports. We argue that the tone of restatement texts provides news about restating firms' private information regarding unknown future investment payoffs. We find that restatement tone carries news, because it affects restating firms' and their competitors' abnormal returns at restatement announcements, and changes their information asymmetry. Moreover, we document that news in the restatement tone matters for corporate investments, since it is related to subsequent changes in restating firms' and their competitors' investments. * We are grateful for helpful comments and suggestions by Liz Demers, Philip Joos, and Carel van Wijk. All errors are our own.
Qualitative Company Factors in Capital Market Communications
How a company is perceived on financial markets substantially affects its value as well as its capacity to raise much needed resources. Past research, however, has largely neglected the factors and mechanisms that affect the judgement of financial analysts, institutional investors and business journalists: In the following research paper, we argue that capital market participants are faced with the challenge of estimating the uncertain future prospects of a company. In these estimations, the financial community is forced to rely on a less comprehensive informational base than that available to the company itself. Capital market participants enhance their judgements and evaluations of companies by taking non-financial factors into account. Such factors offer information on key company features that will affect or even determine its future development. Furthermore, based on non-financial as well as financial corporate factors, the financial community develops collective judgements abo...