Of Fogs and Bogs: Why do companies make reports less readable?

We analyze why firms might make financial reports less readable. We argue that firms reduce report readability to mitigate litigation risk. Consistent with this, we hypothesize and find that firms reduce report readability when litigation risk is high. Management exposure to securities class action lawsuits (SCAs) either at the current firm or at another firm is associated with worse readability. We use an SEC rule change to show that making reports less readable is an effective way to reduce litigation risk. We also find that firms improve readability when there is an exogenous shock to information asymmetry. Overall, our results suggest that firms respond to changes in the external environment by increasing or decreasing transparency as the circumstances warrant.

Associate Professor Mark Humphery-Jenner

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