Week 5 Presentation

1. Week 5 Presentation Journals on Communication Issues of Annual Report Group Members: Li Cheuk Fung, Henry 50191072 Lo Michael Chitung 50190512 Mak Chi Keung, Mike 50193890

2. Agenda • 3 Journals • Readability • Importance & factors affecting • 3 formulas & apply to HK cases • Graphical Communication • Advantages and disadvantages • Research findings • Information Redundancy • Definition & result analysis • Applications to HK

3. Readability Why so important??

4. Because… • Annual report is used to deliver information for users to make decisions. • Effective communication is needed. • Otherwise, investor resource misallocation

5. Factors affecting readability • Content • Format • Organization • Style • Incorporated into readability formulas

6. Indices of readability difficulty • Word Length • Related to readers’ speed of recognition • Sentence Length • Related to readers’ memory span(i.e. words recalled) • ∴ Sentence complexity leads to difficulty

7. Formulas (Measurement of Readability) • Flesch (1974) Reading Ease • Gunning (1968) Fog Index • Lix Measure

8. Flesch (1974) Reading Ease

9. Gunning (1968) Fog Index

10. Lix Measure

11. Apply formulas in HK reports??

12. Sample • Randomly selected 32 HK public co.s • Equally divided industrial-based & property/construction-based categories (2 dominant categories) for yr 1986 & 1991 • Randomly selected 3 100-word passages of chairmen’s addresses and footnotes to the a/c section

13. 2 main things to be considered • Effective communication is occurring?? • Any relationship between companies’ nature, size & profitability and readability levels

14. 4 hypotheses to be set up • H1: Annual report readability improved between 1986 & 1991 • H2: The level of readability is similar for industrial & property/construction- based sets of companies

15. 4 hypotheses to be set up • H3: Annual reports of large companies are easier to read than small companies’ (based on market value) • H4: Annual reports of more profitable companies are easier to read than less profitable companies’ (based on return on investment)

16. H1: Improved in 1986 & 1991??

17. Analysis for H1 • H1 is rejected • No statistically significant improvement • Difficult for fluent comprehension by 90% of the adult population • English-based narratives have not enough improved clarity for Asian audience.

18. H2: Similar readability in diff. Co.s??

19. Analysis for H2 • H2 is accepted • Failed to show significance difference • Diff. nature of business has no bearing on level of readability

20. H3 & H4

21. Analysis for H3 & H4 • It seems that:1. Large, profitable companies → more resources on annual report → better readability 2. Lix measure: Readability is better for large companies

22. Analysis for H3 & H4 • Neither H3 & H4 can be accepted • Sample size is too small (just 16 highest profitable companies & 16 lowest profitable companies) • No further comparison is made • No apparent relationship exists between size or profitability and enhanced readability

23. Conclusions & Implications • Based on 3 formulas, HK annual report is classified as very difficult-to-read literature • 10% of adult population in HK (commensurate educational levels) can get fluent comprehension of the messages in report

24. Remedies • Preparers should be aware of the problem and try to improve readability levels • Examples: 1. Employees & investors give comments on the drafts of reports (not feasible) 2. Shorter sentences, shorter & simple words. 3. Attention to layout and format to enhance readers’ interest

25. Corporate Annual Report Graphical Communication in Hong KongEffective or Misleading?

26. Background • Forms of Communication are required to be effective and efficient • Especially in the Business World • ∴ Chart graphics are used increasingly in • Annual report • 35% of listed co. using graph in 1994-1995 in Hong Kong

27. Functions of chart graphics • Communicating relevant and useful informationeffectively and efficiently • Relevant and useful info: • Data (Revenue, Net Assets) • Relationships (EPS, Dividend per share) • Effective and efficient: • Facilitate understanding • Attract and hold attention • Save time • Break down language barriers

