IMPACT OF CORPORATE REPORT READABILITY AND INSTITUTIONAL SHAREHOLDER OVERSIGHT ON EARNINGS MANAGEMENT

Abstract

This paper examines the impact of 10-K report readability on the relationship between institutional shareholder oversight and earnings management. Leveraging the U.S. Plain Writing Act (PWA) of October 2010 as an exogenous source of 10-K readability, we investigate whether financial information disclosure leads to better performance in earnings management for institutional blockholders. These findings suggest that the improvement in the readability of 10-K reports has a significant impact on institutional investor oversight of earnings management practices. Our results indicate that the relationship between the monitoring activities of institutional investors and earnings management is significantly strengthened when submitting a comprehensible report with the 10-K standard. Furthermore, the enhancement in readability’s influence on the efficacy of institutional monitoring became increasingly evident following the implementations. This outcome supports the hypothesis that enhanced readability provides firms with superior information, thereby facilitating more effective oversight by institutional investors. This study contributes to the literature on improving the efficiency of institutional monitoring and confirms the importance of financial reporting readability in reducing asymmetric information and agency costs. Finally, the results enhance the corporate discourse of financial information, making it more readable, which can improve corporate governance by effectively empowering institutional investors. These have some practical implications for firms, regulators, and other stakeholders, aiming to enhance corporate accountability by improving the communication of financial information.