Week 5 PresentationJournals on Communication Issues

of Annual Report

Li Cheuk Fung, Henry 50191072Li Cheuk Fung, Henry 50191072

Lo Michael Chitung 50190512Lo Michael Chitung 50190512

Mak Chi Keung, Mike 50193890Mak Chi Keung, Mike 50193890

Group Members:

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

Readability

Why so important??

Because…

Annual report is used to deliver information for users to make decisions.

Effective communication is needed.

Otherwise, investor resource misallocation

Factors affecting readability

Content Format Organization Style

Incorporated into readability formulas

Indices of readability difficulty

Word LengthRelated to readers’ speed of recognition

Sentence LengthRelated to readers’ memory span

(i.e. words recalled) ∴ Sentence complexity leads to difficulty

Formulas (Measurement of Readability) Flesch (1974) Reading Ease

Gunning (1968) Fog Index

Lix Measure

Reading ease rating

Description of style

Educational attainment level

Typical style of magazine

0-30 Very difficult Postgraduate degree

Scientific

30-50 Difficult Undergraduate degree

Academic

50-60 Fairly difficult Grades 10-12 Quality

60-70 Standard Grade 8-9 Digests

70-80 Fairly easy Grade 7 Slick fiction

80-90 Easy Grade 6 Pulp fiction

90-100 Very easy Grade 5 Comics

Flesch (1974) Reading Ease

Gunning (1968) Fog Index

Category Fog Index

Technical books 19.5

Scientific literature 17.0

Newspaper 13.7

Instruction manuals 12.6

General circulation magazines 9.7

Youth magazines 8.6

Lix Measure

Text difficulty Lix score

Very Easy 20-25

Easy 30-35

Medium 40-45

Difficult 50-55

Very Difficult 60 +

Apply formulas in HK reports??

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

2 main things to be considered

Effective communication is occurring??

Any relationship between companies’ nature, size & profitability and readability levels

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

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)

H1: Improved in 1986 & 1991??

Flesch Fog Lix

1986 1991 1986 1991 1986 1991

Chairmen’s address

38.35

36.85

18.46

19.21

54.78

57.68

Footnotes 30.72

27.72

19.99

20.67

58.32

60.07

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.

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

Flesch Fog Lix

Construction

39.1 N/A N/A

Industry 34.6 N/A N/A

Analysis for H2

H2 is accepted

Failed to show significance difference

Diff. nature of business has no bearing on level of readability

H3 & H4Lix

1986 1991

Cheung Kong (Holdings) Ltd

55.33 53.00

Hopewell Holdings Ltd 57.67 56.67

Hong Kong Land Holdings Ltd

68.33 55.33

Sun Hung Kai Properties Ltd

52.00 51.33

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

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

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

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

Corporate Annual Report Graphical Communication in Hong Kong

Effective or Misleading?

Background

Forms of Communication are required to be effective and efficientEspecially in the Business World

∴ Chart graphics are used increasingly in Annual report

35% of listed co. using graph in 1994-1995 in Hong Kong

Functions of chart graphics

Communicating relevant and useful information effectively and efficiently

Relevant and useful info:

•Data (Revenue, Net Assets)

•Relationships (EPS, Dividend per share)

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

Effective and efficient:

•Facilitate understanding

•Attract and hold attention

•Save time

•Break down language barriers

Normative Advantages ( reviewed by Mr. Courtis)

Focus on one issue at a timeFocus on one issue at a time

Get better understandingGet better understanding

Summarizing effects

Summarizing effects

Better memory Better memory

Highlight trends and classify relationships

Highlight trends and classify relationships

Effective and Efficient

Communication

Examples of graph presentation(Example 1)

Comments:1. Order of time series is

reversed

2. Missing zero baseline

3. Trendy visual effect is created by using 3-dimensional inverted triangle

4. Missing axes

Examples of graph presentation(Example 2)

Comments:1. Data markers do not start

at zero baseline

2. Scales of y-axis above and below the zero baseline are different

3. Negative data markers obscure and presented as positive

4. Absence of data value

Examples of graph presentation(Example 2)

Limitations of Graphs

Loss of details Misleading information Useless and irrelevant information Obscure insight of financial data

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)

How about those annual reports in Hong Kong?

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

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%

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

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

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

Inside Annual ReportInformation 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

What are their difference ?

Information AFrequently redound

Information BRarely redound

Pros and Cons of disclosure redundancy Pros:

Redundancy of information enhance understandability

Help to avoid missing key information Cons:

Information overloadDiversion reader’s focus to unimportant matter

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

Major Definitions

Redundancy Repetition of an item of voluntary information and

makes no distinction between diagnostic and redundant environments

Data added with incremental predictive ability

Data added with incremental predictive ability

Data added not increase incremental predictive ability since it already presented elsewhere

Data added not increase incremental predictive ability since it already presented elsewhere

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

Research Result Analysis

Following companies tend to have higher disclosure redundancy:Larger in sizeHigher in profitabilityLower in risk

Research conclusion

Redundant voluntary disclosures not reached levels that eitherSystematically reinforce on important

mattersOverloads users with too much information

Agency theory may apply to companies with higher disclosure redundancy

Further analysis

Whether the research result still apply today !

Top 10 redundant items 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 Attributes to profit changes

Sales and marketing network

Plant development plan

Improvements to facilities

Strategies to improve performance

Conclusion

Readability is the first step of analyzing annual report

Only readable, then understandable Graphical presentation improve readability,

but may be misleading and redundant Users should be careful and aware of this

problem