Financial reporting of good news and bad news: evidence from accounting narratives

Abstract

Accounting narratives are an increasingly important medium of financial communication. In particular, they play a crucial role in the corporate annual report, allowing company management to present annual performance to users in a readily accessible manner. Research suggests that such narratives are widely used and considered important in the investment decisions of private and institutional investors. However, accounting narratives are unaudited and thus may be subject to impression management. This paper focuses on the chairman's narratives of the top 50 and bottom 50 listed UK companies ranked by percentage change in profit before taxation. The research examines whether companies with improving and declining performance report good and bad news in different ways. The findings suggest that both groups of companies prefer to emphasise the positive aspects of their performance. In addition, both groups prefer to take credit for good news themselves, while blaming the external environment for bad news. Thus, despite reporting on markedly different financial performance, management approach it in the same self-serving way. The results of this and previous research have important policy implications for financial reporting. The current auditing regulations could usefully be extended so that the narratives are more rigorously reviewed.