28. Normative Advantages ( reviewed by Mr. Courtis) Get better understanding Focus on one issue at a time Better memory Effective and Efficient Communication Highlight trends and classify relationships Summarizing effects

29. Examples of graph presentation(Example 1) • Comments: • Order of time series is reversed • Missing zero baseline • Trendy visual effect is created by using 3-dimensional inverted triangle • Missing axes

30. Examples of graph presentation(Example 2) • Comments: • Data markers do not start at zero baseline • Scales of y-axis above and below the zero baseline are different • Negative data markers obscure and presented as positive • Absence of data value

31. Examples of graph presentation(Example 2)

32. Limitations of Graphs • Loss of details • Misleading information • Useless and irrelevant information • Obscure insight of financial data

33. Conclusions of some surveys in US • “graphical information systematically portray a more favourable information than the underlying one” (Steinbart, 1989;Beattie & Jones, 1992) • “graphical aids do not make any significant difference to a user’s decision making ability…”(Brown, 1992)

34. How about those annual reports in Hong Kong?

35. Findings of Mr. Courtis’s survey • 38% (1992) and 35% (1995) of annual reports includes chart graphics. • Lower than UK and US (about 80%) Reason: • Every public company in HK has a dominant family influencing its • Shareholdings • Control of Board of Director

36. Findings of Mr. Courtis’s survey • More public companies use graphics to present • Sales revenue or turnover • The profit result • Earning per shares • Dividend per shares 1992-93 : 35% 1994-95 : 70.9%

37. Findings of Mr. Courtis’s survey • 26% of annual reports include misleading graphics • 52% of graphics are misleading • Misleading graphics: unable to • Use proper scales & single zero baseline • Use clear negative no. • Use creative visual effects cautiously • Choose the number of years and number of sectors carefully • Move time series chart from left to right

38. Findings of Mr. Courtis’s survey • Financial information is misrepresented across almost all industries Implication: • lack of formal guidance • by professional accounting or management organizations

39. Conclusion • About half of the graphs were classified as misleading • May be the result of ignorance and carefulness • Lack of guidance • There is No Evidence: • Inclusion of graphics makes real difference to readers • Whether readers recognize the weaknesses of graphics • Whether readers are misled

40. Information A Strategies to improve performance Objectives of expansion plans Attributes to profit changes Reasons affecting the operating results Information B Future debt interest payments Breakdown of debts Breakdown of earnings Number of shareholders for the past years Inside Annual Report

41. What are their difference ? • Information A • Frequently redound • Information B • Rarely redound

42. Pros and Cons of disclosure redundancy • Pros: • Redundancy of information enhance understandability • Help to avoid missing key information • Cons: • Information overload • Diversion reader’s focus to unimportant matter

43. Research Background • Checklist of 91 items in annual report • Applied to annual reports published in 1993 • Randomly sampled 145 listed companies • Excluded banking and property companies

44. Major Definitions • Redundancy • Repetition of an item of voluntary information and makes no distinction between diagnostic and redundant environments Data added not increase incremental predictive ability since it already presented elsewhere Data added with incremental predictive ability

45. Research Result Analysis • Total redundancy 390 times • 4.28 items per company with redundant items • 2.68 items per total company • Only 25% companies redundancy over 4 items • Redundant items concentrate on certain items

46. Research Result Analysis • Following companies tend to have higher disclosure redundancy: • Larger in size • Higher in profitability • Lower in risk

47. Research conclusion • Redundant voluntary disclosures not reached levels that either • Systematically reinforce on important matters • Overloads users with too much information • Agency theory may apply to companies with higher disclosure redundancy

48. Further analysis Whether the researchresult still apply today !

49. Reasons for changes in finance charges Operating summaries or costs for the past years Reasons affecting the operating results Information about the market conditions & economy of the company’s major export country Customer service Top 10 redundant items

50. Attributes to profit changes Sales and marketing network Plant development plan Improvements to facilities Strategies to improve performance Top 10 redundant items