Measuring Readability in Financial Disclosures

Tim Loughran B · Bill McDonald

1,452 citations0/0 files storedThe Journal of Finance

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Auditing, Earnings Management, Governance Text Readability and Simplification Financial Reporting and XBRL

Abstract

ABSTRACT Defining and measuring readability in the context of financial disclosures becomes important with the increasing use of textual analysis and the Securities and Exchange Commission's plain English initiative. We propose defining readability as the effective communication of valuation‐relevant information. The Fog Index—the most commonly applied readability measure—is shown to be poorly specified in financial applications. Of Fog's two components, one is misspecified and the other is difficult to measure. We report that 10‐K document file size provides a simple readability proxy that outperforms the Fog Index, does not require document parsing, facilitates replication, and is correlated with alternative readability constructs.

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References

2011When Is a Liability Not a Liability? Textual Analysis, Dictionaries, and 10‐Ks 2009How does financial reporting quality relate to investment efficiency?2001Disappearing dividends: changing firm characteristics or lower propensity to pay?2008Annual report readability, current earnings, and earnings persistence 1968The Technique of Clear Writing.

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